The Peter Schiff Show Podcast

Record Highs in the Markets

This is the last day of the third quarter; S&P 500 and NASDAQ ended at record highs.  I am not sure what made the Dow miss an all-time record - it was close but no cigar.  Other broader measures did hit record highs to close out the quarter, in fact, Donald Trump was tweeting about the record highs in the stock market earlier this morning.  Of course, when we were having record highs under Obama, it was a bubble and it didn't matter, but now that it is his bubble, it's now a bull market and it simply shows what a great job he is doing as President.

Weak Dollar Boosts International Markets

Of course, U.S stock markets were overshadowed by international markets, thanks in large part to the weakness in the U.S. dollar. The dollar did recover some of its losses in this closing week of the quarter (I believe, again, a bit of a dead cat bounce).  I think the dollar is going to have its weakest quarter of the year in the fourth quarter, so we'll see if I'm right on that. But even with a little bit of a bounce, the dollar index back up to 93.o7. Despite that, foreign markets still well out-performed the U.S. stock markets in Q3 as did gold stocks.  If you bought gold stocks, they did better than the S&P in Q3.

Gold Seeking Key Level

I think the divergence between the gold stocks and the S&P is going to accelerate in Q4.  Obviously 1300 was not really the breakout; gold got all the way up to $1350 before turning back, and it's now back below $1300; it was off another few bucks today. So I think maybe $1300 wasn't the key level.  It's probably $1350 or higher before we get the breakout.  I think we're at $1280 right now.

Personal Income and Spending Weak

More bad economic news: the big number was personal income and spending.  It met expectations, relatively, except they did revise July down.  It was originally reported at +1.4% and they revised it to +1.3%, so, weaker than they had originally reported.  For August it was up .2% and consumer spending was up .1%.  Last month's +.3 was unrevised but this month met expectations of +.1% and these are low numbers

 

Estate Tax is Out

Today President Trump announced some of the details of his highly-anticipated tax reform, which is really not tax reform, it's more of a tax cut masquerading as a reform. I would say the best part about it is the elimination of the estate tax.  That, in and of itself is a very substantial improvement. That tax should not be there;  it raises very little revenue but does tremendous damage to businesses.  It impedes the ability of a family business to be passed down from generation. It leads to the destruction and dismantling of businesses, the loss of know-how, ingenuity and jobs.

Fewer Tax Brackets

As far as the rest of the plan, I like lower taxes, I like fewer brackets (I'd like to have just one bracket - I'd like to flatten it all the way down to zero). Under the President's plan, the brackets are 12, 25 and 35%.  I'd just as soon it would be one bracket of 25%.  If we are going to have an income tax let's let everybody pay the same rate. The new plan is an improvement over the number of brackets we have now. But again, remember, some future President can just expand on these brackets. In fact they're already talking about a fourth bracket because the highest bracket, 35% represents a reduction of the current top rate of 39.6%.  Of course you have to add the 39% Obamacare tax and, of course a lot of people have to add the state income taxes.

State and Local Taxes No Longer Deductible

By the way, if this version of the bill passes, state taxes will no longer be deductible. That was the one deduction that they were willing to give up, state and local taxes, but they preserved the home mortgage deduction. Personally, I'd rather see it the other way around: get rid of the home mortgage deduction and allow people to deduct their state and local income taxes.  I have a problem on taxing people on money they never got.  If the state taxes you, you never get that money.  Why should the Federal government tax you on the money the state took from you before you had a chance to get it?  I did a podcast on that idea. I think you can't take income that was taken from the citizens by the state.  In fact it may even be unconstitutional.

Home Mortgage Deduction is All Politics

Why keep the home mortgage deduction? It's all politics.  That deduction is bad economics. If we're going to have an income tax, you don't have a choice about whether or not to pay state and local taxes, but you have a choice about whether or not to buy a house. You shouldn't get a deduction on your income tax based on the way you choose to spend your money. That's the government trying to micro-manage buying decisions, trying to distort and influence the economy. But the housing industry is a strong lobby and they influence the tax code. It's because of the swamp creatures that the mortgage deduction is there.

Standard Deduction is Doubled

Now the standard deduction is doubled. What this means is more people utilize this standard deduction, fewer people will itemize.  Itemizing is less advantageous because you can't include your state and local taxes. Now if you own real estate, right now you deduct not only your mortgage but your property taxes. If you can no longer deduct your property taxes, obviously that will reduce the value of real estate because it increases the after tax cost of owning it.

 

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Estate Tax is Out

Today President Trump announced some of the details of his highly-anticipated tax reform, which is really not tax reform, it's more of a tax cut masquerading as a reform. I would say the best part about it is the elimination of the estate tax.  That, in and of itself is a very substantial improvement. That tax should not be there;  it raises very little revenue but does tremendous damage to businesses.  It impedes the ability of a family business to be passed down from generation. It leads to the destruction and dismantling of businesses, the loss of know-how, ingenuity and jobs.

