Sovereign Debt Levels, The World Bank, Food, Inflation, Recession and Confidence
By Vaughn Woods, CFP, MBA
According to David Malpass, President of the World Bank, the world is moving sharply into recession. He reports that most of the world’s investment capital has been used to buy bonds over the last decade. This risk-off policy effectively caused investment capital to be channeled into two main areas, U.S. treasuries and corporate bonds. The channeling of this money has created winners and losers. Prior to 2009 governments around the world did not purchase their own bonds. The winners were low-risk, large corporations and the U.S. Treasury. The losers were leveraged small businesses with little access to new capital. He goes further.
Malpass says the only way to solve the world’s inflation problem is to produce more. To do so governments must refrain from buying and holding their own bonds. Rather, they must engage in policy mechanisms that put money into the hands of small businesses. This, he says, will increase production. Increased production reduces inflation. In particular, he points to energy. Until energy supplies are increased dramatically, the cost of fertilizer will remain too high for undeveloped farmers to engage in planting. Even now, farmers in the underdeveloped world are choosing not to plant crops. Without sufficient planning, people in developing nations will be hard pressed to purchase food.
The World Bank is engaged in sustaining the world’s food supply by working with developing countries to increase agricultural productivity. Through programs like the Agricultural Technology Transfer Initiative and the Africa Agriculture Productivity Program, the Bank is helping farmers adopt more efficient production techniques and improve access to financing, irrigation, and other resources. This will help them grow more food, raise their incomes, and reduce poverty.
Both the Agricultural Technology Transfer Initiative and the Africa Agriculture Productivity Program are important initiatives that help to improve agricultural productivity in developing countries. However, high interest rates can have a negative effect on these initiatives.
Governments and central banks can lower interest rates and stimulate economic growth by making it easier for small businesses to borrow money. One way to do this is to provide loan guarantees or tax breaks to small businesses. Another is to create special funds that lend only to small businesses. Central banks can also make it easier for banks to lend money to small businesses by providing liquidity support, which means that the bank can borrow money from the central banks at a very low interest rate.
Liquidity support for small businesses has been around for a long time. In the early days, the central bank would simply lend money to banks so that they could then lend it to small businesses. This was known as “direct liquidity support.” However, in the late 1990s and early 2000s, it became clear that this was not working very well. There were too many banks and not enough money to go around, so the central bank began to provide liquidity support in the form of loans to banks. This allowed banks to borrow money from the Federal Reserve at a very low interest rate, which then allowed them to lend money to small businesses at a lower interest rate. This has been very successful in helping small businesses get access to money, and it has been credited with helping to revive the economy after the financial crisis of 2008.
In 2020 amidst the COVID-19 pandemic Malpass stated, “It is evident that some countries are unable to repay the debt they have taken on. We must, therefore, also reduce the debt level. This can be called debt relief or cancellation.” “It is important that the amount of debt is reduced by restructuring,” Malpass added. He pointed to similar steps in previous financial crises such as in Latin America and the so-called HIPC initiative for highly-indebted poor countries in the 1990s.
The idea that the World Bank can bring down the price of oil and gas in coordination with lower borrowing costs during an extended conflict between the Russians and Ukraine is questionable. In late August 2022 Malpass said the global economy may be stuck in a stagnation quagmire for a while unless large economies can increase production dramatically. Stagflation is hard to get out of. Meanwhile, the Federal Reserve is continuing to raise interest rates into demand destruction. To illustrate, China looks like they might experience a -3% growth in GDP this year even while the Europeans are trying to buy natural gas from around the world. Producers are not stepping up.
Stagflation means higher inflation than you want along with lower growth. To stave off stagflation the Federal Reserve continues to raise rates to slow inflation, causing some to wonder if an oncoming recession will require fiscal checks to be sent out again.
To thwart such a scenario, which only increases sovereign debt levels throughout the world, Malpass says, “This (the U.S.) is the biggest economy, so how can it produce a lot more of everything at a time when the prices are high?” “What,” he asks, “are the blockages that are keeping production from going higher?” The answer comes from President Biden’s own promise to end fossil-fuel development on public lands. In the wake of fears of stagflation, in July, the Biden administration took the first step at reversing this “end-of fossil-fuels” strategy. If the Republicans can muster enough votes in November to take back the House of Representatives in the mid-term elections, the party could put Democrats’ energy and climate change policies under intense scrutiny. Such may be the time frame (less than two months) between a period in which confidence is now on sale and a period in which confidence is reborn. If so, my capacity to recognize that a market bottom has been reached is good enough. If not, I have little fear of the future as we are either close, or we will meander for a while, until further economic policies are put in place to keep the President of the World Bank from asking, “What are the blockages that are keeping production from going higher?”
Vaughn L. Woods, CFP, MBA
Vaughn Woods Financial Group, Inc.
2226 Avenida De La Playa
La Jolla, CA 92037
Investors should be aware that there are risks inherent in all investments such as fluctuations in investment principal. Past performance is not a guarantee of future results. Asset allocation cannot assure a profit nor protect against loss. Although the information has been gathered from sources believed to be reliable, it cannot be guaranteed. Views expressed in this newsletter are those of Vaughn Woods and Vaughn Woods Financial Group and may not reflect the views of Bolton Global Capital or Bolton Global Asset Management. The information provided is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. VW1/VWA0277.