THE ECONOCRISIS (Part 2): Energy Shortages, Everything Shortages Assure Abundant Inflation and Stock Troubles
The energy crisis spills across the ocean
And I'm not talking about the California spill.
The budding energy crisis I wrote about last week is likely to explode globally this winter into a massive crisis, which is why it is already whipping up US markets. Within just a few days after I wrote that article, West Texas Intermediate crude and natural gas shot up enough to beat all previous highs of the past four years, and Brent crude beat all highs of the last three years. That didn't take long. (Just as it didn't take long after I wrote last Friday about high French electrical rates over the weekend for Italy's rates to leap up 30%. It's hard to keep up right now.)
How are skyrocketing energy prices in Europe and Asia impacting the US? Naturally, you think an energy crisis will show up at the gas pumps. However, sometimes in shows up in ways that do not readily come to mind:
The world's top commodity trading houses are being told by brokers and exchanges to deposit hundreds of millions of dollars in extra funds to cover their exposure to soaring [natural] gas prices, seven sources with direct knowledge of the matter told Reuters.... To hedge against price differences between physical gas in the United States now and the rest of the world in the future, traders need to sell short positions in the European and Asian gas futures markets.... The strategy caused a liquidity squeeze last month when European gas prices soared due to a variety of factors including low inventories, high demand for gas in Asia, low Russian and LNG supply to Europe, and outages.... Traders typically borrow to build short positions, with 85-90% of the funding coming from banks.... With the front-month TTF gas contract , a European benchmark, rocketing 385% since January ... traders were forced to provide extra funds from their own reserves or with credit lines from banks.... Sources ... described the margin calls as on a scale not seen before.
Zero Hedge notes,
This is not just a modest break of the strategy, it's a multiple-sigma collapse of what was -- for 12 years -- a relatively low risk, slow reversion strategy.
For the US, the dawning crisis is being exacerbated by recent acts of the Biden Administration, as if it is not bad enough in other parts of the world already. The administration's efforts to curtail gas drilling and exploration and terminate such projects as the Keystone XL crude oil pipeline put us in greater risk of an energy crisis over time. (Even if one believes those things are the right thing to do for environmental reasons, it doesn't change the fact that it all adds up to pressing us harder into a crisis that has already fully developed in some parts of the world while making us less resilient for the time being.)
US energy-crisis risks are also being worsened by investment managers on Wall Street and in Europe who, in order to smell nice and green to their progressives investors and Facebook terrorists, have curtailed investments in the US oil industry, coal industry and other industries that Thundering Thunberg of Sweden rales against at her UN angerfests.
I'm for being green in order to live in a beautiful and healthy world, but that doesn't mean we are not seriously hurting ourselves economically at a time when we can ill-afford more hurt. There is a serious immediate economic impact to these decisions, and it doesn't do us any good to deny that reality:
ESG investment compliance means all the gas in our offshore waters that could have powered the UK to becoming a truly carbon-nuetral, energy secure state in 20-30 years time is untapped and un-investible. For now – the skills to tap it are already disappearing.
ESG has evolved into a religion, a high church of environmental orthodoxy. Its heretical to suggest ESG can’t work unless we evolve towards a cleaner energy ecosystem by continuing to burn hydrocarbons. A crisis this way comes:... All the posts on Linked-In boasting about green investments, or the industry awards for Green Bond of the year, or the multitude of certificates one can earn on ESG investments ... will all count for nothing this winter.
This winter – people are going to die of cold.... Income inequalities will be dramatically exposed as the most vulnerable in society face a stark choice: Heat or Eat....
This winter the UK is likely to be on its knees begging energy from wherever it’s available. Europe will be in as much trouble. The Middle East will be charging whatever they can get away with, and the capacity to deliver is limited. The much vaunted energy-independence of the US will be tested
Bill Blaine, Morning Porridge
These are the existing background deficits in US energy from which the energy crisis in other parts of the world will be trying to draw additional supply, raising prices here.
Our intrepid leader in the US, meanwhile, has clubbed OPEC members over the head and demanded lower prices, even as he has curbed supply ... as if supply and demand have nothing to do with prices. Progressive politicians think they can create the economy by decree. I'll note that hasn't been going really well for China right now where they actually have the full power of decree.
Due to China's power crisis, suppliers for Apple and Tesla notified the two Tech. behemoths they would be temporarily shutting down operations. These factory frownouts are due to mandatory government conservation policies. So, there is another form of spillover from the China energy crisis onto US shores already with lots more than those examples.