Fewer Tax Brackets

As far as the rest of the plan, I like lower taxes, I like fewer brackets (I'd like to have just one bracket - I'd like to flatten it all the way down to zero). Under the President's plan, the brackets are 12, 25 and 35%.  I'd just as soon it would be one bracket of 25%.  If we are going to have an income tax let's let everybody pay the same rate. The new plan is an improvement over the number of brackets we have now. But again, remember, some future President can just expand on these brackets. In fact they're already talking about a fourth bracket because the highest bracket, 35% represents a reduction of the current top rate of 39.6%.  Of course you have to add the 39% Obamacare tax and, of course a lot of people have to add the state income taxes.

State and Local Taxes No Longer Deductible

By the way, if this version of the bill passes, state taxes will no longer be deductible. That was the one deduction that they were willing to give up, state and local taxes, but they preserved the home mortgage deduction. Personally, I'd rather see it the other way around: get rid of the home mortgage deduction and allow people to deduct their state and local income taxes.  I have a problem on taxing people on money they never got.  If the state taxes you, you never get that money.  Why should the Federal government tax you on the money the state took from you before you had a chance to get it?  I did a podcast on that idea. I think you can't take income that was taken from the citizens by the state.  In fact it may even be unconstitutional.

Home Mortgage Deduction is All Politics

Why keep the home mortgage deduction? It's all politics.  That deduction is bad economics. If we're going to have an income tax, you don't have a choice about whether or not to pay state and local taxes, but you have a choice about whether or not to buy a house. You shouldn't get a deduction on your income tax based on the way you choose to spend your money. That's the government trying to micro-manage buying decisions, trying to distort and influence the economy. But the housing industry is a strong lobby and they influence the tax code. It's because of the swamp creatures that the mortgage deduction is there.

Standard Deduction is Doubled

Now the standard deduction is doubled. What this means is more people utilize this standard deduction, fewer people will itemize.  Itemizing is less advantageous because you can't include your state and local taxes. Now if you own real estate, right now you deduct not only your mortgage but your property taxes. If you can no longer deduct your property taxes, obviously that will reduce the value of real estate because it increases the after tax cost of owning it.

 

Yellen Putting On an Optimistic Front

Everybody is watching Janet Yellen this week; the Federal Reserve met and did not raise interest rates - no one expected them to raise interest rates.  But Yellen did offer a more optimistic assessment on the economy than most people were expecting. In fact, she shrugged off all these hurricanes and did not mentioned all the money that will have to be borrowed to repair all the destroyed infrastructure.

No Rate Hike

She's not worried at all about the impact of the hurricanes on the economy, and based on how upbeat she is, the markets are convinced that we are going to get another rate hike between now and the end of the year.  Most likely December - and I think the markets had already started to price out a December rate hike and now they are pricing it back in.

Shrinking The Balance Sheet

But what everybody was waiting for was the plan on quantitative tightening.  They are afraid to use that language, but they're just talking about winding down their balance sheet. Janet Yellen did say that they would begin in October or November.  They will not roll over $10 billion per month.  Now, if they earn $15 billion in interest, they are still going to re-invest $5 billion. So it is possible that even though they are doing this "taper", that the balance sheet could still be getting bigger.

$10 Billion a Month Forever

If they stay at $10 billion a month it will take forever to actually shrink the balance sheet - which they won't do, because long before we get to forever, we're going to get to the next recession and then they will have to crank up the balance sheet.

Fed is in a Box

The Fed is in this box, they've boxed themselves in.  They have kept rates so  low for so long, they've allowed so much debt to accumulate it is impossible to allow interest rates to rise, but they can't admit that.  So they have to pretend, they have to talk as if everything is going to be fine, they will be able to normalize rates, they will be able to shrink the balance sheet. None of this is possible, and it's only a matter of time before the market figures it out.

 Bankrupt!

Just like Toys R Us - bankrupt overnight.  It was just a matter of time before Toys R Us creditors realized they are insolvent.  Then, Boom! Puerto Rico, already bankrupt, can't do anything to help itself now.  It it were not for money coming to Puerto Rico from the United States, what would they do? They didn't save, they squandered their money, they ran up big debts - America has done the same thing and there is no bailout for America.

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Yellen Putting On an Optimistic Front

Everybody is watching Janet Yellen this week; the Federal Reserve met and did not raise interest rates - no one expected them to raise interest rates.  But Yellen did offer a more optimistic assessment on the economy than most people were expecting. In fact, she shrugged off all these hurricanes and did not mentioned all the money that will have to be borrowed to repair all the destroyed infrastructure.

