Buck: Welcome back to the show everyone today my guest on Wealth Formula Podcast is no stranger to the show. He’s been on multiple times. He is a favorite for sure for his sort of more secular view shall I say of the economy where it’s not stuck in dogma of some of the stuff you have in the podcast ecosystem. His name is Richard Duncan. He’s well known in the space. He’s been on the show multiple times. He’s frequently a guest in the Robert Kiyosaki show and he is the editor of Macro Watch which we’ll talk about in a little bit as well but in the meantime Richard, welcome back. And you are in Asia right?
Richard: Buck thank you for having me back. Yes that’s right I live in Asia. I live in Thailand.
Buck: That’s right. How are things going over there? Covid under control?
Richard: Yes thank heavens generally speaking it’s been a very big mystery but in total Thailand has had less than 26,000 cases and I think 84 deaths in total and it is a mystery.
Buck: Right I mean there’s so many things that you could point to and then look at it somewhere else that there seems to be a lot of disease that that has the same variable but I guess the good news is hopefully this will be a bad memory in a couple of years from now you know we’re still going to remember it I think in some regard for the next year. We’re going to probably still feel the after effects of it but well good to have you on the show and I just want to jump right into it and you know Macro Watch is a phenomenal resource which you know I’ve alluded to and I really do think that people should you know to subscribe to but I want to talk about what’s going on in the economy right now and let’s start with this. So maybe I’m wrong but from my non-economist point of view you know it seems to me that the worst of this pandemic economy and the damage of that might actually be behind us now and that we are left with you know historical loose monetary and fiscal policy. Seems like it’s a recipe for a potential economic boom ahead. What are your thoughts on this?
Richard: Well yes it’s hard not to agree with what you have said I mean hopefully surely the worst is past in terms of the pandemic and things will begin to return to normal with the vaccines being rolled out and after all such a large number of Americans have already contracted the disease add that to the number of people who have been vaccinated and it’s not surprising that the number of cases seems to be dropping very quickly there now although it’s still incredibly high but hopefully by the summer it will be under much more control and things can begin to go back to normal and as you said monetary policy is extraordinarily loose the fed is creating 120 billion dollars every month and pumping it into the financial markets and at the same time we have very large budget deficits with more stimulus on the way from the next plan. The next stimulus plan that’s going through congress now it should be passed somewhere quite close to 1.9 trillion dollars sometime this month that will also be pumped into the economy and that should create a very strong all altogether that should create a very, very good year in terms of strong economic growth.
Buck: Yeah it’s interesting you know I think back to you know the way various policies were put into place during the last financial crisis and there’s a big difference partially out of necessity but it seems to be a sort of a better experiment in which is that in the last fight in the last in 2008 2009 it was you know a lot of money going to the banks and then the banks deciding who got it and whether or not they wanted to lend it out and here this is truly a helicopter money phenomenon right where you’re getting it to the people who need to spend it and will spend it and that is a major difference.
Richard: That’s right. Checks are being sent directly to households and to businesses and so the money there’s no doubt that this stimulus is reaching the public.
Buck: So it seems like inflation would be inevitable but then again we thought it would be in 2008, 2009 as well. So what do you think is inflation inevitable and you know how does the fed react to that?
Richard: Well so we’ve already started to see commodity prices move up of course they moved down sharply during the pandemic the dow commodity price inflation is back and it’s likely to become much higher over the months ahead but commodities are wildly volatile they shoot up you know it’s not unusual for them to go up 20 30 even 40 percent and then within a year they’re down another 20 30. So the fed tends to disregard movements and commodity prices. They’re so volatile. Instead what the fed looks at is core inflation which strips out food and energy price movements so if you look at the core inflation number and the fed’s favorite measure of inflation there are a few different kinds of consumer price inflation but what they look at is called personal consumption expenditure price index. So it’s just an inflation measure and right now it’s 1.5 percent.
Buck: Just to stop you there real quick so what goes into that basket?