Here is, yet, another way China is using its power of decree to get a grip on its own energy crisis that will adversely impact all all nations, including the US: The central government has ordained that state-owned energy companies fill up with oil and other energy sources, regardless of cost, in order to be sure the nation has enough energy to make it through this winter of shortages. That, of course, will push up prices, regardless of cost, for everyone else in the global energy market ... if they want their slice of the diminished energy pie.
China's action may even trigger panic buying among global energy merchants who rush to get what they will need for their winter sales before they are priced out of the retail market because their competitors got their supplies at much better prices. Speculators are also immediately seeing the writing on the wall and jumping in to bid up prices in anticipation of great gains. (It looks like commodity ETFs could be a good hedge from the faltering stock market right now, as even with commodity prices already on the rapid rise, long oil trades are far from crowded.)
As energy prices are heating up, homes this winter all over the northern hemisphere will be cooling down.
High energy prices also mean the shortages of goods will become greater:
The same business impact from energy seen inside of China is also taking place inside of Europe:
Europe's increasingly expensive gas and electricity prices are sending a strong signal to manufacturers to consider temporary plant closures.... Front-month gas futures are now more than six times more expensive than at this point last year, as the region struggles to import enough gas to refill its depleted storage ahead of the winter peak heating season. Regional storage sites are still only 74.7% full, the lowest for more than a decade.... Lower consumption will be necessary to prevent stocks eroding to critically low levels and risking fuel supplies running out this winter.... Steeply rising energy costs will force many manufacturers to reassess their production plans this winter, especially those with energy-intensive processes and/or limited ability to raise the price of their own products. For manufacturers, short closures have the double benefit of cutting energy costs and also driving up the price of their products, helping protect margins against rising power and gas prices.... Plant closures would, however, worsen problems throughout the supply chain and intensify the upward pressure on inflation....
That expansion of turmoil in oil and gas is already bringing shortages of food:
Skyrocketing power prices are forcing the vast network of Dutch glasshouses -- the continent’s biggest -- to go dark or scale back, threatening to cut supplies at Europe’s fruit and vegetable stalls.... The Netherlands is the world’s second-largest exporter of food by value, thanks in part to its high-yielding glasshouses that span some 10,000 hectares (25,000 acres) ... making the country one of Europe’s key suppliers of fresh produce ... but heating these sprawling glass structures uses up to 3 billion cubic meters of natural gas a year.... Greenhouses are already turning darker.
The mass speculation that will drive up energy prices isn't like other speculative trades or panic-buying of toilet paper or soaring copper prices. If fuel supplies actually run out, people will die.
The 4 times spike in Gas prices this year has been a shocking wake-up call, highlighting energy insecurity in Europe and particularly the UK. Gas prices will remain elevated for months to come. The consequences are going to be brutal – and fatal for some.
Bill Blaine, Morning Porridge
If that feels like overstatement, just remember how quickly things turned deadly in parts of Texas last winter and how some home power bills shot up to over $3,000 a month while two-hundred people died from power failures. That was due to one pipeline system shutting down due to a technical/hacking problem. Some pipelines may be shutting down this winter due to lack of anything to put in them.
Critical regional energy crises can happen unexpectedly in tight markets and spill over to other nations that are competing for survival of their citizens. The rich and the warm will be best positioned to live because they can afford energy, "regardless of cost." Russia and the Middle East will be sitting in the king's chair. Balances of power may shift. Conflicts will rise.
Prediction: A global energy crisis will assure this is the winter of our discontent with higher prices, food shortages, a lot more cold houses, and possibly international conflict.
Whose debt default is it?
The global rise in interest rates isn't going to help Evergrande out of its debt collapse, nor the rest of Chinese real estate. According to Morgan Stanley's chief global strategist,
Troubles are reverberating across China's property sector and the world, revealing a very rational reason why long-term interest rates would not rise too far: the global economy is heavily indebted and too financially fragile to handle tighter credit conditions.
We are caught in a debt trap.
Interest rates cannot rise without causing serious trouble, but for now they are rising anyway, pushing us toward that trouble. That means central banks really cannot do much to fight inflation since raising interest rates -- the one area where they are hemmed in by their years of profligacy and the one tool they have for fighting inflation -- will kill their economies and their governments.
Concern about rising inflation requiring a raise in interest rates and termination of Fed "money printing," a colloquial term for adding money to bank reserves by hosing up US treasuries in order to help fund the government, isn't stopping the present Democrat-owned government in the US from doing everything it can to try to raise the nation's towering debt levels faster than ever before.
And "ever before" was really, really fast last year under Trump because Republicans LOVE a good debt binge, too, so long as it is spent on their favorite programs and not on those favored by the Dems. The two parties have proven forever they are just Frick and Frack when it comes to out-of-control spending. You merely have a choice of the Warfare Party or the Welfare Party. Either group will spend the nation broke so long as it goes broke for what they want.
