Sunday, October 1, 2017

The Tale of Two America's...Urban Rise, Rural Demise, Rationale to Hyper-Monetize

(The following was written as an outline for a potential book.  To this point no publisher has shown interest and time and funds have run out.)

America is in the midst of an ongoing and accelerating shift in demographics and population growth.  These trends, long in place, are at a tipping point that are simultaneously driving urban economic growth (plus associated asset bubbles) and rural economic declines (plus associated asset collapses).  The spin up and spin down are mutually interconnected, the result of movement in a zero sum game.  But for select regions (and rural America in general), there is a surging quantity of sellers and a dwindling quantity and quality of buyers that will result in the primary asset of most Americans, their home, transitioning from an asset to an outright liability.

Many will point to record stock market valuations as an indicator of positive economic and/or business activity to refute my claims.  Instead, I argue it is the Federal Reserve and federal government policies, in place as a quasi "life support" for the negatively affected regions and rural America at large, that are driving the asset valuation explosions of equities (chart below, representing all stocks publicly traded in the US) and urban housing.  I will outline why the situation in the affected regions will only get worse and thus the Fed believes its hands are tied.  Why any amount of normalization will only induce localized collapses across much of the nation.  The total market capitalization ($ value) of the Wilshire has nearly doubled the acknowledged "bubbles" of 2000 and 2008 and is likely to continue rising further, precisely due to the worsening issues I detail below.

So Where's The "Fire"?
Due to slowing illegal immigration, record low birth rates, and young adult migration...depopulation is under way for large portions of the US (and likewise for most other advanced nations).  The result is large imbalances of economic activity across the nation.  Central banks have no real answer for these issues but none the less have determined their course to mitigate (or exacerbate?) the impacts.  These entwined issues are driving the Federal Reserve's interest rate and monetary policies to delay the resultant economic dislocations and property value collapses in affected regions.  But thanks to Japan's more advanced crisis (a quick synopsis of the crisis and reaction HERE), the Bank of Japan's full game plan (which will almost surely ultimately be the Fed's plan) for dealing with this crisis has already been revealed.  Hyper-monetization.

Hyper-monetization is the outright trade of newly created digital fiat for existing assets.  This simple process of perpetually reducing the quantity of assets outstanding and simultaneously increasing the supply of money available to chase the remaining assets is the plan.  Hyper-monetization explains why continued unchecked appreciation of "bubbly" urban real estate is a really good bet, why financial assets will continue rising, why bond yields will continue declining...but also why the overall economic situation will only deteriorate further and faster across much of America.