Richard: I can’t give you a breakdown but it’s personal consumption expenditure. So everything that individuals spend so just like food and you know maybe the cost of gasoline and all those like sort of well no food and gasoline are stripped out this is core personal consumption expenditure so no food and no energy so this would be this does include computers tennis shoes clothes movie tickets telephone bills okay everything except food and energy even rent.
Buck: It seems sort of strange that you would that they would take those out since they seemed the most important right but at any rate
Richard: Well it’s important to understand why they do because if you don’t take them out because the food and energy prices are so volatile they swing up and down so fast the fed just simply can’t control the economy so effectively that it can you know what’s it going to do put the interest rates up to 10 percent because we have a jump in oil prices no that would crash the economy so you’ve got to strip those things out because over you know they’re just too wild to control and you’ve got to look at everything else because that’s what matters. We know the commodity prices are going to bounce up and down but there’s nothing that really can be done about that but what we don’t want to see is the price of everything else moving up as it was doing in the late 1960s and especially in the first half of the 1970s when inflation got up to double digits. Even at the core level when you strip out the oil price shock and everything else so they look at the core inflation and right now as of January it was just up one point five percent year on year and the fed’s target is two percent. So they target two percent inflation they think that’s the the best level of inflation that’s what they aim at and they haven’t been able to hit two percent inflation on a consistent basis going back for decades if you look at the average from the year 2000 it’s been I think 1.7 I believe and if you look at it from 2010 it’s been 1.6 on average over that period so they’ve been undershooting their inflation target for a long time and they have now announced that they’ve changed their policy in quite a significant way rather than targeting two percent exactly they have said since we have under shot two percent for so long we’re now going to aim not at precisely two percent but we’re going to aim at an average of two percent over the long run meaning they’re going to tolerate a higher level of inflation above two percent so that’s important because we are probably going to see inflation move up but the real thing that is most important as a driver of inflation at the core level is wages and right now 10 million fewer americans have jobs than in february last year so a whole lot of people are out of work and it’s going to take a lot of stimulus to put these 10 million people back to work and even when they were at work last year the wage inflation was only about I think three and a half percent at the peak off the top of my top of my head and even then the core inflation throughout the economy was still below the the fed’s two percent target the unemployment rate was down to three and a half percent at one point which was the lowest level since the 1960s and still there was no wage inflation and still there was no inflation at the core consumer price level so until we absorb these 10 million people who don’t have jobs today we’re not going to see any wage inflation it seems to me and it’s that’s what the fed says as well and so it’s going to take a while to put all these people back to work before we should be terribly frightened about a very sharp surge in inflation.
Buck: Yeah and you know one of the things I want to talk about next a little bit is you know obviously the fed has control of the fed funds rate and its effect on interest rates that way but there’s also something happening in the bond markets where we saw a recent spike in yields will you talk a little bit about that and what the significance is there?
Richard: Right well just one more word on inflation. So a very important issue here it’s not just putting these 10 million Americans back to work because we have a different kind of economy than we had 50 years ago 50 years ago trade between countries balanced we were on a Bretton Woods system under the Bretton Woods system dollars were pegged to gold and if we had a big trade deficit we would lose our gold and the same applied for every other country so at that time trade imbalances over a long period of time were impossible and trade balanced but after the Bretton Woods system broke down in the early 1970s suddenly the real the us discovered it could buy things from other countries and it didn’t have to pay with gold anymore/ So our trade surplus our trade deficit exploded and that meant that our economy was no longer limited to the domestic economy the number of workers that we have in the United States and the amount of factory capacity that we have in the United States suddenly our economy was a global economy with nearly eight billion people two billion of whom still live on less than three dollars a day so we have not only the 10 million people to put back to work in the US but we’ve got an entire global economy with enormous excess capacity of everything and that’s why we didn’t have any inflation before the crisis. This pandemic hit when the unemployment rate was down to three and a half percent at a 50-year low. There was still no inflation because we buy so much stuff from overseas and we buy it using you know from countries that have very very low labor cost.
Buck: Right sort of exporting our own inflation.
