Die Meinung

The Main Threat To Global Growth? Zombies!

Zombie economies, companies and markets: these are the creations of too much liquidity. Excessive stimulus has impeded growth and favored stagnation. Recession, if not crisis, could result.

Myret Zaki

Deutsche Version

Myret Zaki

Myret Zaki started in 1997 as a junior analyst in a Geneva private bank where she learnt the basics of equity research, before joining the daily newspaper «Le Temps» in 2001, where she was in charge of the finance section for 9 years. When the financial crisis broke in 2008, she wrote the investigative book «UBS, am Rande des Abgrunds» (originally published in French as «UBS, les dessous d'un scandale»), for which she received the Schweizer Journalist prize. She joined «Bilan» magazine in 2010 where she became Chief Editor from 2014 to 2019. Between 2010 and 2016, she wrote three other bestselling books, about Swiss banking secrecy, the end of the Dollar reserve status, and the rise of the shadow banking system. She has a Political Science Bachelor from the American University in Cairo and an MBA from the Business School of Lausanne. She is now a freelance columnist and a consultant in influencer and opinion leader strategies.
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Where the heck did all the growth go, many wonder. And how come we have such a disconnect between surging asset prices and the bleaker macro reality? Contrarians, bond vigilantes and Fed critics have been prolific on the subject lately, especially since Quantitative Easing 4 – the new Fed liquidity injection – has started in September, and turning permanent.

The contrarian view is actually going mainstream. Growth is slowing across the developed world, despite a decade of nonstop central bank stimulus. The problem is that we have been mistaking the cause for the cure.

Liquidity caused the slowdown

Central bank liquidity is not the cure: it is the cause of the slowdown. It has been keeping alive unprofitable banks and companies that should no longer be there. «It’s the Dawn of the Dead on Wall Street. Zombies are everywhere», writes U.S. economist, gold bug and Fed critic Peter Schiff, on Schiffgold.com.

The number of money-losing IPO-companies on US-stock markets has ballooned to levels not seen since the dot-com bubble, according to the Wall Street Journal. Nearly 40% of US-listed companies are losing money, especially in the healthcare and tech sector. About 81% of IPOs are unprofitable, exactly the level at the top of the 2000 bubble.

Source: WSJ

Source: WSJ

We are living in a «zombie economy», deprived of the free market cleaning process, writes the Finnish economist Tuomas Malinen, CEO of GnS Economics and adjunct professor at the University of Helsinki. Is this «zombie» talk a figment of some economists’ imagination? Of course not.

Easy money and rescue packages from governments have been preventing what Malinen calls the «creative destruction» process, which is the main driver of growth. It requires that old, inefficient firms fail from time to time, and that new, more efficient firms take their place. But this is no longer the case, as easy money has maintained alive non-performing companies.

Central banks replaced the markets

Another key growth driver is when the market determines prices: For the last 200 years, Western economic growth stemmed from free prices. Households, investors and firms have set the prices of products, services, interest rates, and financial assets. But central banks and governments have now replaced the markets, intervening heavily to administer prices, notes Steen Jakobsen, chief economist of Saxo Bank.

When inefficient bailed-out «zombie» banks lend and foster the growth of inefficient «zombie» companies, it causes productivity to stagnate. Which has been the case since 2011:

Source: GnS Economics

Source: GnS Economics

As productivity growth was flat, something else was needed to fuel growth.  And that was debt. World debt levels now exceed 250 trillion dollars, which is equivalent to 320% of world GDP.

Excessive borrowing conceals the real performance

Central bank liquidity and excessive borrowing are concealing the real performance of companies and skewing their valuation on stock markets. Cheap credit explains why many stocks are hitting record highs. Market indices have been inflated to unprecedented levels thanks to rates cut and billions of Fed liquidity injected into the markets.

Market valuations are now three times the norm: «The highest level of valuation ever observed at the end of any market cycle in history was in October 2002, and even that level is less than half of present valuation extremes», writes John Hussmann, president of Hussman Investment Trust. These valuations have little to do with fundamentals and only reflect Fed liquidity. The disconnect is of historic proportions as shown below:

Source: Bloomberg

Source: Bloomberg

Where do markets go from there? To Zombie land. At Davos, Bob Prince from Bridgewater Associates predicted «the end of the boom and bust cycle», meaning that the Fed can no longer lower rates and create a boom (they are already nose-down) nor hike rates and create a bust. So flat, «zombie» markets could move sideways in the near future.

Debt refinancing has become the main financial activity

More worrying, debt refinancing has become the main financial activity, writes Michael Howell, managing director of CrossBorder Capital, in the «Financial Times». Liquidity has expanded not only through the traditional banking system but mainly through the repo and swap markets, which have become the heart of the global credit system. They are now the main short term lending facilities for companies and institutions (hedge funds, derivatives traders, asset managers, sovereign funds) who borrow against collateral, such as government bonds, high-grade debt or foreign exchange reserves.

The lending takes the form of repurchase agreements, or repos, and asset-backed commercial paper. This short term speculative debt is estimated at 30 trillion dollars and getting bigger than the banking system, according to CrossBorder Capital. The huge existing positions, compounding ever higher, need constant refinancing, which is a heavy constraint on the system and dependent on rates remaining low.

Quantitative Easing is here to stay – until it ends badly

The risk is so big that central banks have to constantly provide liquidity and monitor the system’s funding capacity. The US central bank just injected a further 400 billion dollar into the financial sector. We are in a spiral where more and more liquidity needs to be added to facilitate refinancing of the world’s debt. «Quantitative Easing is here to stay», writes Michael Howell. «We should expect QE5, QE6, QE7 and beyond.» He too warns that liquidity-fueled asset markets usually end badly as they did in 1974, 1987,1989, 2000 and 2008.

Today’s liquidity exposure is getting even bigger than any of these previous cases. The «zombie» crisis might have already have started on 16 September 2019, when repo blew up, tweeted economist Tuomas Malinen on January 21st.

The voices of «permabears» and those making gloomy forecasts can no longer be ignored.