Despite the Fed's recently announced plan to begin reducing it's balance sheet, the ongoing impacts of demographic and population trends will force the Fed to quickly backtrack and re-institute some form of quantitative easing.  Though the causes of the crisis are simple, the outcomes differ radically based upon ones geographic location.  The crisis lays out as follows:
  1. Select regions (particularly the MW, NE, deep South, Intermountain West and more generally rural America) have suffered a long decline in goods producing employment (manufacturing, agriculture, mining, forestry, fishing) as the US economy has shifted toward providing services among both the private and government sectors.
  2. This shift to service jobs has favored select urban areas creating self sustaining local hubs of economic activity and growth.
  3. The disparity of growing job opportunities in select urban areas (vs. continued declining rural opportunities) have and continue to draw migration from slowing rural areas (particularly recent high school and/or college graduates).
  4. Due to a flat child bearing population with record low birth rates coupled with large declines in illegal immigration, US population growth has significantly slowed.  In particular, the under 65yr/old population has essentially ceased growing vs. continued swelling of the 65+yr/old population (living far longer than their predecessors).
  5. In a zero sum game of little to no population growth, one areas growth is another area's demise.  The rural to urban migration is resulting in growing young urban populations creating self sustaining local cycles of economic activity (ie., rising rental and housing demand, rising construction to meet the demand, rising retail demand, and general rising economic activity, etc., etc.).
  6. Likewise, the young adult emigration away from the MW, NE, deep South regions, and rural areas in general is creating widespread depopulation among these locations under 65yr/old populations.  This depopulation is creating it's own accelerating negative economic spirals.
  7. On the contrary, over 65yr/old population growth is disproportionately larger in rural areas than urban areas.
  8. The areas of some of the greatest underfunding and underperforming pensions (MW, NE, rural America) are exactly those areas least economically capable to further raise taxes to fulfill pension obligations.  However, significant state and local property tax and income tax increases are to be expected further undermining property values.
  9. This cycle (depopulation, declining economic activity and job opportunity, declining tax bases, rising tax rates) is creating a death spiral for the majority of Americas' communities...and simultaneously driving young adults into the cities at an accelerating pace.
  10. The dichotomy will likely maintain and further elevate the growing islands of urban economic activity surrounded by oceans of decelerating economic activity, property values, and further accelerate rural emigration.
  11. At the heart of this dichotomy is residential real estate. 
    1. Urban residential property values have been pushed to record highs by extremely low mortgage rates, record high financial asset valuations, and continuing population growth.
    2. Meanwhile, the situation for the rest of America is a declining quantity and quality of potential buyers/renters vs. surging quantities of potential sellers.  The only remaining support, those record low mortgage rates, are under attack as the Fed is raising rates and suggesting it will begin "normalizing" its balance sheet.  If these hikes and balance sheet normalization result in rising mortgage rates (which they have not to this point), the impact across the ex-urban portions of the nation already in depopulation will likely be the next great financial crisis. 
In brief, six states (plus Puerto Rico) are currently in outright depopulation.  Another sixteen states are experiencing declining under 65yr/old populations only offset by surging 65+yr/old populations, and somewhere between 2/3rds and 3/4ths of all counties in America are likewise suffering one or the other.  That is 44% of states and up to 75% of all counties suffering some form of depopulation with all the negative economic spiral of ramifications.  The negative feedback loop in effect, as follows:
  • Depopulation
  • Slow to no economic growth
  • Little job growth or outright declining jobs
  • Declining quantity (and quality) of home buyers/renters as young adult emigration continues
  • Disproportionately large increase in the 65+ population (and potential home sellers among them)
  • Underfunded/underperforming local pension systems funded primarily by property taxes (as property values are already set to significantly decline)
  • State and local income tax hikes of all types pushing business and youths away
  • Local property tax hikes into a declining quantity and quality of  potential home buyers/renters vs. a surging quantity of potential sellers
  • The large rises in income and property taxes will inhibit a reverse flow of urbanites looking for cheaper rural housing options.
On the flipside, there are only 9 states with populations under 65yrs/old growing in excess of their 65+yr/old populations.  But even in those states, the growth among cities is significantly outpacing the remainder of the state.  Still, the positive feedback loop is alive and well, as follows:
  • High population growth
  • High economic activity, job creation, rising property values/rents, housing creation, etc.
  • However, interest rates and mortgage rates are set for the ex-urban areas suffering depopulation...thus the urban centers are seeing price spikes and bubble creation due to inappropriately priced credit
  • Likewise, Federal Reserve policies of QE, etc. are based on the broader nation which is fighting a "depopulationary" depression.  The impact in the urban centers is only further bubble activity
The National Picture
National population growth has dramatically slowed.  The chart below shows the year over year population growth among the 15-64yr/old US adult population.  The deceleration since 2008 is pretty hard to miss (spikes in '90, '00 are Census adjustments, not surges in growth).  Outright declines in this population, the heart of the economy and economic growth, appears imminent.

But population growth since 1900, by region, has radically differed (charted below).  Plainly, population growth post WWII has shifted to the South and West (light blue, dark blue)...while the Northeast and Midwest (red, pink) are simply feeling the impacts of an elderly population living longer.

The chart below shows a close-up of the South and West population growth since 1900.  Both regions have roughly doubled in population since 1972.