Richard: Well I wouldn’t say we’re exporting our own inflation we are just importing because we can. Globalization is very deflationary for us if we buy things that are cheaper in other countries that drives down the cost of the things that we buy here and so that’s one reason why the fed hasn’t been able to hit its 2 inflation target for the last 20 years and longer right and why there’s been extreme deflationary pressure in all of the developed countries for the last 20 30 years so that’s another reason that it’s going to be difficult or more difficult to see surge in inflation in the United States at least a sustained surge because if prices start to go if labor costs do start to go up here after we put these 10 million people back to work then those jobs some of them a lot of them will just move to countries where you can pay people five dollars a day or ten dollars a day so inflation is hard to bring back even with a lot of stimulus so we don’t really know how much stimulus the economy can take before it results in meaningfully higher rates of inflation. But we do know that the fed said they’re going to tolerate a level of inflation above their two percent target for quite some time so the fed is telling us again and again in every speech they make and in the minutes to their FOMC meetings they’re saying they’re not going to tighten the federal funds rate and they’re not going to stop creating 120 at least 120 billion dollars a month anytime soon which I think is safe to assume means until at least the end of this year and probably much longer than that so monetary conditions are going to remain very loose.
Buck: Wasn’t there some testimony in front of the congress recently where the fed chairman said you know essentially had forecasted that the next several years would be without rate increases?
Richard: Yes I mean something to that effect he said you know it’s going to take a long time to get back to maximum employment and we’re going to keep monetary policy very loose until we get back there.
Buck: Interesting stuff so yeah let’s move on to the bond market. So I want to transition over there what’s happening there big a spike in yields what maybe you should start by giving us a very high level of what drives bond markets and its relationship to asset prices and then maybe talk a little bit about the significance of what we just saw.
Richard: Okay well there are two things you could say that drive the price of bonds when the bond prices go up that means the yield on the bonds go down so what moves the price of a bond well the first thing is the supply and the demand for bonds and the second thing is market expectations about the future of inflation if the market thinks the inflation rate is going to be much higher they’re going to be less reluctant to buy bonds because if the inflation rate goes up if you buy a bond for instance that yields two percent now and the inflation rate moves up to six percent then you’re going to lose a lot of money on your bond because no one’s going to want to bond paying 2 percent interest a year when you can get one at the same price paying six percent interest a year. So what market reluctance to buy bonds is an important factor in driving up their price and so at the beginning of this year the the yield on the 10-year government bond was less than one percent it was 93 basis points and it had been I think the lowest it hit during the pandemic was 38 basis points less than half of one percent and last year people I think most people believe that the yield on the bonds would remain below one percent probably for quite a long time but what we’ve seen is since the beginning of the year the interest rates have moved up the yields have moved up from 93 basis points to well on wednesday last week they’d risen to one almost 1.4 and then on thursday during the day they jumped up another 20 basis points to above 1.6 at one point on thursday and then which is a very large move and then on friday they moved back down up to something like 1.42 and that’s roughly where they stayed yesterday they’re not too much different from that right now last I looked but the yields spiked up and this move happened very quickly and that frightened the stock market so we’ve got to sell off in the stock market of course from all-time highs but we also saw gold prices go down because when interest rates go up suddenly the cost of holding gold which doesn’t have any yield doesn’t pay any interest the opportunity cost of holding gold becomes greater when interest rates move higher because you could buy a bond that actually pays you interest so that’s why gold has fallen I think a lot of people must be very surprised about that.
Buck: Just you know and maybe pretty straightforward but just want to make sure everybody’s on board here, explain why a spike in yields in the bond market would cause a sell-off in the market in the stock market.
Richard: Okay well generally the lower interest rates go of course it’s cheaper to borrow money right so individuals can borrow more money and use it to speculate and buy more houses or buy more stocks or buy more gold or all kinds of speculative assets, on the other hand, the higher the interest rates go if you start to see say an extreme example if the interest rates went up to 10 percent then you could just park your money in a bond and get 10 percent interest and not have to worry about what’s happening with the stock market so the stock people would move money out of stocks and into bonds.
