The 35-year US Financial High Wire Act Is Becoming Increasingly Unstable

In the 1990s the term “Greenspan Put” became fashionable as it became obvious that the then US Fed Governor saw his primary job as forestalling any major stock market correction after the massive rescue job follwoing the 1987 crash.

Together with the technology revolution of the 1990s, and the massive financial industry deregulation fully supported by Greenspan, this helped stoke a massive bubble that burst in 2000 and bottomed in 2003. There are many parallels with the dot com bubble and the present technology bubble with respect to ridiculous valuations and companies with no tenable business plan being valued at billions of dollars.

Interest rates were slashed, the government moved from a balanced budget to large deficits as the Global War on Terror (GWOT) expenditures escalated, and a massive level of financial leverage and control fraud (e.g. “liar loans”, the “originate to securitize mortgage pipeline”) unleashed to rescue the financial economy from disaster (in 2003 Ford was having problems rolling over its commercial paper). A new bubble was created, which itself burst spectacularly in the 2008 GFC.

By then Greenspan was gone and Bernanke was in, but he didn’t disappoint the financiers and untold US$ trillions were printed to stop the liquidity crisis, and President Obama made sure that the financiers were not punished for their widespread crimes. In addition, the highly questionable legal veracity of many of the mortgage loans was hushed up (a few borrowers educated themselves enough to get their loans cancelled due to the lack of the proper paperwork) and the cost of the massive bailouts funded through more government debt. As the economy still struggled to move forward, and even looked as if it may collapse back into recession (with the European sovereign debt crisis in full flow), the Fed Funds rate was kept at the crisis level of nearly zero percent and the printing press (quantitative easing) ramped up.

Another financial bubble was unleashed, which Bernanke’s successor Yellen tried to reign in very slowly between 2016 and 2019, but in late 2019 the inter-bank lending market started to freeze up warning of a new massive financial crisis. It was quickly and quietly bailed out by Yellen’s successor, Powell (she had moved to be the Secretary of the Treasury).

Powell and Yellen then used the COVID crisis as an opportunity once again to bail out the banks and big corporations through money printing and massive government deficit spending. Another bubble was created, and in late 2021 Powell turned off the QE spigot and raised interest rates. Within a year, the US financial markets and economy looked seriously sick. But just then, the US government came to the rescue with a large jump in deficit spending which Powell refused to offset through interest rate rises. A mini bubble was created, given extra juice by the bailout of the feckless small banks (e.g. Silicon Valley Bank) that had built up positions in government bonds as their prices were falling; with all the big depositors made whole.

And now we sit in December 2023, with a stock market that is close to reclaiming its previous highs and the 10-year government debt interest rate having fallen from 5% to 4%, removing much of the effects of the Fed interest rate tightening, and the US government spending like crazy with a budget deficit of about 6% during a period of economic growth. And what does Jerome Powell do? He starts talking about the possibility of interest rate cuts in 2024! Pouring gasoline onto the financial fire. But why would he do this, apart from trying to keep the Democrats with a chance of getting re-elected? Is something big and bad brewing underneath?

During the period of predominantly low and falling interest rates of the past decades, the big banks and others have loaded their balance sheets with government bonds which tended to gain in price (the effect of falling interest rates). From late 2021 interest rates went up very fast, with Fed Funds moving from near 0% to 5% and 10-year government bond rates moving from 1.5% to above 4%, creating very large losses in bank investment portfolios. In addition, depositors started to move significant amounts of money out of bank deposits and into money market funds, a modern version of a bank run. This dynamic raised its head with the collapse and rescue of Silicon Valley Bank and others but was papered over by the Fed and the government. This process has not stopped and is only being covered up by the ability of banks to market securities as “not for sale” and therefore not to have to account for losses in value, and borrow money from the Federal Reserve. The trick is to get interest rates down again so that the banks don’t have to realize those losses to fund deposit outflows. These losses are huge, as with Bank of America where the losses totalled US$131.6 billion in Q3 2023; and the losses could be as high as US$650 billion for the major US banks as a whole. These are the same banks that have massive levels of concentrated exposure to derivatives and hedge funds; the “too big to fail” standard has lead to an ever increasing level of risk concentration in a few large players. Any severe economic and financial market crisis may trigger a lending crisis between the major US banks, as the scale of these (and other) losses increasingly become a problem for revenue and deposit starved banks.

