Former Federal Reserve chief Ben Bernanke, the economist who denied the severity of the subprime-mortgage market in the leadup to the Great Recession, recently dismissed concerns about contagion from Chinas economic slowdown.
Dismissing Chinas $28 trillion debt as an internal problem, Bernanke said, I dont think Chinas economic slowdown is that severe to threaten the global economy.
But one high-profile duo respectfully disagrees with Bernanke, although each comes from different sides of the political spectrum. Both George Soros and David Stockman are singing similar tunes when it comes to the potential for Chinas troubled economy to wreak havoc on the rest of the world.
Soros made a name for himself and amassed a fortune worth billions by running his famed Quantum Fund, which famously broke the Bank of England in 1992 by betting against the British pound. In recent years he has established a reputation as a philanthropist who donates millions to liberal and left-leaning causes.
Stockman was active as a Republican congressman in the 1970s before being appointed as chief of President Ronald Reagans Office of Management and Budget. Stockman went on to join the private sector, serving at companies such as Salomon Bros. and Blackstone and running his own private equity fund company. In recent years he has become a high-profile critic of the Federal Reserve, rampant government spending, and the so-called Wall Street casino.
Deflation unseen since the 1930s: Now check out what Soros has to say about Chinas economic problems: Its deflation and overindebtedness of the Chinese economy, he told Bloomberg while attending the World Economic Forum in Davos, Switzerland. The total social debt is now 300%, and maybe actually it might be up to 350% if you take into account the external debt. So its serious. A hard landing is practically unavoidable. Im not expecting it; Im observing it. The key issue is deflation. Its a key condition that were not used to. None of us have lived in a deflationary environment. The last time that we had that was in the 1930s. We just dont know how to handle it. Its a different environment. But now we have to fix it. China can manage it. It has over $3 trillion of reserves and so on. However, they have a way of inflicting their problem, passing it on, to the rest of the world.
He warned elsewhere that China is responsible for a larger share of the world economy than ever before and the problems it faces have never been more intractable.
Europe on verge of collapse: Soros went on to reveal that he is shorting, or betting against, the S&P 500. This year is going to be a difficult year, and the balance is on the downside, Soros said. If you have a real bottom, its always retested.
He also doesnt expect the Federal Reserve to raise interest rates again this year, noting that he believes the central banks December hike in the face of the global slowdown was probably a mistake. And in a separate interview, he also said he thinks the European Union is on the verge of collapse.
Now listen to Stockmans recent interview on CNBCs Fast Money show. His devastatingly frank assessment of the global economy focuses at first on U.S. markets before moving on to China.
We have a dead-cat bounce, in no mans land around 1870 on the S&P, he said. Weve been there now for 700 days if you can believe that. It first crossed in February 2014. By my count weve had something like 35 attempts at rallying all of them have failed for what I call The Four Nos. Theres no escape velocity. I think were heading for a recession. Theres no earnings growth. Theyre actually going down. Honest earnings on a GAAP basis. Theres no dry powder left in the central banks of the world. Weve been through a spree of 20 years, and I think that theyre done, all of them, from China to here. And theres no reflation because there wont be any credit growth in the world and were going into a much different deflationary era.
We are at peak debt: Now let me just hit the first one, no escape velocity. Forget about jobs; its a lagging indicator, and besides that, the BLS counts anybody that can fog a mirror as having a job. Sales, business sales, are the heart of the matter; theyre down 4%. Capex orders are down 6% from the peak a year ago. Freight volume is down 7% from a year ago. Exports are down 12%. Inventories to sales are at an October 2008 low.
Were in a flat global economy. Everything is inter-related. Were now in a huge deflation as a result of this massive credit bubble weve had. Now let me give two numbers that I think are really important. Central banks had $2 trillion on the balance sheets about two decades ago. Its $21 trillion now. 10X, not chump change. This is high-powered money that caused an enormous expansion of credit and financial valuation bubble. Secondly, that resulted from debt in the world going from $40 trillion mid-90s to $225 trillion today. We are at peak debt. There is no more credit that can be shoved into the system. There has been massive overinvestment in everything: mining, energy, heavy industry, transportation, you name it, shipbuilding.
Everything is beginning to shrink: With credit expansion you can get China in this massive expansion, but now theyre drowning in excess capacity over everything. They created a billion tons of steel. They dont have demand for half of it. They doubled the size of their auto industry; demand is not growing that rapidly. So if we look around the world, everything for the first time in 20 years is beginning to shrink, and the central banks clearly cant do anything. The bank of China is facing a trillion of capital flight this year. When the December numbers are in, itll be a trillion in capital flight. They cannot run the printing presses or they will cause a total panic.
The Bank of Japan is crazy. Theyre buying anything in the fixed-income market that moves and anything that stands still. Theyre done. Europe (European Central Bank chief Mario) Draghi is down to emitting word clouds. There is no more that he can do. And the Fed sat on the zero bound for 84 months at zero. There is nowhere else to go except negative interest rates, which will cause a political explosion in this country.
So I say look at earnings. Honest earnings were $106 per share S&P GAAP LTM September 2014; they came in at $91 in the LTM just ended in the third quarter. Thats down 14% and I dont see why its going up. So therefore I now think were getting to the point where the chickens are coming home to roost, and youre not going to be able to fake your way any further. Theres no hope from the central banks, and thats why these rallies are getting weaker and weaker and shorter and shorter.
Diversify to weather the storm: There you have it: two separate interviews by two politically opposed, highly respected figures in modern finance and economics, and yet they both see many of the same hazards on the horizon: China, debt, deflation, overvalued stocks, and the potential for contagion.
Are you looking for protection from these dangers to the global economy? Because we dont know how all this is going to turn out, diversification across a range of uncorrelated asset classes remains a crucial strategy. Gold and silver bullion and rare coins are necessary elements for any properly diversified portfolio.