Buck: I bring this up in part Richard because I think there’s always some confusion on this there’s a basic you know difference between interest rates is defined by the fed funds rate and then the interest rates that we see that are affected by the bond markets in real estate obviously you know when we’re locking in rates we’re based on the 10-year treasury and so not so much on the fed funds rates I was trying to drive you know just show that distinction a little bit.
Richard: Yeah that’s important because the fed directly sets the fed funds rate. Now it’s just above zero let’s say it’s effectively zero but they do not directly control the 10-year government bond yield that’s determined determined in theory at least by market forces and so what we saw last week was market forces pushed the price of bonds down and pushed the yield on the bonds up which people had not anticipated certainly not at that speed and this happened because of growing fears that there will be inflation from resulting from all of the stimulus that we discussed earlier now what the fed does do and can do is the fed can create money from thin air as much as it wants without limit and it can buy government bonds right and that’s it’s buying 80 billion dollars of government bonds every month and an additional 40 billion dollars of mortgage-backed securities every month now if the bond yield continues moving higher then that would cause the economy to slow down and the fed doesn’t want the economy to slow down it wants to put 10 million americans back to work right so if the 10-year bond yield started moving higher say up to 1.6 or 1.7 the fed will vary it’s quite likely that the fed will come out and say we’re going to buy twice as many bonds this month as last month instead of buying 80 billion dollars of government bonds let’s just make it a nice round number we’re going to buy 200 billion dollars of government bonds today and by doing that and furthermore they could say in fact we’re going to buy as many government bonds as it takes to push the yield on the 10-year government bond back to one percent and we’re going to keep doing this for the next year so that the bond yield will be 1 all year long until December and we’ll keep you updated when we change our mind about that that would be called yield curve control that’s what they do in japan they’ve been doing this very effectively now in Japan for two three coming up to four years perhaps. So the fed while in theory the yields the bond prices and the bond yields are supposed to be moved by market forces well in fact that’s no longer the case because once the fed adopted quantitative easing after the crisis of 2008 we’ve seen the fed intervene again and again and now the fed has the ability and the will to manipulate the bond market if you will intervene in the bond market so that interest rates don’t move too high so it’s almost sort of a dynamic quantitative using now that’s basically sort of responsive to whatever’s happening up and down so they have the power to control the 10-year government bond yield at any level they want and so far they are on autopilot they have said of buying in total they keep saying at least 120 billion dollars of bonds every month but if the 10-year bond yield keeps moving up then they will make an announcement and say we’re going to we’re going to buy more than that the yields are going up too quickly we don’t like it we’re going to stop it and they have the power to control them at any level they want so it’s unlikely that the bond yields are going to keep moving up at least moving up quickly now maybe if they move up gradually over the next nine months then fine the market can absorb that but if they were to keep moving up very very rapidly then it could cause a market panic a lot there’s a lot of speculation in this market and there must be a lot of leverage it could provoke some sort of panic through the markets that would have some sort of damaging impact on the economy overall. So they want to avoid that now a very good example of this is the US central bank of course is not the only central bank in the world every country has one and this week on Monday in Australia the Central Bank of Australia jumped into the bond market there and bought twice as many bonds that day as they normally do because the yields were going up too quickly and by doing that that caused the yield on the 10-year Australian government bond to fall 25 basis points on Monday alone so this is a very clear demonstration of the power of central banks to control bond yields at any level they want and that’s what the fed will do if bond yields keep moving up too much too quickly.
Buck: Next topic I want to cover so can you talk a little bit about the concept of bank reserves as it relates to liquidity and maybe explain kind of what the concept is and what that means to us right now?
