Welcome to Finance and Fury, the Furious Friday edition. Today we’re looking at Modern Monetary Theory in action. The first stage, how this is going to be practically done, involves the merging of the central banks and Government Treasury. We’ll also look at the increase of Crony capitalism that will emerge out of this. Large companies in debt get bail outs, but most get to remain open and actually profit out of this.

The first step of long term implementation – Central banks and treasuries merge

  1. MMT proposes governments that control their own currency can spend freely, as they can always create more money to pay off debts in their own currency –
  2. The theory suggests government spending can grow the economy to its full capacity, enrich the private sector, eliminate unemployment, and finance major programs such as universal healthcare, free college tuition, and green energy.
    1. If the spending generates a government deficit, this isn’t a problem either. The government’s deficit is by definition the private sector’s surplus – but the part of this theory that we will be focusing more on today is the enrichment of the private sector
  3. But this requires an intermediary – a government agency to take over and hand out the cash – Well – in the USA – there seem to be the groundwork in the CARES act (Coronavirus Aid, Relief, and Economic Security Act)
  4. There has been a lot of talk about Trump reigning in the Fed – but in reality – it is more of a merger – The main reason the Fed is now working with the Treasury is that it needs the Treasury to help it bail out a financial industry burdened with an avalanche of dodgy assets that are fast losing value – along with the record levels of corporate debt
    1. Think GFC 2.0 – bad debt on companies or financials in risk of defaults –
  5. The problem for the Fed alone is that it is only allowed to purchase or lend against securities with government guarantees
    1. these are assets like Treasury securities, agency mortgage-backed securities, or debt issued by Fannie Mae and Freddie Mac – why the Fed was allowed to buy back the worthless MBS off investment banks back in 2008/09
    2. But they can’t buy any equity or debt in companies – which would be a form of government sponsored funding mechanism for companies –
  6. But now to get around this limitation, the Treasury created a series of special-purpose vehicles (SPVs)
    1. A special-purpose vehicle (or entity) is a legal entity created to fulfill narrow, specific or temporary objectives. SPVs are typically used by companies to isolate the firm from financial risk – it is how property developers work with each single development – limits liability into one single entity
    2. The aim of these is to buy all manner of financial assets, backed by $425 billion in collateral conveniently supplied by the US taxpayer via the Exchange Stabilization Fund.
      1. an emergency reserve fund of the United States Treasury Department, normally used for foreign exchange intervention
    3. The Fed will lend to SPVs against this collateral which, when leveraged, could fund $4-5 trillion in asset purchases of additional assets beyond what the Fed itself could access in its mandate.
    4. Round about way for the Fed to circumvent their mandates – as even though the assets inside of the SPV may not have government guarantees, the SPV itself can
  7. In other words, this is a step towards the federal government nationalizing large chunks of the financial markets and companies listed on them – so now, the Fed is providing the money to the Government to buyout large sectors of the financial markers, whilst having BlackRock doing the trades
    1. So rather than the Government taking over the Fed, this scheme essentially is the start of merging the Fed and Treasury into one organization.
    2. In essence but also as a long-term effect, the Fed is giving the Treasury access to its printing press which is what is the worry in the long term, as the issue I see in the long term is that all of this gives Governments more control over the economy – and the supply of money
    3. Long term – this has the potential to create a socialist monetary state – gives the printing press needed for funding Universal Basic Incomes – and once these powers are in place – any future administration can look at implementing these policies

But why is this required – not the UBI but the bail out of large companies – through the creation of SPV

  1. Public companies are supposed to act in the best interest of their shareholders – but what is ‘in the interest’ of shareholders has taken on a distinctly short-term bias – covered this a lot – shareholder value theory from Friedman – biggest trend in short-term practices over the past decade has been share buybacks
    1. Drives up the share price – juicing EPS – if you haven’t listed to the episodes on Corporate debt bubbles fuelling the markets – may be worthwhile to go back and listen
    2. But now thousands of the companies lobbying the government for bailouts have spent billions on buybacks over the last decade – many public companies have raised the capital for buybacks from issuing debt
    3. Remember: 2019 was the ‘year of the buyback’, the second-biggest on record after 2018, third was 2017 – Over the past few years Trillions was issued as corporate debt to buy back corporate equity –
  2. Most major companies should have been extremely well capitalized after a record bull market – But interest costs were low, and short-term shareholder values had to be maximised – and the real bull market may have never existed – perception
    1. The market is competitive after all – if one company is manipulating its price for the perceived capital gains – then other companies want a piece of that to not look like underperformers this quarter
    2. Now these companies are crying poor – as if their revenues suffer – they can’t even afford the interest bills on the debts raised – Remember – this debt wasn’t for productive long-term investments – so the net effect is total profits decline whilst the EPS looks like it has gone up