Republicans have a history of playing political football in games of brinksmanship with the US government debt ceiling, but right now they are playing it in a rather rough neighborhood. So, don't be surprised if we all get skinned up a little. Neither party will let the nation default on the debt. They will, in the very least, come to some short-term measure to kick the can down the road until next year (this sentence originally drafted a couple days before Mitch McConnell proposed a short-distance kick), but that doesn't mean their brinksmanship will not cause problems just as I warned it would cause a credit downgrade in 2011, and it did. Here is the thing that I argued back then, which is how things ended up: while politicians may know they won't go as far as default, the credit-rating agencies don't necessarily know that and may downgrade the government before the game of brinksmanship is over. It's a dangerous game in a treacherous time.
While the Fed developed a playbook after the 2011 game of brinksmanship to try to manage a default scenario, the plays are not as workable now as they readily were back then because they involve the Fed sweeping a lot of treasuries off the market in a hurry before they go into default, and that kind of treasury buying is incompatible with the Fed's grand tapering plan, driven by inflation. In 2011 we were not facing skyrocketing inflation. Now inflation could put a limit on those untested plays as it already appears to be doing quite effectively by getting the Fed to blink last month on its timeline for tapering, moving it up from what the Fed had been leading people to believe only a few months back.
Dang inflation! The Fed's up against it.
Since I've covered actual hot inflation measures extensively, I'll just give this snapshot of inflation levels from Bank of America:
oil up 55%,
natural gas up 122%,
food up 33%,
shipping costs up 225% in 21;
past 6-months US CPI up 7.6% (annualized),
core CPI up 6.8%,
wages 4.9%
And that's just the short list! (See my earlier articles, if you missed them, for more on shortages: "Shortages and Inflation Are Ripping the World’s Face Off" and "Textbook Stagflation Rising Faster than Any Time Since IHS Began Tracking.")
Even Stephen Roach, a high-profile economist and the former Morgan Stanley Asia chairman says we are but one glitch away from 1970's stagflation now. Roach says we are in a situation where ...
We were sort of one supply chain glitch away from stagflation. That seems to be playing out, unfortunately.... It’s worrisome for the overall economic outlook and raises serious questions about the wisdom of central bank policies — especially that of the Federal Reserve.... The likelihood of continued [supply chain] bottlenecks moving from one area to another, which is strikingly reminiscent of what we saw in the early 1970s, suggests that inflation will stay at these elevated levels for longer than we thought,†Roach said. “The Federal Reserve is already beginning to back pedal on its recent view that these pressures will fade quickly.â€
Of course, all of the above situations are playing out right as the Federal Reserve and other central banks are planning to pull their support because of inflation as we enter a winter of many growing crises.
Says the Guardian,
A supply crunch that initially put a question mark over the availability of luxury cars or whether there would be enough PlayStations under our Christmas trees is instead morphing into a full-blown crisis featuring a shortage of energy, labour and transport from Liverpool to Los Angeles, and from Qingdao to Queensland.
While I've noted for a year that the Fed was delusionally wrong about inflation being "transitory" on the basis that supply-chain problems were clearly not going to be transitory for reasons I stated over and over, the Fed is finally catching on and so are other big names. Bond guru and president of Queens’ College, Cambridge, Mohamed El Erian states,
The supply chain problems are much more persistent than most policymakers expected, although companies are less surprised.... Governments are having to rethink quickly because the three elements – supply side, transport, labour – are coming together to blow a stagflationary wind through the global economy.
It's already a big storm blowing. Expect a chill winter, and know that this time central banks cannot help anyone with the chill, except by relighting the inflationary fires to warm you.
Stocks in the stockade for winter
Here are some of the headwinds stocks are bucking now and will be continuing to press against into the winter (making all these a prediction of sorts, too):
Valuations remain highly elevated even after the recent top and are likely to remain overvalued because ...
Earnings estimates will get downwardly revised keeping valuations elevated even as prices come down.
Inflation is far stickier than the stock market (which believed the Fed) expected it would be; and it will run hotter still.
Thus, the Fed will move forward with "tapering" its balance sheet purchases in November, relinquishing its control over bond yields over the next half year until bonds again are completely free to go where they want
The Fed's taper historically has created a dismal environment for stocks by taking away the punch bowl. (See my recent article, "The Market Damage History Shows You Can EXPECT from Fed Tapering."
Corporate profit margins will shrink due to inflationary pressures and eventually due to higher taxes. Anticipated tax changes may also pressure more stock sales now, putting negative pressure on prices by increasing supply of shares on the market.
