Full On Market Crash Scenario Just Ahead?
Have the Fed's market disruption tools finally broken down? Have they become impotent to control their own financial QE experimentations?
We’ve been here time and time again, the ten-year yield croses 4%, all hell breaks loose in the debt market, and from there it spreads as always to the stock market. Normally the central bankers get together unofficially and manufacture a non-market change of the market data, an alteration so that ten-year yield goes down without explanation but that is not happening right now. Without direct intervention from the Federal Reserve the markets will crumble. Have the Federal Reserve’s market alteration tools broken down? has it finally become impotent?
BlackRock one of the world's largest asset managers, issued warning that the US economy could stagnate for a year before inflation returns in 2024. They also warned that inflation could go on a "roller-coaster ride" as consumer spending patterns change due to supply-chain issues and pandemic-related disruptions. BlackRock's outlook is based on its analysis of various economic indicators, such as housing market activity, corporate investment plans, consumer savings rates, CEO confidence levels, and monetary policy actions.
What the Central Bankers (nor whales like Blackrock) won't tell you is that the US economy is way beyond a mere stagnation, the economy is in freefall. The US banking system has undergone a major change in recent years. In the past, banks were required to keep a certain percentage of their deposits as reserves, which meant they could only lend out a fraction of their money. This created new money in the economy, as the same deposit can be used multiple times by different banks which was called the fractional reserve system, and it was designed to prevent bank runs and ensure financial stability.
However, in 2020, the Federal Reserve announced that it would eliminate reserve requirements for all banks, effectively creating a zero-reserve system. This means that banks can now lend out all of their deposits without any restrictions, as long as they have enough capital to absorb potential losses. The zero-reserve system has several implications for the economy, such as increasing the money supply, lowering interest rates, and stimulating lending and spending. However, it also poses some risks, such as inflation, financial instability, and moral hazard.
One of these implications is the effect on inflation, which is the general increase in the prices of goods and services over time. In theory, if the money supply increases faster than the output of goods and services, then inflation will rise, as there will be more money chasing fewer goods. However, in practice, inflation is also influenced by other factors, such as consumer demand, expectations, and global markets. Another implication is the effect on the debt market, which is the market where borrowers and lenders exchange loans and bonds. The debt market is closely related to the money supply, as loans and bonds are forms of money that can be used for transactions and investments.
The elimination of the reserve requirement had meant that banks can create more loans and bonds without any constraint, which can increase the supply and lower the price of debt. This can make borrowing cheaper and easier for individuals, businesses, and governments, which can stimulate economic activity and growth. However, it can also create more risks and uncertainties for lenders and borrowers, as debt levels may become unsustainable and default rates may increase. Moreover, it can also affect the interest rates that the Federal Reserve sets to influence the money supply and inflation. If the Federal Reserve wants to tighten or loosen monetary policy, it may have to adjust its interest rates more drastically or frequently to counteract the effects of the unlimited lending by banks.
These methods can create more volatility and unpredictability in the debt market, which can affect the confidence and stability of investors and borrowers. A possible consequence of this scenario is the collapse of the debt market due to debt saturation. Which means that there is too much debt in the economy relative to the income and assets that can support it. Of course, if borrowers take on more debt than they can repay, (as people are paying for food with credit cards) or if lenders lose faith in their ability to recover their loans. Triggering a chain reaction of defaults, bankruptcies, foreclosures, and asset sales that can wipe out wealth and income for many people and businesses. It would also reduce the demand for goods and services, which can lead to deflation and recession. Which in turn can impair the functioning of the financial system, which can disrupt credit flows and liquidity for other sectors of the economy, creating a vicious downward spiral cycle of economic contraction and instability that can prove impossible to reverse.