It’s not often that you see debt investors clamoring for government spending.
But with the news that Treasury rates in the United States have hit all-time lows, that’s exactly what the bond market is telling investors and Washington it wants, according to “Bond King” Bill Gross.
Gross in his latest investment outlook published on Wednesday takes aim at a familiar target, central bankers, for what he argues is a faulty understanding of the global economy. The Federal Reserve has said that it believes it will raise rates again this year. Their thinking appears to be that the falling unemployment rate will soon cause overall prices to rise because more competition will cause wages and ultimately overall prices to rise. Gross likens Fed’s attachment to this model of the economy to worshipping a “false idol.”
Instead, he argues, central bankers should realize that what is ailing the economy is an overall lack of growth in “credit” or the expansion of the money supply that comes mostly in the form of increased bank lending. “Credit growth which has averaged 9% a year since the beginning of this century barely reaches 4% annualized in most quarters now,” Gross writes. “And why isn’t that enough? Well the proof’s in the pudding or the annualized GDP numbers both here and abroad.”
Gross points to sluggish economic growth across the developed world as evidence for why credit is not growing fast enough. If more credit were being created, the economy would grow faster. But the reverse could also be true: If the economy were growing faster, private banks would be eager to lend at a faster clip than they are today, which is one reason why economists are increasingly calling for fiscal policy as a solution to what ails the economy.
Gross acknowledges as much, writing:
To be fair, the fiscal side of our current system has been nonexistent . . . Until governments can spend money and replace the animal spirits lacking in the private sector, then . . . meager credit growth shrinks as a future deflationary weapon. But investors should not hope unrealistically for deficit spending any time soon.
But if deficit spending is the solution to a global economy beset by slow growing populations, high levels of consumer indebtedness, and slow productivity growth, why does Gross lead his letter with attacks on central bankers? Despite Fed officials loathing of getting involved in partisan battles, Janet Yellen and her predecessor Ben Bernanke have clearly advocated for more short-term fiscal stimulus, paired with long-term debt reductions to get the economy growing again.
In fact, there is nothing contradictory in believing that there is a long term relationship between the unemployment rate and inflation and also realizing that what is truly hurting the economy is a lack of credit growth. The bond market, which is collectively paying the U.S. government, after inflation, to borrow money over 10 years, would be best served if the Fed invested that money in things like infrastructure and education that would increase economic growth and therefore government revenues. As former Treasury Secretary Larry Summers wrote Wednesday, “in a world where interest rates over horizons of more than a generation are far lower than even pessimistic projections of growth, traditional thinking about debt sustainability needs to be discarded.”
Bill Gross is also calling for more government spending, but his advocacy is buried beneath 1,000 of words of contempt for the thinking of central bankers. The reason that investors should not “hope unrealistically for deficit spending” is because there is no understanding among politicians and voters for the need for higher deficits, due in no small part because of the advocacy of Gross’ colleagues on Wall Street.
If Bill Gross were to follow the bond markets lead and advocate more forcefully for a bigger government role in righting the economy, he might have less reason to be so pessimistic.