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02 December 2020

A Minsky Moment



This article was written by Richard Horswill. All views and opinions expressed are strictly his own.


The term Minsky Moment is named after the economist Hyman Minsky and refers to the point in time when a sudden decline in market sentiment invariably leads to a market crash. The collapse is typically attributable to reckless speculative activity that defines an unsustainable bullish period. This article attempts to outline how this type of market event could well play out and provides the rationale for the Minsky Moment to be highly possible when considering the status of global markets.

Since the onset of the pandemic crisis we have seen an initial collapse in market confidence and a  following reflation over a period of eight months. This is the fastest recession and reflation in statistical terms ever. This was brought about by a speedy response to the crisis by central banks and governments working hand in glove to provide both monetary and fiscal stimulus where it was needed; and on the surface it does appear that this co-ordinated action has paid dividends. However, under the surface a tale of two halves exists; stock market versus the real economy and there is a clear disconnect between the two.

After the collapse phase, the reflation or "hope" phase has provided the financial markets with a path out of the crisis. This path consists of a fiscal prop, governments  supporting ailing businesses to maintain their integrity and solvency; and thus also supporting the workers in the same vein and assisting to help keep levels of unemployment to a minimum until such time as the crisis is averted either by the pandemic burning itself out or by the provision of a vaccine at a record pace. It was assumed that in the early phase of the crisis after the initial lockdowns the summer would assist in driving down infections, "hope" was high and the continual reflation of the economy under its own steam looked assured particularly when stock market valuations were considered. Having seen global stock markets suffer a 30%+ drop, the V-shaped recovery was stunning but behind the numbers were ballooning government deficits and a frenzy of speculative activity. Particularly in the US, retail investors were seen to be betting on stocks as never before utilising the very generous stimulus monies provided through the PPP scheme. The "Robin Hood" traders were a vital component in the stock market recovery. Combined with this were positive noises coming from the pharmaceutical giants who were moving swiftly towards vaccine success. Even though the view from above looked good, the industries hardest hit were still receiving recovery money in the form of loans and were tapping the capital markets, issuing new debt to assist with cash flow for as long as they could. So far the stimulus bills for the US, the U.K. and Europe account for $2 trillion, £300 billion and €750 billion. An immense amount of new debt added to an already saturated global debt market. All of these actions have been designed to stop, at all costs, the possibility of an "insolvency" phase; however the small business owner may never recover or may have already gone to the wall.

The global economy, by all accounts in the media, has presented a sustainable picture, and recovery. Is this the reality? Maybe we should consider another set of recently issued numbers that may provide an alternative view and a scenario that deflects from the one that the stock market would have us believe. Global debt levels have hit $277 trillion, global debt to GDP is at 365%, there are $17 trillion of negative yielding bonds and the velocity of money has dropped to record lows. That doesn't sound so good, and when we peer behind the curtain to assess that factors that may provide for the Minsky Moment, the picture is one of fear and loathing as the pandemic’s second wave has hit. In order to sustain the consuming economies of the world in Europe and the US, central bankers and governments will need to do more. Further lockdowns mean reduced productivity, more economic contraction and a consequential deflation. Deflation is the harbinger of the Minsky Moment but of course we have our central banks to cover our backs? Possibly not! QE is unlikely to work to its fullest extent other than to keep a lid on interest rates. The concept of yield curve control is clearly not explicit but seemingly implied. (Negative nominal interest rates could well be a future blueprint for the US to follow.) QE cannot directly provide cash to the market. It only provides "cash collateral" to the banks through the resale of the bonds and therefore the banking system must issue new loans in order to assist with reflation. However, the banks are not exactly tripping over themselves to provide loans and Joe Public is not likely to want to take on debt if he is staring down the barrel of unemployment or bankruptcy as many small business have already done. Therefore, the cash will have to be provided by governments. With global debt and deficits spiralling out of control and the US caught between a political rock and a hard place without a further agreement on stimulus, even though the markets have priced in at least another $2 trillion, the current levitation act the market is performing looks shaky to say the least. Add in a European Union that is unlikely to be able to agree another deal on Euro bonds, and "hope" is not necessarily going to cut the mustard. The last ray of "hopium" potentially lies with the vaccine as shown by the market reaction following the Pfizer and Moderna data pushing the Dow Jones industrial average to all time highs. But how to administer enough vaccine to inoculate enough people to secure herd immunity? That is of course if the vaccine really does what it says on the tin. Other signs of stress that may indicate an impending storm related to where money has already gone and is now heading. The gold trade has been strong in 2020 in both the physical metal and stocks. Even Warren Buffet, the arch anti-gold investor, decided that Barrick Gold was a good investment. Bitcoin is another medium that has seen enormous gains recently. Maybe the old and new canaries in the coal mine are chirping for a reason.

One thing is for certain, central banks and governments will do everything in their power to extend and protect the failing financial system. Even the IMF is calling for a new Bretton Woods, recognising that time may be limited. The future is not known and any prediction of things to come is somewhat foolhardy particularly based on the year we have had so far. The trends that we currently have, whether they be stock market valuations or pandemic related circumstances, do not provide any reassurance. An accident waiting to happen springs to mind, a perfect storm another idiom. Even though history rarely repeats, it generally rhymes, said Mark Twain, which provides me with the belief that the age old Scout motto of "be prepared" is more relevant than ever.



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