Central Banks Are Losing Control
The Brexit warnings continue... A $43 billion 'black hole'... 'Central banks are losing control'... Negative rates are spreading...
The European Union ("EU") is clearly getting worried...
Two days ago, EU president Donald Tusk warned a "Brexit" could lead to the end of Western political civilization. Today, U.K. Chancellor of the Exchequer George Osborne (essentially the Secretary of the Treasury, appointed by pro-EU Prime Minister David Cameron) spoke out...
Osborne warned that a vote to leave the EU could lead to a fiscal crisis in the U.K. In particular, he said it could create a $43 billion "black hole" in the U.K. economy, and that would require big spending cuts and tax increases. As Bloomberg reported this morning...
"Far from freeing up money to spend on public services as the 'Leave' campaign would like you to believe, quitting the EU would mean less money, billions less," the chancellor [said]. That would mean "an emergency budget where we would have to increase taxes and cut spending."
EU opponents disagree, of course. They say Osborne's warning is little more than a political threat to punish voters. More from Bloomberg...
"Leave" campaigners from the Conservative Party rejected Osborne's threat of further austerity. Practically, it's unlikely he would be chancellor for long if Cameron loses next week's vote...
Osborne's warning prompted a reply from 57 Conservative members of Parliament, who described it as "absurd." Were he to proceed with the proposals, "the chancellor's position would become untenable," they wrote in a letter released by the "Leave" campaign. "This is a blatant attempt to talk down the market and the country."
Again, it's too soon to say which way the vote will go. We wouldn't put our money on a Brexit. But we can understand the position.
We can sympathize with folks who are tired of dealing with the EU's unelected bureaucrats and their burdensome (and often idiotic) regulations.
For example, EU officials now want to impose a tax for sharing links on the Internet. No, we're not kidding. As tech-news website Techdirt reported yesterday...
We've written plenty of times about ridiculous European plans to create a so-called "snippet tax" which is more officially referred to as "ancillary rights" (and is really just about creating a tax on Google).
The basic concept is that some old school newspapers are so lazy and have so failed to adapt to the internet – and so want to blame Google for their own failures – that they want to tax any aggregator (e.g., Google) that links to their works with a snippet, that doesn't pay for the privilege of sending those publishers traffic.
As you may remember, Germany has been pushing for such a thing for many, many years, and Austria has been exploring it as well. But perhaps the most attention grabbing move was the one in Spain, which not only included a snippet tax, but made it mandatory. That is, even if you wanted Google News to link to you for free, you couldn't get that. In response, Google took the nuclear option and shut down Google News in Spain. A study showed that this law has actually done much to harm Spanish publishers, but the EU pushes on, ridiculously.
This is just the tip of the iceberg. As we've discussed, EU regulations control virtually every area of its members' economies. Meanwhile, corruption, cronyism, and waste are rampant.
A colleague sent us a link to a documentary – Brexit: The Movie – that details these problems like nothing else we've seen. We have no affiliation or interest in the film (it was apparently financed entirely by public donations). But we found it compelling. If you're interested in these issues, check it out.
Speaking in his latest monthly investor call on Tuesday, "Bond God" Jeffrey Gundlach shared his thoughts on next week's vote.
Like us, he believes the U.K. is more likely to stay in the EU for now. He says recent polls reflect people's anger at that EU, but many of them are unlikely to actually vote "leave" next week...
I believe that "Leave" is over-polling, it's punching above its weight class. When it comes up for a vote, I think it will fail.
He did note that if he's wrong, the U.K. won't be the last to leave. "If 'Leave' prevails," he said, "it's the beginning of the end for the eurozone."
Unfortunately, Gundlach isn't nearly as positive on the markets. "This summer is going to be a rocky ride," he said.
In particular, Gundlach is concerned investors are losing faith in central banks. As he explained in an interview with Reuters earlier on Tuesday...
Central banks are losing control and they don't know what to do... just like the Republican establishment and Donald Trump.
The Fed is confused and their confusion spills into investor psychology. The Fed changes its tone so frequently, it seems every other week the message is different. They've turned into the "Zombie Fed."
He also warned that negative interest rates were backfiring. "Negative interest rates don't do what they're theoretically supposed to do," he said, noting that they "aren't leading to higher economic growth."
Gundlach says they also aren't helping stocks... Despite these unprecedented rates, markets in Europe and Japan are still down double digits from their highs. "Negative rates do not prop up stock markets," he said.
While he's generally bearish on stocks, he did say he thinks gold and gold stocks are still an "attractive place" to put money today.
In the meantime, negative rates continue to spread...
Last week, the European Central Bank made a change to its quantitative-easing program. It adjusted the bond-buying program to include European corporate bonds for the first time.
As of today, 16% of the 2.8 trillion euros' worth of corporate bonds outstanding are now trading with a negative yield (up from 5% at the start of May). In other words, the amount of euro-denominated corporate debt with negative yields has tripled since the new program was announced.
At this rate, we can't help but wonder: Will the entire bond market soon carry a negative yield?
The spread of negative interest rates is hurting savers and investors around the world. But no one is being punished more than retirees and income investors.
Many of these folks have been pushed into risky investments like junk bonds just to earn a reasonable yield.
Some have smartly avoided the "reach for yield" so far... but this means they're likely earning a pittance in bank CDs or Treasury bonds.
How long can this go on? What are these folks, who depend on their income investments to live, supposed to do?
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New 52-week highs (as of 6/14/16): Johnson & Johnson (JNJ), Silver Standard Resources (SSRI), and AT&T (T).
A quiet day in the mailbag. We'd love to hear from our British readers... What's your stance on the upcoming Brexit vote? Drop us a line at feedback@stansberryresearch.com.
Regards,
Justin Brill
Baltimore, Maryland
June 15, 2016
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