Calling for bail outs is All in response to The policy effects from lock downs –

  1. But most of the Big businesses have been able to are allowed to stay open – smaller businesses suffering – lots of people work for smaller companies – self-employed people etc.
    1. Look around – what companies are doing well right now – in Aus the two monopolistic companies in WOW and WES/COL – or Maccas and other large fast food chains – but the average restaurant is currently feeling it – then in the USA Amazon, Walmart, tech giants
  2. In these sort of situations – An economic downturn almost always favours giants like Microsoft, Apple and Amazon, – the new normal being proposed seems almost tailor-made for their future success
    1. Their share prices have climbed back up – combined value rose more than three-quarters of a trillion dollars since the recent market low — more than the cumulative gain of the bottom half of all stocks in the S&P 500 – seems like Investors are betting, in part, that these government policies will accelerate the already growing power of America’s corporate colossuses
    2. Seems to be a sign of the market as well – they have resilient business models because they can do everything online- can keep processing orders – but the market/investors are betting on the future – that the bigger, stronger company is going to win versus its smaller peer
    3. the depth of the current economic decline makes it reasonable to expect that such large companies will emerge in an even more dominant position this time around – made much worse due to the high failure rates of small businesses

This has been a long-term trend – Large companies making up large amounts of indexes – Aus is bad – top 10 = 40%

  1. But top 10 stocks in the S&P 500 make up 27% of the index – The top five companies alone — Microsoft, Apple, Amazon, Alphabet and Facebook — account for 20% of the index.
    1. This also makes markers more volatile – few companies go poorly – then the whole market does
    2. Example – All five closed lower one day last week – drag the S&P 500 down 0.5% – but 330 of the 500 companies in the index were higher – same for us – can have most companies in bottom 250 of ASX300 go up, but if banks and resources – or top 20 companies go down – market would decline

Main reasons for this long-term trend – increase in Crony capitalism – this is an economic system in which businesses thrive not as a result of risk in a competitive market, but rather as a return on money amassed through a nexus (connection) between a business class and the political class

  1. While the concentration of market wealth in top companies has hit a peak in recent weeks, it has been a long-term trend in recent years – reflecting the changes in the structure of the corporate world. The years since the 2008 financial crisis have been marked by an increase in the consolidation of some industries, such as banking, retail and airlines.
  2. Giant companies will dominate – and take larger amounts of employment and profits – not due to free market – but due to political policies – barriers to entry and financial support
    1. In the USA – in 1975 –top 100 companies took home 49% of the earnings of all public companies – today it is at 85%-90%
  3. Many of the largest financials should have gone under in 2008 – but they were bailed out and no competition was allowed –
    1. This time around – large companies that have been mismanaged again will be bailed out through the SPV
    2. At the same time, the peculiar quirks of the COVID-19 crisis — almost coincidentally — play to the business strengths of the big companies that were already the largest players in the US economy
  4. Regulation and the non-enforcement of anti-trust laws has been another major reason – Companies allowed to buy up everything – even if it isn’t within their business model – reduces competition and concentrates the market further –
  5. Politicians don’t want to enforce this – lose donor funding through lobbying efforts – but who cares about small businesses – they don’t give them anything
    1. Political policies – allowing one rule for me and one for thee –
    2. Large companies allowed to stay open – they are having their debts bought back for poor management – But the average business has been shut down or lost customers – small business owners are getting fined or jailed – but it is all okay, as now they get government money. Or do they?
  6. When it comes to the individuals – This is where MMT comes back into it – Doesn’t really take much to explain how demand side spending will occur – bonus payments to welfare recipients – talks in the USA to cancel student debts – giving additional tax refunds – doesn’t matter in what form is occurs – the end result it to put more money into people hands– why?
  7. People get money to spend – and the large companies that remain open like Amazon are where they will be spending it
  8. The policies decision are focusing on boosting consumption – demand side economics – consumption represents around 60-70% of GDP in most western nations – our economy is consumption based
    1. Push or pull – chicken or the egg – Theory goes – for infinite growth – doesn’t matter if people have choice on where they work or personal freedoms – if you give them money they will spend it – and spend it at large stores – well then the economy will be fine – we are just seen as consumers in this economic model –
    2. And if governments can print the money and control this as a monopoly – along with having control over policies which allow monopolistic companies to prosper whilst others suffer – you have a monopoly on a monopoly
  9. There is an extreme example of this – it is fiction but – idiocracy – brawndo employed almost everyone in the country and replaced all water with power aid equivalent –why? Is it for profits – no, Brawndo’sgot what plants crave: It’s got electrolytes!
    1. Why were they allowed to do this? They bought out the FDA and FCC and a company got to determine – food companies – sugar studies
  10. Just something to watch out for – continue looking at this next week – Monday what investments can work going forward – and which ones wont -and Friday look at some data on expectations for the recovery

Thank you for listening to today’s episode. If you want to get in contact you can do so here: http://financeandfury.com.au/contact/

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