Economic growth will continue to wane due to labor shortages, still-worsening shipping tangles and blockages, and severe shortages of materials, parts, and products.
Liquidity from central banks will continue to contract on a global scale.
Consumer confidence will erode badly as shortages spread to more products and more regions and as inflation bites deeper into pocket books.
While we're entering the holiday shopping season, time for Santa Clause rallies, shopping will be a major disappointment this year due to many of the above scenarios.
Forced termination of millions of workers, including truckers and port workers and medical personnel who refuse vaccination, will make all of the above economic conditions worse over the holiday season and on into winter.
Prediction: Thus, I expect stocks to buckle this fall and winter under this rising wall of serious economic troubles (not just worries), and I expect bonds to do no better, as yields slowly rise while the Fed removes its intervention in US bond yields, which means treasury prices fall. These markets may go down in stages wherein the deeper we get into the fall and winter, the deeper the markets are likely to descend as the pressures above keep piling on.
Barring some big black-swan event to send the stock market over a cliff, I think the market is likely to decline more like the descent from the irrational dot-com days in stages, rather than like the waterfall in 2020, given the bullheaded sentiment that has carried it to the present undeserved lofty levels. I think that sentiment is not going to give up easily. Tapering, after all, slowly stops putting air in the tires, but it doesn't take air out of the tires as we experienced with quantitative tightening back in 2018. Potential black swans within the environment I've described, however, are perched around the horizon like vultures.
I think the Fed is also stockpiling reverse repos to a level approaching two-trillion dollars by the time of taper so it can role those off, dumping money back into bank reserves, as it tapers off from adding money to reserves with treasuring purchases. That will soften the blow. A lesson learned, I think, from the last taper. Remember, the stock market mostly fell apart as soon as the last tapering of asset purchases was complete, not so much while it was happening, as "tapering" means some asset purchases are continuing.
“The training wheels are kind of off for the economy,†said Michael Feroli, chief U.S. economist at JPMorgan Chase, the country’s biggest bank. “If the party’s going to go on, the Fed’s got to let it go on.â€
That’s not likely to happen for much longer. Powell acknowledged at a conference on Wednesday that inflation pressures are likely to continue into next year, even as he expects them to eventually ease. The Fed chair said he found it “frustrating to see the bottlenecks and supply chain problems not getting better — in fact at the margins apparently getting a little bit worse." On Friday, the government reported that a key measure of inflation closely monitored by the Fed rose to another 30-year high.
"Frustrating" because the economy is not cooperating with Fed plans the way the Fed needed it to in order to avoid the trap it is finding itself caught in. The Fed meddlers were wistfully hoping for a break they are not getting and are not about to get. This is where I've been predicting for the past year all of this would eventually wind up -- not at all like the Fed first assured us all, which is what most people and investors were hanging on. And that is where even the Fed is now admitting we appear to be heading. The Fed was wrong.
Expect a chill winter with little Fed fuel for heat.
“We did have the perfect confluence of tailwinds†boosting the economy earlier this year when everything seemed to be reopening amid widespread vaccinations, bolstered by relief checks and other forms of aid, said Julia Coronado, a former Fed economist and president of MacroPolicy Perspectives. “Now that’s all in the rearview mirror.â€
Yes, the Fed is now forced by inflation to pull the plug on stimulus just as the lights are going out. Let's hope the Fed gets the full blame for game it set in play.
“The global chip and energy shortage is getting worse, the inflation is rising, the recovery may be slowing, and that puts central banks between a rock and a hard place,†Ipek Ozkardeskaya, a senior analyst at Swissquote, wrote in a note. “The best they could do is to do nothing, or to tighten their monetary policy to avoid losing control on the economy.â€
The Fed will feel desperately pressured to jump back in when its attempts to pull out cause roiling troubles, but inflation will be bearing its teeth in the Fed's face like a guard dog, making re-entry into any kind of recovery effort nowhere near as easy as in the past nor as effective (ultimately even counter-effective). Then there is the Law of Diminishing Returns that took the potency out of FedMed in 2020. If you've read here long, you may recall March of 2020 was when the Fed, for the first time, could not lift the stock market on its own and desperately needed the full muscle of the federal government to come in alongside the Fed and join in the lifting.
That indicates, even if the Fed does step back in, you shouldn't expect the kind of sustained rally that has happened from trillions of dollars in rescue funds in the past whenever the market falls because inflation and the Law of Diminishing returns will be huge backdrafts to any Fed efforts at this point.
