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Emerging-Stock Market Slump Is the

Beginning of the End

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By David Stockman
Wednesday, 15 Jun 2016 07:20 AM
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Sad to say, you haven’t seen nothin’ yet. The world is drifting into financial
entropy, and it is going to get steadily worse. That’s because the emerging-
stock market slump isn’t just another cyclical correction; it’s the opening
phase of the end-game.

That is, the end game of the PhD Tyranny.

During the last two decades the major central banks of the world have been
colonized lock, stock and barrel by Keynesian crackpots. These academic Take A Look At This
scribblers and power-hungry apparatchiks have now pushed interest rate
Secret So Powerful It Was Banned From
repression, massive monetization (QE) and relentless rigging of the The Bible
financial markets to the limits of sanity and beyond. Honest, market-driven "Universal Fuel" Discovered; Saudi Oil
price discovery is dead as a doornail. Obsolete 16/06/2016
David Stockman: Tyranny of the PhDs Page 2 of 5

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The very thing that financial history proves, above all else, is that
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Once upon a time, the tendency of politicians to bankrupt the state was at Back Trump
least partially held in check by the fear of bond vigilantes, and the prospect Saturday, 11 Jun 2016 | 14 comments
of soaring interest costs on the public debt. I happened to be there during Ever heard the saying ...STICKS AND STONES CAN
one such episode, when the 10-year Treasury note required a 15% coupon.

It was enough to cause even Democrats to denounce deficits!

That is, at least until the GOP took a powder on social security and other
entitlement reforms. At length, a tax-cut bidding war and DOD war
spending spree supplanted most of the old-time fiscal religion. And then
Greenspan finished the job when he threw in the towel on monetary
discipline in 1994.

Once upon a time, too, the interest rate on debt reflected compensation for
credit risk and inflation — and a real return to boot.

At the moment, however, “investors” aren’t getting paid for any of these
costs. Instead, thanks to the mad-men running our central banks they are
actually being forced to pay governments to borrow.

Moreover, that’s not an aberrant condition in the far recesses of the global
bond market. There is now $10 trillion of sovereign debt securities with
negative yields — and that figure is growing by the week as it cascades
across government bond markets and out the maturity spectrum.

There could be nothing more perverse than for the central banking branch
of the state to destroy the very government bond market on which modern
state finances ultimately depend. But that’s exactly what they are doing,
and the end-game could not have been expressed more colorfully than in
the recent musings of the once and former bond king,
Bill Gross:

Bill Gross, the manager of the $1.4 billion Janus Global Unconstrained
Bond Fund, warned central bank policies that pushed trillions of dollars
into bonds with negative interest rates will eventually backfire violently.

“Global yields lowest in 500 years of recorded history,” Gross, 72, wrote 16/06/2016
David Stockman: Tyranny of the PhDs Page 3 of 5

Thursday on the Janus Capital Group Inc. Twitter site. “$10 trillion of neg.
rate bonds. This is a supernova that will explode one day.”

To be sure, a supernova at least has a basis in physics. It’s an end-of-life

star that suddenly increases in brilliance owing to a catastrophic explosion
that ejects most of its mass.

Not NIRP. There is nothing natural or scientific about it. And it’s the
opposite of brilliant.

It’s an economic mutant confected by arrogant Keynesian economists who

inhabit a puzzle palace of fantasy. Not only do they have the nerve to
believe that a tiny posse of monetary central planners has the capacity to
price money, debt, capital and risk more correctly than the millions of
agents that once populated free financial markets, but they do so in the
name of invisible measuring sticks and prompts.

Thus, a recent piece in the Wall Street Journal highlighted a debate

inside the Eccles Building which borders on sorcery.

Fed officials disagree about their likely end point, in part because they
are struggling to understand why another underlying interest rate—the
mysterious natural rate—has fallen in recent years. And for that many are
turning to the musings of Knut Wicksell, a Swedish expert on the subject
who died 90 years ago.

According to the textbooks, this so-called natural rate is the inflation-

adjusted rate that’s consistent with the economy operating at its full
potential, expanding without overheating. Also known as the equilibrium
or neutral rate, it balances savings and investment.

The natural rate can’t be observed directly; the Fed knows it has been
reached only by how the economy responds. “It’s like discovering Pluto:
you can only see the effect of the gravitational pull,” said Eddy Elfenbein,
an investor and blogger at the site Crossing Wall Street, comparing it to the
dwarf planet whose existence was inferred from the orbits of Uranus and

Well, no. There is no such thing as the “natural rate of interest.”

There are pegged rates confected by central bankers who flood the market
with printing press cash, thereby artificially tilting the supply/demand
balance of savings and borrowings; and there are market rates discovered
by the continuous interaction of savers and borrowers.

In an honest free market, savers need a rate high enough to induce them to
forgo current consumption from their earnings and profits, while
borrowers are constrained by their capacity to service their debts from
current income and/or the return on funded assets.

The resulting market rate of interest reflects a continuous adjustment of

these supply and demand balances. Its level over time can be influenced by
a multitude of factors including demographics, technological change,
entrepreneurial dynamics, wars, droughts, floods, taxes and the regulatory
intrusions of the state, to name a few.

One thing is certain, however. When the animal spirits get too
rambunctious and the herd of speculators cause the demand for credit to
soar, bubbles get shutdown. When no more savings can be coaxed out of
current income by rising interest rates, the market clears; the business 16/06/2016
David Stockman: Tyranny of the PhDs Page 4 of 5

cycle self-corrects.

Modern central banking, by contrast, mutes, overwhelms and eventually

cancels out all of the price signals that are processed into shaping the
market rate of interest. Instead, monetary central planners attempt to peg
the rate based on purely theoretical constructs and standards —
benchmarks which are ultimately arbitrary and virtually certain to be

In that context, in fact, the “natural rate of interest” is just a derivative of

the mythical notion that there is such a thing as full employment GDP.
Indeed, it appears that one of the more intellectually addled members of
the Fed board has spent his professional life studying exactly that:

We’re seeing no pickup, none whatsoever, in the natural rate even as the
economy has gotten back to full strength,” John Williams, the San
Francisco Fed president who has spent years studying it, said in a recent
interview with The Wall Street Journal.

That’s right. By the lights of John Williams the natural rate of interest has
dropped from 2-3% as recently as the first decade of this century to a
negative level at present. And that implies, according to this PhD
soothsayer, that nominal interest rates must be pegged to the floorboard, or
even lower, for the indefinite future because the US bathtub of potential
GDP has not yet been filled to the brim.

David Stockman was the Director of the Office of Management and

Budget under President Ronald Reagan. To read more of his insights,

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