Richard: People have a hard time getting their minds around the idea of bank reserves when quantitative easing back in 2007 for instance there were hardly any bank reserves at all the reason banks were required to hold reserves in the past is because the government was afraid that there would be a run on the banks so the banks were required to set aside a certain amount of their deposits as either cash in their own vaults in their offices or else deposits with the fed all this all the commercial banks have a bank account at the fed and they can hold their reserves there but over time the amount of reserves the banks were required to hold was reduced and reduced and reduced and reduced until 2007 the banks hardly had any reserves whatsoever. Now the banks don’t like holding reserves because before 2008 they couldn’t earn any interest on those reserves so they like to keep them as small as possible and so they lobbied to reduce the amount of reserves they had to hold but the fed also agreed they said okay if there’s a banking panic no problem we’ll just create money and inject it into the financial system and that will resolve the bank panic. So when the crisis started in 2008 there were hardly any reserves but lo and behold we had a massive financial system panic system-wide panic and there were no reserves for the banks to lean on had the fed not intervened through quantitative easing the entire financial system all the banks would have failed and everything would have collapsed so the fed started injecting liquidity into the financial system the way the fed does this is it buys a government bond typically a government bond from the bank and so let’s say a billion-dollar bond or let’s make it bigger a hundred billion dollars buys a hundred billion dollars from the bank where it buys a hundred billion dollars of government bonds from the banking system a bank let’s say so the fed gets 100 billion dollars worth of bonds and how does it pay for it? It pays for it by making a deposit into the reserve account that that bank holds at the fed and by making this deposit the fed is not depositing money that already existed it is creating the money the act of making that deposit creates the money. Money that didn’t exist before so bank reserves go up by 100 billion dollars in my example now what do the banks do with these reserves they can do anything they want with them they can buy stocks they can make loans they can buy bonds but typically they will go out and buy more bonds and so when they buy more bonds then that allows the government to take the proceeds from those bond sales and spend that money and stimulate the economy.
Buck: And then so explain sort of the significance of what’s going on right now.
Richard: Okay so a lot of people have the impression that when the money goes in because bank reserves are going up they have the impression that the quantitative easing doesn’t work they have the impression that the money just gets stuck in the banks as reserves but that’s completely wrong that is entirely inaccurate and one way to try to understand this I think it helps the concept of digital money the fed is just essentially entering digits into the bank accounts of the banks that it’s crediting right but it and that’s hard to get your mind around but instead of that imagine that the fed bought 100 billion dollars worth of bonds from the banking system and it paid for them with pennies really with pennies there would be a mountain of pennies right that the banks would hold if the fed paid so rather than bank reserves the banks would have truly a mountain of pennies. Now so the banks have the ability to spend those pennies any way they want they can as I said they can make loans so let’s say they make a loan whoever they make the loan to that person gets a lot of pennies and he deposits those pennies back into his bank account so the number of pennies in the banking system remains the same they’re stunning mounting the pennies the pennies don’t go away just because the banks lend them or buy stocks with them they stay in the banking system the only way the pennies go away is if the fed reverses quantitative easing in other words if it does quantitative tightening which means that it sells the bonds that it has already back to the banks if it sells the bonds if the fed sells the bonds that it owns already back to the banks then the banks have to pay the fed those pennies would then go back to the fed the fed destroys those pennies and there are fewer reserves left in the banking system this is the only way the the reserves go away permanently right but there are a few other factors that affect the level of reserves so one factor is the amount of physical dollars that there are are in circulation the more dollars there are in circulation that reduces the level of bank reserves because when the public wants to hold more dollars they go to their bank they withdraw dollars from their bank and if the bank then needs more dollars more physical dollars it goes to the fed and it buys dollars from the fed and it pays for them with bank reserves the fed gives the banks the dollars and it takes money out of those commercial banks reserve accounts at the fed so that’s one factor if the amount of dollars in circulation goes up that causes the amount of reserves to go down but there’s another important factor and this is the most important factor right now. The US government also has a bank account at the fed is called the treasury general account the TGA most people are not familiar with this I have not really been familiar with this for very long tell you the truth and that’s because typically in the past there was very little money in this government bank account at the fed but this is the government’s