With respect to financial markets it is good to have a regular “clearing of the chaff” to remove the incompetent and unduly risk-taking players, but this has not really been done now for decades; instead they have been repeatedly bailed out from their own mistakes. Such an environment creates an ever more risk-taking environment, with the possibility of relatively unknown institutions harbouring huge amounts of financial leverage. Their collapses presage major crashes by highlighting the underlying instability of the system. In 1998 the boutique investment firm Long Term Capital Management (LTCM) blew up and it was discovered that it had such colossal leverage that it could blow up the whole financial system; it was quickly rescued by a consortium of banks corralled by the Federal Reserve. Two years later the dot com bubble crashed.

In 2007 sub-prime mortgage lenders started to go bankrupt, New Century Financial being the biggest case. Two Bear Sterns mortgaged-related investment funds also lost most of their value, as did the portfolios of some major European banks. In response, the Federal Reserve slashed interest rates but this did not stop the crisis from escalating. In March 2008 Bear Sterns (the fifth biggest US investment bank) imploded and was taken over by JP Morgan for a nominal sum; this marked the top of the stock market. In September everything falls apart as Fannie Mae and Freddie Mac are bailed out by the government, and Lehman Brothers collapses.

In March 2021 the family investment office of Bill Hwang, Archegos Capital Managememt, imploded due to massive leverage. Losing US$20 billion in 2 days! Much of these losses were eaten by the large financial firms that were funding Archegos’ huge leverage. At about the same time, Greensill Capital collapsed with losses in the billions; due to its inability to rollover insurance for its working capital.

This was at a time of very low interest rates and rising financial markets. March 2023 brought the collapse of Silicon Valley Bank and Signature Bank due to a depositor run and massive losses in its “not for sale” bond portfolio; triggering a rapid state-funded rescue (that included all the well-connected large depositors). Across the Atlantic in Switzerland, one of the biggest banks in the world then collapsed, Credit Suisse. This was covered up by a Swiss-state financially supported takeover by the other big Swiss Bank UBS; akin to combining two men with a broken leg to help them walk better.

So, what is Mr. Powell worried about? The car loan portfolios of the large banks are about to implode as lending terms had increased to as much as 72 months and the shortages of cars due to COVID had driven new and used car prices to ridiculous levels. With buyers still underwater in their previous car loans (the loan is worth more than the tanking value of the car) and finances pinched by inflation and rising interest rates, and the COVID handouts spent, the car market is starting to grind to a halt. This is very bad news for dealers, who finance their car inventory on credit with the big banks. In addition, the zero-rates of the COVID crisis were left too low for too long and created a new housing bubble that is now deflating. Together with the maxing out of credit cards, this is toxic for the banks’ ability to make money. Add in the “not for sale” portfolio losses, the allure of money market funds offering higher rates, and the inability of the banks to borrow short at low rates and lend long at higher rates to make money, and life for the banks looks pretty bleak. There are also probably a number of highly leveraged bombs waiting to go off, some made opaque through the use of highly complex financial instruments, if financial conditions tighten or even just stay tight.

So better for Powell to not only stop any rate rises but start talking about 2024 rate cuts, even though core inflation is twice his target of 2%. As previously, any rate pause/cuts may not solve the underlying problem and in fact may mark the real start of the crisis. Perhaps the New Year brings a market top as in 2018 and then its downhill from there, or perhaps Powell can string things out to the election? Whichever it is, the underlying problems will not go away and the increasing indebtedness and deficits of the government are reducing its ability to once again bail out the financial system. Any re-occurrence of rising inflation pressures will then threaten a 1979 scenario, but this time with massively higher levels of debt that will act as an accelerant to the crisis. Anything like the end of 1970s interest rates would utterly destroy the current massively-leveraged US economy.

This will be the last thing that the US capitalist-dominated state needs as it tries to stop BRINCISSTAN from undoing its global hegemony; a military giant with financial and economic feet that teeter on the edge of collapse. With the inevitable loss of Ukraine, the miscalculations of the Zionist neocons in Palestine, and the refusal of the Chinese economy not to keep growing, whoever wins in what will be a tumultuous 2024 will be presented with an even more challenging 2025.