Albert Edwards, Societe Generale’s bearish strategist who is an intense critic of the central banks’ over-zealous money printing poilicies, is back with a new report. This time Edwards explains how the Fed is actively propagating another housing bubble. He points out how the main beneficiary of QE has been the rich class and this has further added to the inequality in the society. He says that this time the massive level of inequality that has been encouraged will induce the middle classes into demanding change and the housing bubble that has been designed will not be able to alleviate the damage.
Albert Edwards explains why the Fed has propagated the bubble
Albert Edwards explains why the Fed has propagated the bubble and house prices have soared at a double-digit national pace. He notes,
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“While governments preside over economic policies that make the very rich even richer, national consumption needs to be boosted in some way to avoid underconsumption ending in outright deflation. In addition, the middle classes also need to be thrown a sop to disguise the fact they are not benefiting at all from economic growth. This is where central banks have played their pernicious part.”
He further says that rising house prices forms a sense of well-being and growth and thus distracts focus from the lackluster improvement in labor data. He mentions data from Emmanuel Saez of Berkeley University, who has estimated tha based on IRS data, incomes of the top 1% grew by 31.4% while bottom 99% incomes grew only by 0.4% from 2009 to 2012. Hence, the top 1% captured 95% of the income gains in the first three years of the recovery.
Albert Edwards cites information from an article written by Chrystia Freeland for Reuters, in which she discusses the deliberations of a Brookings panel which outlined the causes of inequality,
The panel ?offered three important takeaways about the causes and consequences of rising income inequality. One was that government matters. Like most students of the subject, the assembled economists agreed that rising inequality was driven partly by economic forces like the technology revolution and globalization.”
But the state can choose to mute the impact of the invisible hand. Paradoxically, in much of the Western world, and particularly in the United States, even as the power of these economic shifts has become more profound, government efforts to mitigate them have become weaker. As Mr. Buffett pointed out, the effective tax rate paid by the 400 top earners in 1992 was 26.4 percent. By 2009, it had fallen to 19.9 percent ? even as the pretax gap between the plutocrats and everyone else had widened. (I will return to the theme of taxation policy later.) A second theme of the Brookings discussion helps to explain why the top earners? tax rate has fallen ? effectively the economy has gone global, but nation-states have not. Higher taxes on the rich may be a logical response to rising income inequality, but actually levying those taxes is getting harder in an age of global capital flows. Mr. Buffett said it was ?sickening? that rich people and companies use the Cayman Islands to lower their tax bills, but moral outrage is a weak weapon against international tax arbitrage.
If you are still not convinced that all this matters, consider the third, and most striking, possibility raised at the Brookings panel. Set aside any moral or political concerns you may have about rising income inequality ? worries about poverty, justice, undue political influence or even social mobility. According to Mr. Dervis, co-author of the book, the research collected in “Inequality in America,” shows that a growing number of economists suspect that once inequality passes a certain point it may jeopardize economic stability and economic
growth. As the book argues, ?rebalancing of the distribution of income may play a role in unlocking the U.S. economy?s growth potential in a sustainable way.
That is exactly the point Warren Buffet, Bill Gross and Stanley Druckenmiller make. You don’t have to be a communist to conclude that high levels of inequality not only adversely affects long-term growth, but also increases the economy’s vulnerability to recession.
It’s not about equality of outcomes, it’s about equality of opportunity
Edwards also says that for the younger generation, their starting point in the tough practical is an important deciding factor in how far they will go and that number of opportunities one gets directly relates to the means and sources of their families. He notes,
There is growing body of evidence that the largest determinant of your income is increasingly your starting point…. It’s not about equality of outcomes, it’s about equality of opportunity. I think all of us, especially economists, can identify with that…until it comes to our own children, that is.
Income inequality in the US is among the worst in OECD countries which is another warning sign,
The British Medical Council study concluded that almost 884,000 excess deaths per year in the United States could be attributed to the high level of income inequality. In other words, if the Gini in the United States were 0.3 instead of 0.357, we would see nearly 884,000 fewer deaths per year.
Furthermore, US stands second to Singapore in the ration of Top 20% income to bottom 20% income among OECD countries.When judging how income inequality translates to social problems, it has been found that more ‘unequal’ countries have higher infant mortality rate, US has the highest among all.
Edwards also lauds former UK Chancellor Nigel Lawson who back in 1998 took the step to bring taxation on capital gains into line with income taxes?. In conclusion, Edwards says,
But let us return to the problems in the US here and now. What society needs to grow in an economically optimal fashion is not equality of outcomes, but equality of opportunity. But with the grotesque distortions of income now prevailing, one?s lifetime opportunities are so increasingly dominated by what one?s parents income is that the American dream has increasingly become just that ? a dream, and an increasingly distant one at that. We do not feel we are alone in our call. Notable investors such as Bill Gross, Warren Buffet and more recently Stanley Druckenmiller have voiced similar concern about the current grotesque levels of inequality in the US.
Many investors I meet continue to marvel at US labour?s inability to rebuild its wage share of GDP and how dominant capital and profits have become. I believe society will ultimately demand and implement a change. We have already seen a potent grass-roots backlash
against cross-border tax arbitrage and tax-havens, which has forced the politicians to react here in the UK. Yet inequality in the US continues to grow.
Investors should make no mistake. The anger of the 99% will ultimately not be bought off by yet another central bank inspired housing bubble, engineered to pacify them and divert their attention as their real incomes fall and inequality continues to grow. The current bubble will burst, despite the Fed postponing the event by climbing to ever higher diving boards. All the time rising inequality is draining the swimming pool dry and the crunch when it comes will be ugly. Then the long overdue reforms in the tax system discussed above could be forced by a raging public onto the 1% despite their brays of indignation. And when dividends and capital gains tax rates are properly aligned with income tax and inequality begins to decline, let the 99% hold former UK Chancellor Nigel Lawson aloft on their
shoulders and fete him for being well ahead of his time.