What is the plan? Surely the Federal Reserve and other central banks have a plan for escaping the ever-crazier conditions we face. The debt burden is so great in the US and most nations that it cannot be paid down even if you taxed every citizen 100% of their income. Geopolitics is roiling the headlines with everything from trade wars to hypersonic missile launches. Inflation is accelerating. Social unrest is simmering and threatening to boil over with the slightest provocation. Yet, the financial markets have continued hitting all-time record highs for years now while central bankers have been afraid to mop up even a drop of liquidity. They just got brave enough to try and reduce the bond purchasing by $15b a month. That’s a start, but what is the plan?
The plan is best described as “The Slingshot.” It involves stretching the rubber band with the weight of cash (negative interest rates + print money). The free money at negative interest rates results in more debt and more inflation. The money then seeps its way into every corner of the economy, stimulating all kinds of risk-taking and encouraging entrepreneurs to build the businesses and technologies of tomorrow. As these come to life, they employ ever more people. The building process is the equivalent of letting go of the rubber band. It propels innovation and the creation of new technologies, new companies, and new sectors. Remember that roughly two-thirds of the net new jobs in the US are created by firms with less than fifty employees. These firms also generate most of the innovation as well. Big companies outsource most of their innovation to little companies these days. The overall hope is the slingshot will generate the startups and the risk-taking that drive jobs, innovation, growth and tax revenue faster than the rate of inflation and debt creation.
Of course, nobody anticipated COVID and all the inflationary impulses it’s provoked. COVID has brought broken supply chains, shortages, and distribution hitches. All of these tend to push prices up. COVID also brought the demand for even more stimulus. Prior to COVID, most governments had said they’d run out of spending power. COVID caused them to tip so far into spending that the public will probably never tolerate austerity again.
The race is simple – innovation needs to outrun inflation. Both are running very fast.
This sounds tricky because it is. But, it worked for NASA when Apollo 13 got into trouble and they had little navigation and almost no propulsion. They did a very risky and scary slingshot around the moon and managed to get the astronauts home alive. The economy isn’t a spacecraft. This time we are not trying to save a few adventuring astronauts but the entire economy.
Consider the possibility that, against all odds, the strategy actually works, just as it did for Apollo 13. The science and innovation revolutions are happening at such speed that it is possible for innovation to actually outrun inflation. Yes, supply chains are broken, but they are re-forming in new and better ways. People are learning how to happily buy better and buy less as well. The supply shock may just be a distribution shock. All that may explain why the stock markets have kept hitting record new highs for years now in spite of all the bad news.
Here is a breakdown of the Slingshot strategy:
Flood the market with money
Make interest rates go negative
Use inflation to force everybody out of cash and back into the frying pan of risk
Wait until the entrepreneurs are fully funded and on their way with tech innovation
Wait till pretty much every single citizen has a job
Slowly and gently take the liquidity away
Remember that a few rates hikes don’t tighten liquidity conditions. In fact, history shows that rate hikes in the early stages of a recovery flatten the yield curve. Early hikes should confirm that a recovery is real. Usually, stock markets rally on early rate hikes. The problem is not that rate hikes happen. The problem is that the Fed and other central banks are not brave enough to commence hiking. They’d rather wait until the market backs up the yield curve and then hike in response. That “courage gap” is a serious problem. It is causing the Fed to hide behind econometric models that don’t show what everyone sees and feels. Only the Fed refuses to take note when The Dollar Store announces that it is selling stuff for $1.50. Only the Fed is deaf and blind when Kraft Heinz announces more price hikes and intimates that price inflation is “everywhere” and we’d better get used to it.
The courage gap is real. For Apollo 13, it happened when the astronauts went around the dark side of the moon. For us, that moment is now. We are those astronauts. Everybody is in the dark about what’s really going on in the world economy. All is silent as we wait for the correct trajectory to be re-established.
The Fed needs more courage in this dark moment, but so do investors. Stock and asset prices are not at record highs only because of the free money bubble. These prices are also reflecting the possibility that innovation will outrun inflation, challenging as that may be. Perhaps the biggest risk in the markets is that investors miss an industrial revolution that is much bigger and better than the last one. The stakes are high. The race needs to be won by innovation. Those betting on inflation ought to remember that they are not observers, but participants in the outcome. It matters how courageous you are in placing your bet in the race between inflation and innovation.
What we choose to believe is probably what we’ll get.
I discussed all this and more at greater length in a deep dive interview I recently did with Grant Williams on www.grant-williams.com.
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Hello Dr. Pippa!
In the intersection between innovation and education, within a context of a broken social contract in the West, who do you believe will build a new shared moral framework?
What role will the traditional religious institutions play when the "tide turns", specially in the EU?
Many thanks.
PS: Substack followers meeting in Lisbon, is it a go?
🙂
Brilliant as usual Pippa, however I must disagree with "nobody anticipated COVID". https://eugyppius.substack.com/p/event-201