Compare the population growth of the S & W (above) to the NE and MW (below).  The pre-1972 period and post-1972 period are night and day different.  Clearly, something changed and as a result, the NE and MW population growth slowed to a crawl.

That "change" appears to have been the termination of the Bretton Woods monetary system and the initiation of the Petro-dollar system.  The chart below shows the 1,000% surge in oil prices over the 1970's was the death knell of growth in American goods producing jobs.  Goods producing jobs (which numbered 23 million as of 1970) decelerated, ultimately peaked in 1981 (at 25 million), and have been declining since (presently at 20 million).  "Strange" aside, over the 1970's as oil prices rose 10 fold and US demand remained fairly constant, US oil production (and jobs in the oil industry) declined.  Not many business' I know where a 10 fold increase in price and constant demand results in declining production (detailed HERE)?!?  Regardless, the negative economic impact to the NE, MW, deep South, and rural America began a daisy chain of events which are now culminating in outright depopulation throughout these regions.

However, service providing jobs (private and government sector, primarily centered in urban locations) were not relatively negatively impacted by the rocketing price of energy.  The chart below again shows oil price vs. private and government service jobs.

But below, we can see population growth peaked in every region in the '92-->'00 period and is now decelerating across all regions, despite the larger total populations.

The chart below breaks down where that population growth came from, by region, from 2010-->2016.  The increase by "natural increase" (red = net births over net deaths) and "net migration" (blue = migrant inflow minus outflow).  Clearly the South and West are the recipients of the net migrant inflows coupled with higher natural population increases.

Next, the chart below breaks out the sources of migration; international inflows vs. domestic migration among the regions.  All regions saw net inflows from international sources but only the West and South see net domestic migrant inflows while the MW and NE see net migrant outflows.

But the chart below highlights the great American crisis that will be echoed throughout the following regional breakouts.  While decelerating total population growth (blue columns) is challenging from a growth perspective, it is the collapse of growth among the adult core population (red columns) that is bringing about hyper-monetization in America, just as it has in Japan.
To highlight the impact of slowing core population growth, the chart below shows how highly correlated core population growth (and the demand growth they represent) is to jobs growth, particularly full time job growth.
The chart below focuses on the slowing growth, peak, and subsequent marginal declines of the core 25-54yr/old total population (brown columns), employment among the total core population (blue columns), and the inverse rise of asset values (Wilshire 5000, total market index...black line) thanks to "extraordinary" central bank responses.'08 Subprime Housing Crisis Explained
All three charts above highlight the rise, peak, and deceleration of core population growth and jobs among them.  Why is this such a big deal?  As the chart below shows, household income and expenditures follow the same bell curve...low income/spending when young, peaking in the 35-64yr/old period of life (with savings significantly higher than expenditures), and cash flow/expenditures falling away to less than half peak earnings/spending later in life.  So, if all or nearly all population growth is coming among the elderly with the least income and/or willingness to utilize credit to consume more, the nexus of decelerating economic growth is plain.
The shift in economic reliance from organic growth (more core population / employees driving demand) to synthetic growth (interest rate cuts, rising debt, "financialization") has so much to do with the shifting nature of population growth from the core to the elderly.