main bank account when it when the government gets money through tax collection or by selling bonds this money goes into the treasury general account at the fed the government’s bank account of the fed and when the government spends money on all the things that it spends money on the money comes out of this bank account of the fed well up until 2008 the amount of money in the fed was it was just a few billion dollars a very low amount but after 2008 the numbers started getting much larger it moved up to 200 billion say around 2013 and then by 2016 it was up to 400 billion and it moved up and down around there for the next four years around between 400 billion and 100 billion let’s say but then in 2020 when the pandemic started suddenly the amount of money in the treasury department the government’s bank account shot up to 1.8 trillion dollars now that was totally off the charts and so why did that happen well what happened is the treasury department raised a lot of money through selling bonds trillions of dollars and they did that because they expected congress to pass a second stimulus bill in the second half of last year you remember in the middle of last year everyone expected new stimulus bill people were talking about two trillion dollars maybe three trillion dollars and they were expecting it fast so the treasury department went out and sold a lot of bonds and waited and waited and the congress didn’t get around to passing the new stimulus bill until sometime in the middle of december and then it was even then it was less than expected it was only 900 billion dollars so the government went out and raised a lot of money but congress hadn’t authorized spending that money yet until december so the money ended up in the government’s bank account at the fed and it peaked at 1.8 trillion dollars a few months ago well it’s now down to 1.4 trillion dollars so when the government raised this money how did it do it the government borrowed money and when it borrowed money whoever it borrowed the money from that reduced the level of money they had in their bank accounts so that reduced the level of reserves in the financial system and as long as now the government is sitting on this 1.4 trillion dollars of reserves of money and that reduces the level of bank reserves it reduces the level of liquidity in the system but the thing that’s important now is the treasury department has told us that they are going to start spending this money because we got the stimulus bill 900 billion dollars in december we’re soon going to have the new 1.9 trillion dollar stimulus bill so in their most recent announcement the treasury department has said they’re going to reduce the level of money in this account to 900 billion dollars from 1.4 now to 900 billion dollars at the end of march and to 500 billion dollars by the middle of june so what that means is that’s going to inject 940 billion dollars into the economy as the government spends this money and that’s going to cause the bank reserves to go up by 940 billion dollars between now and the middle of the year so more reserves means more liquidity and that could lead to an even more pronounced asset bubble is that right right so we’re looking at a situation now so they’ve only made forecasts about how much money they’re going to spend up to the middle of the year to june at that point they’ll still have 500 billion dollars in this bank account that they could spend going forward and this brings us back to bond prices the supply and demand for bonds right as the government spends this money how are they going to spend it well we know they’re going to send out checks to households and to businesses right so households and businesses are going to have more money and they’re going to start some of them are going to buy stocks with it and speculate in other ways the robin hood crowd so the more money the government spends that means bank reserve that increases the amount of liquidity in the financial system in other words it increases the amount of bank reserves that exist so we’re looking at bank reserves are now 3.4 trillion dollars but they’re going to go very much higher over the next several quarters for instance we know the fed is going to create 120 billion dollars every month so if we look out just to the fiscal year ends in september september 30th that’s when the fiscal year ends for the government’s budget that’s seven months from now if we multiply seven months times 120 billion dollars a month that’s 840 billion dollars that the fed is going to create between now and the end of september so that alone is going to take the amount of reserves up from 3.4 trillion dollars to 4.2 trillion dollars so that’s that’s seems baked in that’s going to be an enormous surge in reserves just by itself an enormous increase in liquidity just by itself now on top of that if the government does in fact run down the money in its bank account at the fed to 500 billion dollars even by the middle of this year as they’ve said they would do that would add another 940 billion dollars to bank reserves taking total bank reserves up to 5.1 trillion from 3.4 trillion now and if for example the government were to spend all the money in that bank account all 1.4 trillion dollars it has in its bank account at the fed that would take bank reserves up to 5.6 trillion dollars which is 68 percent more than it is at the moment it would be an enormous surge in the level of reserves an enormous surge in the amount of liquidity that there is in the financial system and it has the potential to create an extraordinary financial bubble this kind of.
Buck: Yeah. What’s the time frame for some of this I mean are we talking about something that occurs within the next year or two years?
