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Pragmatic Capitalism

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When Gurus Say Strange Things

John Bogle famously said that the most important lesson we can learn about Wall Street is that “nobody knows nothin!”  I have to admit that that quote has always bothered me.  Now, there’s a good chance that I don’t know nothin because I am one of the few people on Wall Street who is stupid enough to criticize the saintly John Bogle.  And yes, he is a saint in the financial world.  There are few people who I respect more.  But I also believe wholeheartedly in the idea that we can learn operational facts about the financial world, the economy and the monetary system and thereby vastly improve our likelihood of making good decisions within that system.  I think better understandings lead to a better decision making process.  The financial world isn’t just a big random walk that is entirely unpredictable and incomprehensible.  There are deterministic factors driving results and understanding the operational realities of the system will substantially increase the odds that you understand what can and cannot happen.

The reason I bring this up is because of a quote I read in the Tony Robbins book during the Bogle interview section.  Bogle is asked about the likelihood of another crisis and he says:

“We still have to deleverage.  There’s too much borrowing in the country.  There’s not really too much leverage on the corporate side.  Corporate balance sheets are in pretty good shape.  But the government balance sheets, including federal, state and local, are all overextended.  And we’ve got to do something about that.

One of the big risks – one of the big questions, really-is the Federal Reserve now has in round numbers$4 trillion in reserves.  That’s $3 trillion more than usual, with about $3 trillion having been acquired in the last five, six years.  And that has to be unwound.  And it’s not clear to anybody exactly how that’s going to happen.  But everybody knows it has to happen sooner or later.”

The second point is operationally incorrect.  The Fed most certainly does not “have to” unwind their balance sheet.  With the Fed paying interest on reserves they can easily raise interest rates if they want.  In addition, they can simply let the balance sheet mature and unwind naturally over time if they so desire.  There is absolutely no need to unwind the portfolio.  So this isn’t a market risk at all.  See this piece which explains this point in more detail.

Also, why does he say the government is “overextended”?  Is there proof that the government’s debt level poses some solvency risk?  Is it causing inflation?  Is it hurting growth?  How so?  What’s the rationale for such a position?  We know, for a fact, that the US government, whose debt is denominated in a currency it can print, isn’t going to run out of money.  That should just be common sense.  And we also know that the government’s debt hasn’t caused high levels of inflation.  So what’s the rationale for this comment?

It seems to me that Bogle is pushing for some form of austerity despite the fact that we know that austerity hurts growth during a deleveraging.  Europe’s peripheral countries have made this abundantly clear in recent years.  So, at an operational level, I don’t know why Bogle makes such a bold statement.  It just doesn’t appear to be consistent with a sound understanding of the monetary system.  To me, he seems to be pushing a common political theme that really isn’t grounded in any empirical evidence.  See this piece for a more detailed explanation here.

If you accept the idea that none of us understands these concepts then we become increasingly susceptible to myths and misunderstandings about potential risks in the financial system.  This can lead to all sorts of bad decisions and biased thinking.  Personally, I prefer to try to understand the rules of the system and operational realities as best I can so that I can improve the odds of making high probability decisions.   It’s just not true that we don’t know nothing.

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