It’s a classic scene from Monty Python and the Holy Grail. On his search for knights who will help him find the Holy Grail, King Arthur halts his trusty steed (and by steed, we mean coconuts his loyal servant Patsy rhythmically bangs together) to speak with a mud-pie-making peasant named Dennis. Unfortunately for Arthur, the unhelpful peasant has embraced some rather anachronistic notions of collectivism, accusing the king of “exploiting the workers” and “hanging on to outdated imperialist dogma which perpetuates economic and social differences.” At the revelation that Arthur ascended to the throne because the Lady of the Lake held forth the sword Excalibur to him, Dennis retorts that “supreme executive authority derives from a mandate from the masses, not from some farcical aquatic ceremony.”
King Arthur initially listens to Dennis with some patience, but as the peasant waxes on and on about class inequity, the monarch can bear it no longer and moves to seize him and shut him up by physical force. At the scene’s climax, the peasant urges his fellow commune members to come and see the violence inherent in the system, shouting: “Help! Help! I’m being repressed!”
Although it was admittedly a very silly film, we believe The Holy Grail is in fact a prescient financial commentary for the spring of 2014. Like King Arthur and his stalwart band of knights, central banks the world over are engaged in a years-long quest for the elusive treasure of sustained economic recovery and growth. Like the singing and dancing townspeople of Camelot, high-quality borrowers and equity market investors have enjoyed the last few years immensely. But like Dennis and his fellow autonomous collectivists, bond investors and fixed-income savers find themselves crying out, “Help! Help! I’m being [financially] repressed!”
What pearls of wisdom can we take from Monty Python to describe the current financial situation?
King Arthur: In the film, King Arthur and his men have to face with dogged determination both the knights who say “Ni!” and a ferocious flying rabbit. For Janet Yellen, Chair of the Federal Reserve, the perils are no less fearsome: she faces a stubborn job market with a labor force participation rate from 1978, and a level of total public debt to GDP from 1948 (the immediate aftermath of World War II). However, both perils must be overcome to reach the evasive goals of lower unemployment and steady growth. To that end, Yellen has affirmed her commitment to staying the course – testifying before the Joint Economic Committee of Congress on Wednesday, she stated that “a high degree of monetary accommodation remains warranted,” without providing any specific timetable for when short-term policy rates might be allowed to rise beyond stating it they could last a “considerable time.”
Camelot: The residents of Camelot eat ham and jam and spam a lot, so unsurprisingly they sing and dance gleefully all the time. And Camelot is perhaps the best word to describe the last five years of the U.S. equity markets (they’ve doubled) and the climate for high-quality borrowers (money is historically cheap). The ever quotable Steve Wynn said it this way in his Q1 2014 earnings call: “If you’re a high-class borrower with good credit, this is one of the tastiest seasons of all time for two reasons. You’re borrowing money at artificially depressed rates, and you’re most likely going to pay them back with 85-cent dollars. It’s nirvana. Capital structure now is lovely, they’ve got everything, low interest rates, long maturities, low covenants. What else do you want?”
Dennis: Dennis and his fellow collectivist peasants are trying to eke out a meager existence, believing that the feudal system is repressing them. In recent years, familiar cries of financial repression have been echoing loudly from bond investors and fixed-income savers. Bill Gross recently said: “We’re going to be financially repressed for decades. I hate to be gloomy, but yes, for the next 10 years, [we] are going to be disappointed with the policy rate.” Financial repression refers to governmental or fiscal policy used to keep real interest rates negative (by setting the policy rate near zero), and to promote or mandate via regulatory stricture the investment in government debt (e.g. by requiring only US Treasuries and Agencies as eligible collateral on swaps). The public debt overhang – currently 101.5% of GDP – is one factor statistically linked to lower economic growth; according to a December 2013 IMF working paper, advanced economies average 1.2 percent lower growth during periods where debt overhang exceeds 90% of GDP than during non-overhang periods, and the average debt overhang lasts 23 years! Financial repression is nothing new; in fact, following World War II the United States reduced debt by 2 to 4 percent annually via negative real interest rates. For those on fixed incomes, however, it means their conservative bond portfolios earmarked for retirement will continue to shrink in value, eroding their buying power.
Current fiscal policy’s many-faceted impacts may seem like Camelot to some and repression to others, but one thing they never are is totally predictable. To discuss your particular situation with us, or just to share your favorite Monty Python moment, give us a call at 610.925.3120 or email us.