Gold, Debt, and the Economy | Steph Pomboy

Craig: Welcome back to Sprott Money, sprottmoney.com. It is time for your "Ask the Expert" segment for November, it's already November, of 2024. I'm your host, Craig Hemke, and joining us is my good friend, Steph Pomboy. Steph, the chief maven at macromavens.com, a business website she's run for over 20 years. She's a macro economist, analyst, and all-around great person. It's great to call her a friend. Steph, thank you so much for spending some time with me.

Steph: Well, thank you so much. That's a lofty introduction. Also, can you believe, it's not just November. We're staring down the barrel of December right now. This year has gone by so fast. It's crazy.

Craig: You are the queen of the segue. That was perfect segue to what I was gonna say next, because that also means it's time for the Sprott Money holiday gift guide. [crosstalk 00:01:20] [inaudible 00:01:21] What a great team we make. Yes. That is one of the biggest sales Sprott Money's gonna have all year long. Go to sprottmoney.com. Right on the home page, there's a link that will take you to the holiday gift guide. If ever there was a time to start introducing your friends, your family, kids, grandkids, nieces, nephews, whatever, to the logic and wisdom of sound money, this is a year, and again, all kinds of great ideas. sprottmoney.com, the holiday gift guide. And again, you got, what do we have? Thirty-five days to Christmas, something like that? You got all kinds of time.

Steph: Yeah. Shopping, done.

Craig: And then you're done. Right?

Steph: I would love that.

Craig: And then you're done. So, anyway, Steph, thank you. Hey, before we get started, because I know people have certainly seen you on financial television, and interviewed in other places, but tell everybody a little bit about your day job, and what Macro Mavens is.

Steph: Okay. Well, my day job, I guess, is to sit here and assiduously, can't even speak, drill through the macroeconomic data, and figure out where market perceptions about where we're headed may be parting company from the reality that I am seeing in reading the tea leaves. So, basically, I'm trying to figure out where the markets might have it wrong, because that's obviously where the greatest investment opportunities lie. So, generally identifying mispricings in macro perceptions. And I do that under the auspices of Macro Mavens. And you can follow my occasionally thin Twitter on, @spomboy, I guess, is my handle, or at Macro Mavens. That's me in a nutshell.

Craig: All right. Well, you did it again. You segued me right into my first question now, Steph. People think we've been rehearsing this all day. All right. So, talking about inefficiencies or misperceptions. Trump wins the election, and the immediate reaction is really not even so much in the bond market, slightly higher rates, but the dollar index shot up over three points, three and a half points in seven days. And gold fell almost 10%, on this idea that suddenly, things have changed, you know, that there's not gonna be a recession, the strong economy means higher interest rates and inflation, and postponing of the Fed. Where do you see all this, Fed? Is...or, Fed. Steph, is that a market inefficiency that you have noticed, or not?

Steph: Well, I would start by saying, in the lead-up to the election, you could overlay the odds of Trump winning with the S&P. So, it seemed to me that the outcome wasn't a surprise, or shouldn't have been a surprise to the markets, which had been anticipating a Trump victory, and that's why they levitated into November 5th. So, the degree to which they've spiked the ball in the end zone after the election has been a little surprising to me. But I guess maybe a lot of that has to do with the sweep of the Republicans in general, and what appears to be a uniformly Republican control of the White House, the Senate, and the House. So, that maybe explains why the markets continue to rally after the election. But the narrative doesn't make sense to me, insofar as, first off, I don't think anyone in the markets was pricing in a recession before. Everyone was on the soft landing bandwagon. So, here, again, what's the surprise? I guess the surprise is that the upside is even higher than it was perceived to be before. And if that is the conclusion, then naturally, the path of interest rates is going to be different from what people had anticipated. They had this sort of fantastical notion that the economy was going to have a soft landing, and yet the Fed was going to slash rates in the face of clearly accelerating inflation, that was already stuck above its target. So, none of that made sense to me beforehand, and it makes even less sense today.