For me, the best visual explanation of the '08 housing crisis is the chart below showing the year over year change in the 25-54yr/old population (blue shaded area, right axis), year over year change in total full time employees (black shaded area, left axis), federal funds rate (yellow line) and market value of US federal debt (red line).  The chart should make the cause of the 2008 "housing crisis" very clear.  As the quantity (and quality) of growth among 1st time home buyers (25-54yr/olds) was decelerating, rate cuts were utilized to make mortgages cheaper, then credit standards lowered, then interest only loans were offered alongside NINJA loans...all in an effort to maintain growth absent the key ingredient...a growing population of 1st time home buyers.  However, it was the outright decline of core population in '08 that triggered the massive declines in demand, employment, and potential homebuyers...and after a short reprieve in 2015-->2016, the core is again declining and this means the crisis is ongoing and will draw only further "extraordinary" Federal Reserve responses.
Driving home the importance of the changes in core population; the chart below highlights three separate periods, '50-->'75, '75-->'00, and '00-->'16 and four variables; (1) total US energy consumption in quadrillion BTU's (blue line), (2) total 25-54yr/old employees (gold line), (3) federal funds rate (black line), and (4) federal debt (red line)...change per period for each is broken out in the boxes.  The change in the core population (and employment among them) drives the change in demand (and changing energy consumption) in America.  The federal funds rate moves opposite the core populations change, to incent higher consumption via cheapening debt service as the core's growth (and growth in energy consumption) stalls.
The housing, and subsequent financial, crisis was due to shifting demographics and decelerating population growth (that is ongoing and further decelerating).  If this is so, then why did the financial market turn up in 2009 and the housing market turn up in 2012?

The short answer:  Congress and the president (Bush / Obama / Trump) appropriated $10+ trillion in spending above and beyond tax revenue from '09 to present.  The Federal government spent the money and the Treasury issued the same in new bonds.  Typically bond buyers would have passed $10 trillion in existing "cash" to the Treasury for these new bonds...except the Federal Reserve turned around and conjured $4.5 trillion into existence to remove nearly half of that new supply of "assets" (split among Treasury bonds and mortgage backed securities).
But Ben Bernanke (then Fed chairman) told Congress the Fed would not "monetize" the debt and explained that the newly conjured dollars paid to the banks for the "assets" would be held at the Federal Reserve bank and not enter the economy.  As the chart above shows, a significant quantity of those new dollars did not stay put at the Federal Reserve.  The new dollars were likely levered, let's say conservatively a 5 to 1 ratio, by the banks creating 5x's the original dollar amount.  Here's how that went:

  • From Aug '08 --> Sept '12...the Fed created $1.9 trillion to purchase assets and banks' excess reserves increased $1.4 trillion = $500 billion monetization (or $2.5 trillion in new $'s)
  • From Sept '12--> Sept '14...the Fed created $1.7 trillion to purchase assets and banks' excess reserves increased $1.3 trillion = $400 billion monetization (or $2 trillion in new $'s)
  • From Sept '14--> Dec '16...the Fed purchased $0 and banks' excess reserves decreased $750 billion = $750 billion monetization (or $3.8 trillion in new $'s)
So, the important thing to understand is that the slippage of QE into the money supply (monetization) has been ongoing and the period of maximum monetization was the post Quantitative Easing period from October 2014 through December 2016.  The impact of all this (coupled with the Fed's "zero interest rate policy") was to crater bond yields.  This lack of available yield chased trillions of dollars out of maturing Treasury and/or mortgage bonds into higher yielding corporate or junk bonds...or, you guessed it, rental real estate.  Retirees, "soon to be" retirees, and foreigners all piled into the rental real estate market to find the cash flow no longer available in the bond market.  The permanent absence of the first time home buyer was temporarily masked by flushing foreigners and retiree dollars into rental real estate.

As of late 2016, the Federal Reserve is increasing the FFR and IOER (interest paid on excess reserves...paying banks not to loan money) as it's only means to stop the outflow of excess reserves from the biggest of banks.  Now, the core population is again shrinking (as it did '08-->'12), banks are increasing their excess reserves, and the Fed is communicating that it will start reducing its balance sheet.  The impact of this would be increasing the outstanding quantity of assets and reducing the quantity of dollars available to buy those assets just as the population with all the income and that does all the spending is outright shrinking.  Nationally, massive headwinds are starting to blow.


Where Is This Going:
The reason this crisis will only accelerate is highlighted (but still understated) by the Census estimates below.  In 2008, the Census estimated that total US population would grow by 129 million persons by 2050.  However, by 2014 with updated Census data in hand, the estimate was reduced by 41 million persons or a 32% reduction in growth (chart below).


