As governments and central banks around the world throw money at their economies trying to mitigate the pernicious effects of the Covid-19 outbreak, debt is mounting at an alarming pace.
Once the first, acute phase of the pandemic-induced economic crisis ends, something will need to be done about this debt.
The panic buying of essential items around the globe – from food to, fittingly, toilet paper – sparked by the spread of the COVID-19 coronavirus has been mirrored by panic selling in capital markets. It’s almost as if investors were taking cash out of stocks and bonds to buy whatever food, hand sanitiser and toilet paper they could get their hands on.
Pessimism in global financial markets has reached heights not seen since the dark days of the great financial crisis of 2007-2009, which this current crisis threatens to overtake in depth and significance. But, as news about rapid tests for COVID-19 and resilience to deal with the virus begin to multiply, could investors hope for a bottom in the capital markets’ selloff?
Central banks are again under the limelight. With Mark Carney’s departure as governor of the Bank of England next month, Boris Johnson could try to seize the opportunity to curtail the central bank’s independence.
This should not come as a surprise. Already, Johnson’s soulmate from across the ocean, Donald Trump, has been making noises about the Federal Reserve being too independent (or rather: insubordinate) for his liking.
So, if these two authoritarian populists go for central banks, what are their chances of bringing them under their rule?
The central banks’ “extraordinary” and “non-conventional” measures are now more than a decade old and they are still going strong.
If initially they were only supposed to last for a few years after the financial crisis of 2007-2009 until things “went back to normal”, this expectation was quietly dropped once it became clear that the extraordinary had become ordinary.
But as these measures continue, their toxic side effects are increasing. They may in fact be contributing to the sluggishness of the world economy and to the lack of productive investment, rather than counteracting them.
Of all the fears sweeping the markets right now, perhaps the most worrying is the fear of a debt crisis in the corporate sector.
Warnings about corporate debt rising to unsustainable levels are intensifying, at a time when interest rates are at record lows and even Greece joined the club of negative-yield sovereign debt issuers.
Caught in the middle of the Brexit saga, European investors can be forgiven if they glossed over a speech by Fed Chairman Jerome Powell that could turn out to be the starting point of a very risky period for the global economy.
It’s no secret that President Donald Trump would want the Fed to cut interest rates and debase the dollar. Earlier this year, he called the Fed “crazy” and Powell himself, “clueless.”
Of course, Powell did not immediately show that these repeated attacks influenced his policy. However, in a speech he gave last week he reiterated his fondness for a very risky idea on how to ease monetary policy even further.
Just as it was beginning to look like the bond market’s luck was finally running out, President Trump made some remarks that all but guarantee that the bond rally will go on for a little while longer.
Last week, investors yet again favoured bonds over any other asset class, despite central banks cooing dovish everywhere.
The Fed is cutting rates? No worries, buy bonds. The European Central Bank prepares to push rates even further into negative territory? Bonds are the ticket. The Bank of England gets the printing press ready again? Oh yes, some bonds would be great.
What does well when the world’s most powerful man writes a furious tweet, followed by real life decisions that send stock market plunging? Bonds. But if you are still exposed to equities, where is the best place to be? Bond proxies.
This, at least, has been the scenario so far. But investors are forgetting that companies less dependent on the business cycle are not completely immune to economic turmoil.
It seems that nothing can break the bond rally — or deflate the bond bubble, as critics would say. Inflows into bond funds have hit a record this year, in tandem with record high bond prices, but how long can the euphoria last?