And to be fair, the markets have taken out some of those Fed rate cuts, and you have seen a sell-off on the long end, related to these expectations that the economy will be firmer. But this is the push-pull, is, we have an economy that is massively levered. You and I were talking briefly before we jumped on here about the concept of math. And math is inexorable. So, when you have an economy that's got $36 trillion in debt, and you're raising the cost of servicing that debt, that's a problem. So, this notion that we can grow out from under the fiscal disaster that we've built for ourself strikes me as a little overly sanguine. And the real issue that I'm focused on now is the degree to which we are going to have higher for longer, as relates to interest rates, and what that means not just for the deficit financing situation, which is a whole topic that we could talk about, with implications for the dollar and gold and everything else, and globalization itself, but also for the corporate sector that's massively levered, and has been doing the extend-and-pretend dance for the better part of two years, on the idea that said rate cuts were coming, and that all they had to do was get from here to there. Well, now "there" has been pushed even farther off the horizon, or completely disappeared. So that creates a real problem, I think, for this highly levered corporate sector, especially when you get into some of the more vulnerable companies that already can't service their debt out of existing operations. So, I do expect that we'll reach a point where rates move up to a point where either they precipitate some kind of financial issue, or an economic slowdown. And right now, the former seems more likely than the latter, given the pro-growth policies that are about to be implemented.

Craig: So, do you think that... I mean, look, I've been expecting recession now for, I've gotten, I think, 1 of the last 10 recession calls right. And it keeps getting pushed off. You do such a great job of noticing trends within the macro, though. You know, things that are noticeable, auto delinquency rates.

Steph: Yeah.

Craig: You know, I saw things like that. Is this soft landing, or no landing, is that still the most likely scenario in '25, or is recession still looming?

Steph: Well, I'm gonna give you and I credit, and say that the recession actually has been here. Clearly, the bottom half of the population has been in recession. They never came out of the COVID pandemic. They never recovered. And an increasingly wider swath of the population got whacked when the inflation really picked up. So they were kind of mired in recession. And I will say, if you believe the government's calculation of inflation, then you imagine that the economy has avoided a recession, and has arrived at this soft landing. But if you are a skeptic, like I am, about the idea that measured inflation is actually 2.4% year-on-year, and you think it could possibly be 4.5% year-on-year, well, then you're talking about real growth that's actually negative. So, I think a lot of this idea that the economy is okay rests on a very fragile foundation, which is accepting the government's calculation of what inflation really is, because that's what real growth is a function of.

And then if you look at things, just to support that idea, obviously, you mentioned delinquency rates. Well, if the economy is not in recession, why are auto and credit card delinquency rates and corporate bankruptcy filings the highest since the last recession? Why did that happen? And then also, when you take things like retail sales, and adjust them for inflation, and again, here I'm using the CPI, which I am highly skeptical of. But if you use that measure, real retail sales have been declining for two and a half years already. So you have a recession in real retail sales, which is ultimately discretionary consumer spending. And what you're seeing is just that people have to cut back on stuff they don't need to buy, because it's being crowded out by ever-increasing prices of all the stuff they can't live without, that the Fed conveniently excludes from its measure of inflation. I could go on and on, but suffice to say, I don't think the economy was, started in a great position. I think the prospects of a pro-growth, deregulatory, tax-cutting agenda are obviously hugely positive for economic activity going forward. But we're starting from a lower base than I think most people expect. And again, I think they're underestimating how blustery that headwind of higher interest rates is gonna be, because we're not gonna have accelerating growth with lower interest rates. We're gonna have accelerating growth with higher inflation, higher interest rates, and a Fed that has very little maneuvering room, if any, to cut the front end.

Craig: So, what do you expect from them at this point then, Steph? Knowing what we know, and this election results from two weeks ago, the next FOMC meeting is about three weeks away as we record this. We'll get another summary of economic projections, where the last time we got one, they were saying four rate cuts next year, so everyone's gonna be waiting to see what that shows in three weeks. What do you expect from them, at least as we enter the new year?

Steph: Well, it's so ridiculous, because it seems like they're now just trying to figure out how to ratify expectations in the market, more than conduct monetary policy on the basis of any rational thought process. So, the markets seem to be pretty well convinced that we're gonna get a 25 basis point rate cut. And then, I think from Powell's recent remarks and some of the other Fed speakers, maybe they lay the groundwork for just taking a pause to wait and see how things flesh out. So, I don't think they should have cut the last time. I certainly don't think there's justification for another 25. I mean, when you saw the latest inflation numbers that came out last week, they're all starting to move back up. And the super core, which is the one that the Fed decided to have everyone look at because they thought that was gonna be the easiest thing to slam dunk, is over 4%, and moving higher. So, this is twice their target. So I don't see any justification for the cut, but that said, the markets have it priced in, so they'll do it. And then we'll go into 2025, and they'll probably be on hold. But what I think the real conversation should be, and no one's having this conversation, is not about the Fed funds rate. It's about the balance sheet. Because the one thing that's clear is we're gonna have to deal with this deficit financing issue. And over the last 12 months... Actually, the latest treasury capital flow number came out the other day, and I haven't updated my 12-month run rate. But over the 12 months prior to this week's report, foreign central banks had bought a total of $4 billion of treasuries. Over 12 months, $4 billion. So, essentially zero.

