Friday, March 30, 2012
“All of the people who were 100% wrong [back in ‘08] are saying that everything’s OK [now]. I am telling them they didn’t solve the problem and are making it so much worse.”
Peter Schiff, the divisive investor and commentator that predicted the subprime/real-estate bubble, is forecasting a U.S. dollar and bond crisis over the next couple of years. Schiff blames intervened bond markets, where rates are artificially and excessively low, and expects the coming crisis to blow the 2008-9 financial crisis out of the water.
There is little doubt that the Federal Reserve, with Chairman Ben Bernanke at the helm, is holding markets by the hand. Bernanke, himself a divisive figure, has done all he can to push interest rates lower, using quantitative easing and Operation Twist once nominal rates had hit the zero-range. While many believe ultra-loose monetary policy is dangerous, Schiff thinks it will lead to a catastrophic correction.
“The more you delay it, the bigger it will be,” Schiff tells Forbes in a phone interview Tuesday, “so we need to raise interest rates during the recession to confront the inefficiencies.” Schiff, who runs Euro Pacific Capital and is seen by many as permanently bearish, argues that government-intervened bond markets are leading to massive distortions in capital allocation that have only been exacerbated as the Fed reacted to the last couple of recessions.
Recent market behavior supports his thesis that massive dislocations in bond yields distort reality. Ten-year Treasury yields had traded in a narrow-range for about four months, on the presumption that a weak economy would continue to count on Bernanke’s monetary support (particularly of the bond market). On March 13, the policy-setting Federal Open Market Committee (FOMC) acknowledged an improved recovery, but did not mention more quantitative easing, or bond purchases, were on the way, sparking a violent sell-off in Treasuries (exacerbated by JPMorgan’s dividend announcement the same day, which triggered a rally in financial stocks) as market players fled a bond rally they considered fixed by the Fed.
While Bernanke delivered calm to bond markets on Monday in a speech that promised “continued accommodative policies,” the violence of the sell-off speaks to Schiff’s argument. “We consume more than we produce and we borrow abroad, but we are never going to be able to pay them back,” says Schiff.
The controversial investor and commentator expects a massive crash over the next two to three years as a bond market bubble, coupled with the U.S. dollar, collapses under the weight of excessive debt. Schiff, like PIMCO’s Bill Gross, doesn’t believe in the current deleveraging cycle. While households have reduced their leverage, government debt has ballooned on the back of stimulus programs, but, argued Schiff, the government’s debt is the people’s debt, thus overall leverage has actually increased.
In CNBC interview Wednesday, Schiff called Bernanke “public enemy number one” and warned that banks would crash if the bond market collapses. While most major banks, including the likes of JPMorgan, Wells Fargo, and even Bank of America, passed the Fed’s strenuous stress tests, which stipulated a massive decline in equity and real estate prices, Schiff still believes they’re in trouble. “The Fed didn’t ask the banks to stress test a big drop in the bond market because that’s what coming, and the banks would fail that,” he said.
Schiff cites the rising price of gold as evidence that U.S. dollar debasement, and inflation, are higher than the Fed, and consumer price data, suggest. Following the Austrian economic tradition, Schiff believes that only a massive correction, via a deflationary recession, can set the system straight. “In a deflation, real wages will rise because the cost of goods will fall faster,” he says, adding that the government should accompany the correction by lowering taxes and cutting back on regulation.
While Schiff does suggest saving in gold, he understands the limitations of the investment. “If you invest in gold, then the economy doesn’t benefit from savings, I want investment to go to plants and equipment.”
The system, he argues, is as broken as it was before the financial crisis. Schiff, who was very prescient in his forecast and prediction of how the subprime debacle would filter through to the broader real estate market and thus bring down the economy, believes complacency is widespread. “All of the people who were 100% wrong [back in ‘08] are saying that everything’s OK [now]. I am telling them they didn’t solve the problem and are making it so much worse.”
Schiff, who knows how to build his case, concludes it thusly: “I didn’t get lucky, I just understood the problem, and we are going to get another big one coming soon.”