However, understanding the breakout of that decreased estimate is so important.  There would be no decrease in the growth among the estimated 65+yr/old population (chart below).

Crucially, the decrease in estimated growth among the childbearing population was a massive <53%>.

And the impact on the youngest population segment, almost a total collapse in estimated growth of <85%>.

These estimated cuts to growth among the under 45yr/old population are still far too optimistic, as the data since 2014 has revealed.  Due to continuing record low birth rates and slowing immigration (particularly of the illegal variety), significantly larger population downgrades of the child bearing population and number of children they produce are inevitable.

The changes in the 45+yr/old population vs. the child bearing population is shown in the chart below.  The changes in the 45+yr/old population are essentially set through 2060 (obviously, all this population already exists and will be transitioning over) while the Census medium and low estimates for the child bearing population are represented by the dashed lines.  I will suggest the reality will be somewhere between these two but far closer to the low than medium estimate.  National depopulation of the under 45yr/old population vs. surging 45+yr/olds...this is not a good economic combination.
One last snapshot of the absence of growth among the foundation of the US population, the 0-4yr/old population, vs. the swelling ranks of the elderly, 70+yr/olds.  The 0-4yr/old estimate through 2050 is the average of the Census medium and low population estimates.
 Regional Breakouts:
The links below detail demographic, population, and jobs changes by region, state, and even select cities.  Also included are regional property valuations and housing creation.  Hanging over all this are the state and local hugely underfunded and underperforming government pensions (locally almost solely reliant on rising property values to create rising tax revenue).  The report details how serious the situation is across New England (x-Massachusetts and particularly x-Boston), the Upper Midwest, portions of the South, much of the intermountain West, and most of rural America.  Likewise, how the select urban centers are benefitting from the rural areas demise.

The Northeast's changing demographic, population, and jobs situation is very reminiscent of Japan.  New England will surely be ground zero as this depopulation crisis unfolds but the Mid-Atlantic is closely following.

New England (MA, VT, RI, ME, CT, NH)
  • Vermont, Connecticut, Maine, and Rhode Island are all outright depopulating with the ominous declines among their under 65yr/old population outpacing the continued growth of their 65+yr/old population.
  • VT, CT, ME, & RI have collectively added a measly 7 thousand jobs since the last employment peak of 2007 compared to 122 thousand net new jobs during the last two economic cycles.
  • Even here, the primary cities have far better statics on every level.  For instance, Portland, Maine's under 65yr/old population is still growing.  Portland has also added 14 thousand jobs in this period.  Of course this means the remainder of the state is outright depopulating faster and outright suffering job losses.
  • Compare this with the fact that much of New England has some of the highest state and local tax rates and most underfunded of pension systems.
On the flip-side in New England is the unprecedented growth in Massachusetts, of which 2/3rds is in Boston.
  • Boston's under 65yr/old population is growing at 4x's that of it's 65+ population (+46k vs. +13k, 2010-->2016).  Inversely, Massachusetts (x-Boston) is adding 4x's the 65+yr/olds than under 65yr/olds (+36k vs. +155k, 2010-->2016).
  • Boston has added 221 thousand jobs over the current expansion...the remainder of New England (including "rural" Mass) has added just 129 jobs over the same period.
Mid-Atlantic (NY, NJ, PA)
  • The Mid-Atlantic situation is little better than that of New England.  Aside from a few select cities like NYC's positive demographic, population, and job trends (NYC alone has added more than 2/3rds of all net new jobs in the Mid-Atlantic during the current cycle)...the region is fast falling into the grip of the depopulation crisis.
To predict a wholesale collapse of economic activity and property values outside of the few primary cities in New England and the Mid-Atlantic is a no-brainer.  The die is cast absent some form of federal bailout or outside intervention.

