James Grant, the founder and editor of Grant’s Interest Rate Observer, has been a distinctive, wittily acerbic voice on the financial scene for more than thirty years. A skeptic par excellence, he foresaw dark clouds in the apparently sunny economic skies before the 2008 financial crisis. Grant is as much a historian as he is an analyst of markets, and in this exclusive interview with The Octavian Report, he brings to bear his encyclopedic knowledge of history on the troubling conduct of monetary policy in the 21st century — and offers up some unconventional opportunities.
Octavian Report: Did you ever think you would see interest rates this low?
James Grant: No. In fact, I'm on record saying it would never happen. When I started doing what I do now, the U.S. was in the last throes of the great bear market in bonds that began in 1946 and would end in 1981. At that time, long-data treasuries were yielding about nine percent. In came Paul Volcker, to rescue us all from inflation -- and he proceeded to do that. As he did what he did, interest rates went up in the face of a great deal of objective evidence. They ought to have gone down, but long-term yields rose as high as 15 percent. One lives in a world of wonder and upset and humility on Wall Street, but the move from, say, five percent to minus something or other is even more startling and astonishing and wondrous than was the move from, say, nine percent to 15 -- the highest yields then seen. It’s been quite a ride.
OR: These are multiple-century lows, correct?
Grant: They have records in the Netherlands going back to the 1500s and nothing like this has ever been seen. The Chancellor of the Exchequer was going to refinance perpetual debt related to the South Sea Bubble in the early 18th century.
Walter Bagehot, a wonderful Victorian journalist who served in the 1860s and 70s as the editor of The Economist, once said that John Bull -- the proverbial personification of Great Britain -- can stand anything, but he can't stand two percent. Meaning very low interest rates. Why? Because they instigate a lot of unwise speculation and a lot of misallocation of resources: people who find that money costs nothing to borrow do silly things with it. And when Bagehot said that, he meant positive two percent. In Denmark, for example, they now pay you to borrow and you pay them to save.
OR: In subzero bonds, are there any shorts you think are interesting?
Grant: I'm not a bond investor. So I speak now not as a practitioner but someone who's talked to people in that business. I gather that it’s operationally difficult to put on bond short sales. Certainly there are options, but what makes this difficult, I would guess, is not so much the administrative hassle in getting off the bond short sale but the deepening sense that interest rates only go in one direction. Down.
In that sense it’s very much like the prevailing sentiment in the late 70s and early 80s that interest rates only went in one direction: up. Then they had been going up for 35 years. For the better part of 40 years bonds had been in bad odor. That's a long time to solidify sentiment. Interest rates have now been going down in the U.S. since 1981. That's thirty-three-and-a-half years and counting.
OR: I think we would agree negative yields cannot be healthy.
Grant: No, they can't be. Mario Draghi is fond of using the phrase “uncharted waters.” He uses that phrase in regard to Greece: if Greece were to leave the euro we'd be in uncharted waters. Well, some of these waters are very well-charted. Price controls, for example, are a very well-charted body of water. The history of price controls shows they don't work. They backfire on the governments that impose them because they misallocate time and capital. They misallocate imagination: people do the wrong things because the price signals are wrong.
Negative interest rates, certainly, are to my mind a species of price control. They occur because people are front-running, getting ahead of the European Central Bank to own the bonds that the Bank has pledged to buy. The ECB is going to buy $65 billion of these things every month until it runs out of patience, time, or conviction. In the meantime, they provide a more or less free ride for speculators. There's a perverse element of misregulation in this: insurance companies in Europe are penalized for this kind of behavior. If they sell bonds and raise cash, that cash carries a heavier, less-advantageous capital requirement than do sovereign bonds.
Regulators say that sovereign bonds are safe, as if they were intrinsically safe. But the truth about assets is that nothing is intrinsically anything. All things are safe or not, or value-laden or not, depending on price and earnings and perspective. Yet the world has quietly acceded to the idea that bonds are inherently safe. You read this in the Wall Street Journal, language like “super-safe treasuries.” Huh? I can guarantee that in 1981, when they were going to 15 percent, nobody was calling them safe.
OR: Right now, every chart on the money supply reveals us as being completely off any historical norm. Have you ever seen anything like this?
Grant: No. This is unique. “This” being the creation of new currency through digital means by central banks operating under the theory that more currency is stimulative and that lower interest rates raise the value of assets such as real estate and common stocks. The rise in asset values then emboldens and encourages asset holders to spend more. And thus, through the means of so-called quantitative easing or QE, we will all be richer and the economies of the world will somehow, together, build up enough velocity to escape from our slough of despond.
But if creating unprecedented amounts of paper or digital currencies were the answer, then humanity would have chanced upon this already and perfected the technique and we would have all been a lot richer a lot sooner. So I look on this as a kind of quackery. It’s important to imagine how posterity will look back on us. What will our grandchildren and our great-grandchildren regard as our salient misconception and error? I think they’ll ask: can you believe those people entrusted the monetary fortunes of the world to a bunch of former tenured economics faculty? Can you believe our ancestors elevated these people as a class to positions of the highest administration and the highest and least-balanced power?
James Grant, financial journalist and historian, is the founder and editor of Grant’s Interest Rate Observer. His most recent book is The Forgotten Depression, 1921: the Crash That Cured Itself.