Craig: Yeah.

Steph: And these were our one-time for... This was our reliable source of financing, at one point. So, they've long since left the building, and we're trying to finance $2 trillion deficits. Even if Elon Musk can get that deficit down to $1 trillion tomorrow, it's still a massive void between what we're issuing and what the rest of the world wants to buy. And so, I keep coming back to the Fed balance sheet, because there is no natural audience for treasuries that isn't already in there. The banks own all the treasuries. They can do adhere to their capital, and they're, I might add, $500 billion underwater on those holdings right now, you know, the unrealized losses on the treasuries and agencies. Pensions hold a little bit, but they're busy buying private credit, and every other newfangled high-yield vehicle. So there's not a lot of appetite other than, let's say, for T-bills, which is presumably why we're financing our deficits with T-bills rather than at the long end. But nevertheless, we're gonna have to address this issue of how we're gonna finance these deficits. And I do think that the Fed is ultimately gonna have to re-up QE at some point, as these higher rates begin to actually create some financial and economic havoc.

Craig: Well, and that brings us, I guess, back to where we started, Steph, and a final question for you. Gold has had, at least through the early part of November, it was having maybe the best year since 1979, on a percentage basis. It's now, even after the pullback, I mean, it's up 25% year to date or whatever. I mean, still fantastic. And it seemed like, to me, I mean, it's a bunch of different things happening, but part of it was this realization, yeah, $380 billion deficit for just the month of August. So, there's this realization, oh boy, yeah, this really is what, on my site, we call the end of the great Keynesian experiment. So, you get this 10% pullback in gold. Is the math fixable? Has the end of the Keynesian experiment been put off indefinitely by the election of Trump, or is the math the math? I mean, how do you feel about all this now?

Steph: No. I mean, the math is the math. And obviously, if we're talking about an environment where interest rates are gonna remain higher, that debt service component becomes more and more impactful. We actually, I went through and looked at this. Next year, we have $10 trillion in debt that rolls, because we've been financing so much with T-bills. So, we've got $6 trillion in T-bills that need to be rolled, but we also have $4 trillion in notes and bonds. And those notes and bonds are toting yields on average of 2% or lower, right? So, now they're gonna double. So, that calculus is gonna get really nasty in a hurry, and that interest expense is gonna go parabolic. So, that's the real problem. And as relates to gold, I think you're 100% correct that that's what gold has been sniffing out. And I think what it's been sniffing out is exactly what I said in the preamble to that, which is that the only way around it is for the Fed to come in as the natural buyer for treasuries, to implement, essentially, some kind of yield curve control, to tamp down what would naturally be the increase in interest rates. Because we just can't afford higher interest rates, and this kind of escalating debt service, setting up a doom loop as it were, and the only buyer with significant enough resources, which in the case of the Fed, is infinite resources, to buy treasuries, it is the Federal Reserve.

So, I do think that we've kind of lit the fuse on how soon QE is restarted. And I would also say, just as a side note, gold is also, I think, signaling. You've seen this increase. Most people think gold has been rising all year in spite of the increase in interest rates. But I would say it's actually risen precisely because of the increase in interest rates, because each basis point increase brings us a day closer to the Fed having to re-up QE, brings us a day closer to some kind of financial catastrophe, etc. So I think gold is sort of telling you, this can't last. From, what is it, "A Few Good Men?" We can't handle the truth when it comes to higher rates. And the only way to avoid it is to get the Federal Reserve involved in basically mopping up all that treasury issuance.

Craig: Reminds me of the initial issuance, the beginning of QE, back in 2009. Everybody was reading about the Weimar Republic, and where it was gonna head, but it seemed like a lot of those dollars ended up being kind of quarantined, and just patching up the banks. I've always thought yield curve control was where this was headed. That's what the Fed had done in the past, back in the '40s and '50s. Would yield curve control, would it be kind of like a blend between the kind of quarantine dollars of QE, versus the mass spending of COVID, that spiked the inflation? How bad would that be, this kind of direct monetization, if that's what it heads to?

