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The Fed’s About-Face Shift From Raising to Cutting Rates Signals Chaos Ahead

Federal Reserve provide additional loan to assists household and employees
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Last Wednesday, the Federal Reserve approved a 25-basis point rate cut for the third time this year.

Chairman Jerome Powell indicated a pause in the Fed’s rate slashing program. It looks like “three and done” for now.

But the catalyst that may have sparked the market rally that followed was Powell’s statement that a rate hike was not in the cards--at least, not until the Fed sees inflation rising “significantly.”

Powell also mentioned that the economy’s “baseline outlook remains favorable,” and that monetary policy is “in a good place.”

A few questions: If the economic outlook indeed looks favorable, then why did the Fed shift so quickly from raising rates to cutting rates? And why is the Fed continuing to pump billions into the repo market?

Is the Fed trying to manage a potential mishap, or is it looking to ward off something much worse?

According to economist and fund manager Michael Pento, the Fed’s shift from raising to slashing rates in addition to their feverish attempts toward stabilizing the overnight lending (repo) markets signals something much more than mere “adjustments” toward maintaining the economy’s current well being: the Fed is trying to prevent a depression.

Yes, that was not a typo. Pento made quite a bold conjecture in mentioning the big “D” word.

Did Pento just enter the histrionic realm of “doom-and-gloom”? Perhaps we should lend an ear to his reasoning (note that Pento had made these comments before Wednesday’s FOMC rate cut):

“I am on record saying given the extent of the asset bubbles that we have today... household debt is at a record high. Corporate debt is at a record high, up 60%. The national debt was $9 trillion before the Great Recession and is now $23 trillion. Total non-financial debt is now $53 trillion, and it was $33 trillion before the Great Recession…”

The 2008 financial crisis was essentially a crisis of debt. It happened to materialize in the real estate sector’s subprime market, and much of it was repackaged into “investment-grade” securities that snowballed with massive leverage.

The difference between 2008 and now is that we have more debt and in different forms. Hence, the larger the debt, the greater the potential crisis once the system supporting it buckles or implodes.

“Given all these imbalances and deformations, the Fed knows we are not going to have some mild recession. If they don’t re-liquefy the money markets, the same thing that happened back in 2008 will happen today, only the stock market was only a 100% of GDP, and today it is 150% or one and a half times the economy. So, the plunge in the stock market would be huge, and from a much higher level. Back in the Great Recession, unemployment claims spiked. We had millions of people laid off, and the same thing would happen today only it would be much worse.”

The liquidity crisis that erupted in the repo markets is also highly reminiscent of 2007--the last time this well-functioning market required Federal Reserve intervention. Pento makes an interesting point that many investors may not be aware of. If the stock market is 150% of our GDP, then what would happen should if it all comes crashing down?  How much worse might it be as compared with the after-effects of the 2008 crash?

“When this thing implodes, we are all screwed...On a global scale, we have never before created such a magnificent bubble. These central bankers are clueless, and they have proven that beyond a doubt. All they can do is to try to keep the bubble is going to be brutal.

Pento sees the debt bubble imploding sooner or later. The impact, he says, will be felt on a global scale--much greater than anything we’ve seen in recent history.

Of course, all of this sounds exaggerated. But again, it always does until reality shows us that its extreme boundaries can far exceed our narrow notions of normalcy. It’s a narrative that we’ve lived through once before in the year leading up to the 2008 crisis. This one might just be a little worse.

More importantly, remember that not everyone lost in 2008. Many did. Some survived. A handful thrived. And those among the handful didn’t necessarily consist of the wealthy (many wealthy people saw their fortunes decline significantly).

Many of those who thrived didn’t miss the subsequent bull market--the one we’re in now, the longest bull in US history. But many of them had to hedge. And as a practical rule, the smartest hedge often consists of diversifying your portfolio by holding a little cash, some fixed-income, and a healthy allocation of gold and silver in addition to maintaining your equities exposure.

Bank Failure Scenario Kit - sm2



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All articles are provided as a third party analysis and do not necessarily reflect the explicit views of GSI Exchange and should not be construed as financial advice.

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