Richard: Well yes so every quarter the treasury department publishes its estimates of how much it’s going to borrow and how much it’s going to happen its bank account at the end of every quarter so what they’ve told us we get the data every week on how much is in their bank account right now it’s 1.44 trillion but they’ve said they’re going to run that down to 800 billion dollars by the end of march this month right and then run it down to 500 billion dollars by the middle of the year.
Buck: Does the impact of that is it pretty directly correlated to you know the time that it’s injected or is there a little bit of a delay?
Richard: Well so what this means is by running down their account by June they run it down to 500 billion dollars how do they run it down by spending the money in that account right that would that mean that would mean they would spend 940 billion dollars how would they spend it they would spend it by sending out checks to individuals and households and businesses and in all other ways that the government spends money flooding the system with new money right on top of the 840 billion dollars the fed is going to create over the next seven months and pump into the financial systems through quantitative easing so what moves bonds well one fundamentally is supply and demand so on what we potentially see is people in the financial markets are going to be flooded with a new supply of liquidity as a result of the government running down its bank account at the fed and this has the potential to create an enormous new surge in demand for government bonds for instance. So right now there seems to be a concern that there won’t be enough demand for the bonds but what we may end up seeing is that there’s so much liquidity in the financial system that the demand far exceeds what people are anticipating and that would push up the price of the bonds and push yields back down to a much lower level so rather than fundamentals causing the yields on bonds to move higher we may see the exact opposite there may be so much fine liquidity in the financial markets as a result of this combined with quantitative easing that it could push bond prices much higher and bond yields much lower and of course the same forces surge and liquidity throughout the financial system could also potentially push the stock prices very significantly higher and gold practices and everything feeding this crazy speculative frenzy that has already been going on for months it really seems to have the potential to become much much wilder than it has been already it seems to me.
Buck: One last concept I want to talk about is the concept of a buyer strike. How does this relate to any of this?
Richard: Okay well so what we saw last week in the bond market was people were reluctant to buy bonds because they were afraid that the inflation rate was going to go up right and so they simply just stepped back and there were fewer buyers and because there were fewer buyers this caused the price of bonds to fall and the bond yields to go to go up swiftly so that’s when people talk about a buyer strike in the bond market that’s what they mean people just simply refuse to buy the government bonds and so bond prices fall and bond yields go up now this is also something related to the concept of bond vigilantes people used to talk about the bond market if the government started spending too much money or if the fed started printing too much money people in the bond market could become afraid that inflation would pick up and they would stop buying bonds and that would push the bond prices down and yields up and so they could these bond vigilantes to a certain extent limited fiscal policy limited how much money the government could spend and it limited how much money the fed could create but all those ideas are no longer valid now because of quantitative easing the fed has the ability to create money and buy as many bonds as it wants so the fed can be the strike breaker if there’s a buyer’s strike the fed can break the strike simply by creating more money and buying the bonds itself so the fed make no mistake the fed can control the 10-year government bond yield at any level it wants for as long as it wants.
Buck: So in some right now we have all the ingredients for big boom big bubble and so from that perspective, I guess the short-term message to investors like us is well I mean you could be in for a good ride up who knows what happens after that the crash any kind of crash that ensues after that but is that a fair assessment?
Richard: Well so my policies I don’t make specific recommendations I don’t tell people to go out and buy stocks or sell stocks or anything else I just provide the analysis of how things look at the macro level the amount of liquidity in the system credit growth and the big big drivers that affect not only the economy but also asset prices across the board on stocks and what I’m seeing now is with the fed creating 120 billion dollars a month multiply that over the next seven months till the end of september that’s 840 billion more dollars right and if the fed if the treasury runs down this bank account you can add 1.4 trillion dollars more to that so you know what is that one point it’s close to 2.4 trillion dollars 2.4 trillion dollars over the next seven months potentially right and increasing the amount of reserves in the banking system by 68 now if this happens this is going to create an extraordinary expansion of liquidity which seems to me based on all past experience should keep pushing asset prices higher now of course mit the world is a very uncertain place many things can change on a dime you know who would have expected this pandemic anything can happen right the fed could do a 180 degree turn and say you know sorry we’ve changed our mind we’re not going to buy 120 billion dollars anymore that seems unlikely they’ve been telling us that they would or other uncertainties could occur so you could there are no sure bets when you make an investment you’re always sure of course making it’s always a gamble right there are no certainties but if the scenario that I just described plays out which is based on what the fed has told us it’s going to do and based also on what the treasury department has told us it’s going to do it seems to me that there’s going to be a flood of liquidity over the next six seven months and that seems to me would be likely to push asset prices much higher unless something else intervenes and stops that from happening one way or the other.