Steph: Well, I mean, I guess it depends. I hate to say that, but it would depend on what was the catalyst that brought us there. If we burst this financial asset bubble, I would think it would be more like 2007, '08, where we're spackling holes with some of that money, and we're in an environment where the corporate sector and consumers and whatever are just curled up in the fetal position, saying, "I don't wanna borrow another dime. I got burnt so bad. I don't ever wanna touch that stove again," versus COVID, where it was literally helicopter money, and everyone was just sitting around in their underwear eating bonbons, and ordering stuff on Amazon, you know? Exactly. I mean, hey, what's not to love about that? So, I think it depends on which of those two scenarios leads us to that moment. I know that's a cop-out, but that's what I'm...I'm sticking with it. I'm copping out.

Craig: Well, we're probably gonna find out one way or the other.

Steph: Yeah, absolutely. Well, I guess the good news is there are so many candidates for a catalyst for a financial bust. I mean, this private credit stuff, where we have zero visibility into who's borrowing, how levered they are, and just what dire straits they're in. And it's all held by pension funds and insurers and hedge funds and whatnot. So, the potential for some kind of issue there seems to be extremely high, in my book.

Craig: Often seem to happen that first year of a presidential cycle too, it seems. Remember that, going all the way back to Reagan years.

Steph: One thing we know is gonna happen starting, on January 21st, is the confessions by the BLS and the BEA and everyone else about how wildly overstated economic and employment activity was in the year prior. So, all that will come out in hindsight, under Trump's watch. I can guarantee you that.

Craig: Yeah. We might get a whiff of that the first Friday of December, too.

Steph: That's true. Yeah. I guess that's right, because now the polls are closed, so we can start confessing today.

Craig: In most states, they're closed, Steph. Good point.

Steph: That's... Yeah. So, we'll see. Maybe it's premature.

Craig: Steph, my sister from another mother, as we like to say. I could talk to you all day. I know people don't have time. I want, though, just to refer everybody. They wanna hear more about where you currently are, what your thinking is. A lot of folks listening know who Grant Williams is. Is that, you guys had a conference, a week or so ago. Can that be found online? Is that on YouTube, or...?

Steph: Not yet. We're still editing the video of it. But if you follow me on Twitter, @spomboy, or if you follow Grant Williams, @ttmygh, things that make you go... I have to say it, every time, @ things that make you go hmm, just the initials. We've been posting about the virtual access. So, you can... We'll post once we've got that all live and ready to go. But it was a fabulous... I mean, our first ever conference. And I will say, I thought the speakers were fantastic. And I especially enjoyed the very serious, weighty conversations about the future of globalization and the dollar and all this stuff, that were taking place on a set that was taken from Seinfeld. We recreated the Merv Griffin set, from when Kramer does that. So, we had, like, Felix Zulauf holding forth about his views on the dollar, and BRICS, and etc., very somber conversation, against a red sequined glittering curtain.

Craig: It was fabulous.

Steph: It was fun, even though the message may have been dark at times, so...

Craig: Well, what else can you do these days?

Steph: Exactly.

Craig: So, people can follow you @spomboy, or Grant Williams. And once that video of all that becomes live...

Steph: They can access that [crosstalk 00:24:09]

Craig: They can access it, and again, at a time like this, gee, people just need as much objective information as they can find. And that's a great source. You're a great source. Hope everybody will follow you on Twitter.

Steph: Well, thank you.

Craig: Steph, thank you so much. It's been so fantastic, get your opinion on all this. All I can say is I wish you a happy holiday season from here.

Steph: Oh, my god. It's too early. I can't even believe it. I forgot we already had Halloween. So, yeah. Well, very happy holidays to you and yours. And thank you so much for indulging me. It's a pleasure to get to be here and chat with you. And I could talk to you all day too, so [crosstalk 00:24:51]

Craig: Oh, I know. And then we'd have to go get a margarita, and then go from there. But for now, thank you. And again, thank you, everybody, for watching. And one last thank you. Be sure to give a thank you to Sprott Money on your way out. Stop by sprottmoney.com, buy some gifts for all your loved ones, or, hey, if anything, give them a like or a subscribe on whatever platform you've been watching this, because that helps them cast a wider net, the algos pick up that kind of stuff, and that's good for everybody. So anyway, thank you, everybody, for watching. Thank you, Steph. And keep an eye on this channel. We're still, gee, we're 10 days to go in this month. There's still time for more content, and more will be forthcoming in the days ahead. Thanks everybody for watching, and we will visit with you again soon.