The Midwest situation is slightly different but really no better than New England's.  All the same dynamics are in play but the Eastern Midwest (IL, WI, OH, MI, IN) will likely begin its collapse alongside New England and slightly sooner than the Western Midwest (IA, KS, MN, MO, NE, ND, SD).

As for the South, the extremes are at play from the East South Central (MS/AL/KY/TN) and Appalachia which are in the same boat as the Eastern Midwest with horrific population, demographic, and employment trends vs. the extreme growth of the West South Central (TX, OK, LA, AR)...which is in truth just all about a national mass exodus to Texas.  The S. Atlantic (DE, DC, FL, GA, MD, NC, SC, VA, WV) is relatively healthy (x-W. Virginia).  Again, the cities across the region have all the best demographics, population and job trends vs. very negative rural dynamics.  But nothing matches the positive demographics and job growth of a single Southern location, Washington, DC.
  • DC is adding nearly 7 under 65yr/olds for every 65+yr/old (by far the best ratio nationally)
  • DC is one of only two locations nationally which are adding more jobs (+100k) during this cycle than during the '90-->'99 or '99-->'07 periods (the other being N. Dakota)
Finally, the West.  A significant divergence is taking place regarding the relatively positive dynamics of the Pacific states (WA, OR, CA, HI, AK) plus those of Colorado and Utah vs. the rest of the intermountain states.

The Pacific states are seeing similar dynamics as the rest of the nation with primary cities representing the best demographics, population and jobs growth and rural areas suffering.  However, as a whole, the Pacific (plus CO/UT) has the best dynamics and is least likely see an overall housing or economic crisis (though most Pacific rural communities are likely to suffer the same dynamic of depopulation and economic crisis).

The Intermountain West (WY, ID, NM, AZ, MT, NV...again, excluding CO/UT) has shockingly negative demographic, population, and job trends in general but particularly problematic outside the primary cities.  The depopulation crisis is very much in sight for the intermountain states.

Takeaways

  1. Federal Reserve interest rate hikes and/or balance sheet reduction (to the extent they negatively impact mortgage rates) are unlikely but if successful and mortgage rates begin rising, this will accelerate the "depopulationary" economic collapse across vulnerable portions of America.
  2. New England (x-Boston), the Mid-Atlantic (x-NYC), the Midwest, the deep South, the Intermountain West (x-CO/UT), and rural America at large are all ripe for economic spirals.  Residential real estate, locally collapsing retail, and CRE are also likely.
  3. Local and regional bank failures in these areas are highly likely.
  4. Affected areas will continue hiking state, county, and municipal tax rates, counterproductively driving away business and the populace that pays the majority of the taxation.
  5. Municipal bond failures are likely to surge absent some outside intervention.
  6. As this cascade of local depopulation plays out over widening areas resulting in a growing crisis...the Federal Reserve will ultimately follow the BoJ's example and permanently (re)implement a hyper-monetization program.
  7. Ultimately, large scale programs to purchase (at what price?) and destroy excess housing stocks in negatively affected regions is likely.
Postscript...The Global Picture
Chart below shows global annual population growth peaked in 1988 and annual growth has decelerated 15% since, with further estimated and anticipated growth deceleration through 2050.

The chart below breaks out this annual population growth by nation type, again with estimated growth by nation type through 2050.

The chart below shows the annual change in the global child bearing population (0-45yr/olds) has collapsed 60% from the 1988 peak and is estimated to be down over 90% by mid 2030.  Further, the chart again highlights which nations the population growth is coming from but highlights that all net child bearing population growth is taking place among the poorest and lowest consuming nations of the world (Africa).  This is somewhat offsetting accelerating depopulation among the OECD and BRICS.
The chart below highlights the growing deviation of total global annual population growth (black columns) vs. child bearing (under 45yr/old...blue columns) population growth.  The chart also highlights the Federal Funds rate (light blue line) moving in sync with slowing population growth, growth in global debt (red line) moving inversely, and global GDP (yellow line) decelerating.