Buck: Fantastic. Richard is there anything else that we ought to know before we take a break from this for the next few months?
Richard: Well I think you know that’s the really big issue will there be inflation yeah is that going to force the fed to tighten monetary policy and the answer to that is you know the fed’s not going to tighten this year and meanwhile this flood of liquidity has the potential to push interest rates lower rather than allowing them to go higher and on the other hand if they start to go if the interest rate started to go higher the fed would stop that from happening probably by creating more money and buying them so this seems like this has been a much more complicated conversation than we normally have and it’s true because reserves are it’s hard to understand reserves.
Buck: Which is what I was going to get to next Richard is I think the the thing with investors is that yeah this is complicated stuff but I think in order to of course Richard isn’t giving advice but I think the more you understand this the more you can you know make decisions for yourself I mean I listen to what Richard says and I put that together with some of my street sense which is that there’s a heck of a lot of pent-up demand to spend from people and to me I’m looking at the next you know next year you know especially as we come out of this covid lockdown and things start to open up is a real boom to the economy so I think it’s important and that brings us to the newsletter because I think that is a key message here if you want to understand this stuff I think you know take a look at Richard’s newsletter Macro Watch which really you know starts with the basics and gives you a foundation and then it’ll give you an opportunity to actually understand some of these things that we’re talking about at a deeper level Richard how do we look into that? How do we sign up?
Richard: Yeah so Macro Watch is a video newsletter and every couple of weeks I upload I make a new video it’s basically me doing a powerpoint presentation so for example a few days ago I published one on this subject about the treasury running down its bank account at the fed and how that’s going to impact liquidity and now I did that with I think 39 charts so I’ve got lots of charts I’ve got bullet points it’s a lot easier to understand the sort of concept when you when I explain it to you in a 20-minute video with charts in front of you it’s not that complicated if you see the charts so I explain things very clearly in these Macro Watch presentations and it focuses on the most important factors that drive the economy and the financial markets and the most important factors in my opinion are credit growth and liquidity for instance liquidity coming out of the fed quantitative easing and how that’s likely to impact all the financial markets the stocks bonds commodities and currency values so that’s what Macro Watch is if you subscribe you’ll receive one new video every couple of weeks from me and you’ll also have immediate access to all of the videos that I’ve made in the past Macro Watch started in october 2013 so it’s been going on for about seven and a half years there’s something like 75 hours worth of videos now you can watch it cover essentially every important topic on macro economics that you can imagine and including a number of different courses that spell these things out very clearly so I hope your listeners will will check check this out by visiting my website which is Richard Duncan economics dot com duncan economics.com and if you would like to subscribe i’d like to offer your listeners a 50 discount they should just click on the subscribe button and when prompted put in the coupon code the discount coupon code formula and if they use the formula discount code they can subscribe at a 50 discount so I hope they’ll check that out and at the very least they if they visit Richardduncaneconomics.com they can sign up for my free blog and follow my work that way without subscribing.
Buck: Well I think it’s it’s a tremendous value so I do recommend people check it out and particularly if you got really lost during this podcast because that means you need to sharpen up on some of these concepts not that they’re easy and that you should have easily gotten them but you know being able to understand this is of great value to make you a better investor make you feel better about your decisions. Richard, I want to thank you again for being on Wealth Formula Podcast and hopefully next time we have you on hopefully in the next in another three months or so we’ll have good news to share and we’ll all be partying like it’s 1999.
Richard: I hope so that would be really really great I can’t wait to begin traveling again.
Buck: That’s right me too. We’ll be right back.