Just in time for taxes
Adding to all the mischief from the madding crowd in Washington that I laid out in my last post, President Biden wants to impose the largest tax increase since 1968. That should help! Raising the bottom line of businesses with the Trump Tax Cuts (much as I disliked them for how they focused on aiding billionaires) offset the Fed's tightening in 2018 by creating enough new cash flow to refuel stock buybacks and dividends, yet we still had serious market troubles! Imagine how much worse things will go when the Fed reduces stimulus and the government reduces the bottom line of businesses with massive tax increases at the same time.
I suppose it is slightly possible anticipated tax changes will move buybacks forward to use the company cash before it is taxed away, but that's hard to say. It may just as likely cause investors to sell off their stocks this winter, knowing earnings will be falling off a cliff and that higher personal capital-gains taxes are likely forthcoming.
Generally speaking, it is safe to say that large tax increases have never stimulated a foundering economy and that increasing capital gains taxes and corporate taxes have never boosted the stock market either, other than the initial rush to move in time to avoid the taxes. Usually tax cuts are used as a form of stimulus. With government and central-bank stimulus already seen to be suffering a significantly diminishing return during the COVID years, what happens when both are removed simultaneously, and the government, in fact, applies tax tightening?
It doesn't strike me as likely to be good chemistry.
Prediction: Biden's stimulus for infrastructure will also create more demand for more materials and labor already in short supply, making the commodities shortage problem, shipping congestion into the US, and inflation all worse down the road in 2022. The inflation side will be doubled by the fact that the tax plan will likely not raise enough taxes to pay for all the planned spending increases, so the Fed will be pressed to end its taper to create more money during a time of high inflation in order to help fund the government.
Michael Every of Rabobank writes,
The US is perhaps close to introducing further major fiscal stimulus, with little of this able to address near-term infrastructure/logistical shortfalls. Needless to say, the impact on shipping, if such stimulus is passed, could be enormous. As such, while central banks and governments still insist that inflation is transitory, supply-chain dynamics suggest it is in fact closer to becoming systemically entrenched.... Meanwhile, in Shanghai and Ningbo there were also 154 ships waiting to unload at time of writing. The power-cuts seeing Chinese factories only operating 3-4 day weeks in many locations suggest a slow-down in the pace of goods accumulating at ports, but also imply disruption, shortages, and delays in loading, still making problems worse overall. Imagine large-scale US stimulus on top of a drop in supply! Overall, “endemic congestion†is the perfect definition for the state of the global shipping market. It is the results of many factors: vessels cancellations and capacity control; Covid; bursts of demand in some trade lines; imbalances in container distribution; regular disruption in key arteries and ports; a backlog and increasing volumes cannot be dealt with at the same time, all creating an exponentially amplifying effect. The epicenter is in the Pacific, but the problem is global. At present 10% of global container capacity is waiting to be unloaded on ship at the anchor outside some port. Solutions need to be found quickly – but can they be?
Tariffs are another kind of tax that may be coming back. With China having failed far short of living up to the Phase I deal from the Trump Trade Wars (as I wrote back then it most certainly would, making the deal not much better than a joke that Trump used to get out of a situation that was not going well for him pre-election), the Biden Administration is choosing to enforce the deal. While enforcement of agreements is good, it is likely to add to shortages of goods in the US imported from China and to US citizen's tax burdens.
Politico reports U.S. Trade Representative Katherine Tai as saying,
I would say that the 301 tariffs are a tool for creating the kind of effective policies, and [are] something for us to build on and to use in terms of defending to the hilt the interests of the American economy, the American worker and American businesses and our farmers, too.
Possibly a needed measure, but certainly something that will cause more supply shortages if implemented or, at least, cause more inflation for imported goods where tariffs get added to the cost of goods sold and, hence, to the eventual pricing.
Conclusion
Even ignoring the predictions here, just add this list of impending troubles/headwinds to the last article I wrote, and you can see why I think we are already in a true economic crisis that could turn into a global economic collapse. I'm not predicting that it will go that far this year or next because you can never know what extreme countermeasures will be taken when the threat of utter collapse starts to materialize in order to kick the can down the road again. The Fed has certainly invented countermeasures in the past decade that we've never seen used before.
Right now we don't even know what countermeasures will be taken against the immediate economic crisis, which neither the Fed nor the government seem to realize is forming or that everything they are doing is only adding to it. However, I believe countermeasures will have a much tougher time this time around and won't accomplish much for long. It's my opinion that the Fed cannot harness this whirlwind. The side-effects from all past Fed and government interventions, such as scorching and relentless inflation and energy shortages, are piling in against us all, and the direct effects of current Fed and government actions look more like thoughtless and impending disaster than like enlightened assistance.