No Rate Hike

She's not worried at all about the impact of the hurricanes on the economy, and based on how upbeat she is, the markets are convinced that we are going to get another rate hike between now and the end of the year.  Most likely December - and I think the markets had already started to price out a December rate hike and now they are pricing it back in.

Shrinking The Balance Sheet

But what everybody was waiting for was the plan on quantitative tightening.  They are afraid to use that language, but they're just talking about winding down their balance sheet. Janet Yellen did say that they would begin in October or November.  They will not roll over $10 billion per month.  Now, if they earn $15 billion in interest, they are still going to re-invest $5 billion. So it is possible that even though they are doing this "taper", that the balance sheet could still be getting bigger.

$10 Billion a Month Forever

If they stay at $10 billion a month it will take forever to actually shrink the balance sheet - which they won't do, because long before we get to forever, we're going to get to the next recession and then they will have to crank up the balance sheet.

Fed is in a Box

The Fed is in this box, they've boxed themselves in.  They have kept rates so  low for so long, they've allowed so much debt to accumulate it is impossible to allow interest rates to rise, but they can't admit that.  So they have to pretend, they have to talk as if everything is going to be fine, they will be able to normalize rates, they will be able to shrink the balance sheet. None of this is possible, and it's only a matter of time before the market figures it out.

 Bankrupt!

Just like Toys R Us - bankrupt overnight.  It was just a matter of time before Toys R Us creditors realized they are insolvent.  Then, Boom! Puerto Rico, already bankrupt, can't do anything to help itself now.  It it were not for money coming to Puerto Rico from the United States, what would they do? They didn't save, they squandered their money, they ran up big debts - America has done the same thing and there is no bailout for America.

Market Anticipates Quantitative Tightening

The market continues to rise; people are excited about the Fed meeting that start tomorrow and concludes on Wednesday.  Nobody expects a rate hike and there's not going to be a rate hike, but what everybody is looking forward to is the Fed outlining its strategy for quantitative tightening.

Shrinking the Balance Sheet

The Fed hasn't actually used those words yet; I use that term because what they are going to do is they are going to shrink their balance sheet.  Right now, it's pretty much as large as it's ever been ever since it has done QE: just over $4.5 trillion.  The idea is that the Fed is going to lay out a timetable or a roadmap for shrinking this balance sheet.

Upward Pressure on Interest Rates

I don't know why the markets are so excited about the prospect of a plan to shrink the Fed's balance sheet; if the Fed actually shrunk the balance sheet the markets would not like it. This would put dramatic upward pressure on interest rates, which is not good for stocks.

GDP Estimates Down

Also, GDP forecasts are coming down, we had big reductions late last week. Much of the reductions came from bad economic data we received before the hurricanes. Now, in the aftermath of hurricanes, that bad economic data is going to get even worse.  They are already tallying up the damage from Irma and Harvey and it is enormous.

Real Estate Under Water

Speaking about real estate, there are many people who did not have flood insurance.  The question is: What are they going to do with their houses? Are they going to borrow more money with low interest rate government loans and be deeper under water? Or are they going to walk away from their homes and just give these underwater housed back to the bank? Also, if Maria hits Puerto Rico and does a lot of damage, the U.S. government will have to pay for some of that.

Government Spending Increase

With all this bad news about the economy, why is the Fed going to try to make it worse by shrinking its balance sheet? The budget deficit is already going to explode; all the hurricane relief money needs to be borrowed.  Trump is promising to roll out the Republican tax cut plan by the end of the month and it may be a joint efforts with the Democrats.  They've already said it will increase the deficit.  If the deal is with the Democrats, it will no only mean less tax revenue, it will also mean big increases in government spending.

Money for Hurricane Damage - Money for Everybody!

So not only will we be paying for hurricane damage, there will be new infrastructure spending, new money for the military - who knows if we get money for the wall? Maybe it's going to be money for everybody, the Democrats and Republicans coming together to fill everybody's Christmas stocking with goodies for the voters.  How is the Federal Reserve going to add to the pressure?

Who Will Buy Government Bonds?

Remember: if the Treasury is going to borrow more money, that's more bonds being offered for sale. If the Federal Reserve is not only not a buyer for those bonds (which it normally would do), if it is shrinking its balance sheets it cannot buy any of them. So now the Federal government, the Treasury, is going to have to go into the private market to sell well over a trillion dollars worth of treasuries to finance next year's budget deficit without any help from the Fed.

Repay Fed Plus Finance New Borrowing

But not only is the Fed not going to help, the Treasury will be in competition with the Fed.  They will both be trying to unload treasuries at the same time. In other words, if the Federal Reserve refuses to roll over the maturing bonds, or refuses to reinvest the interest payments they earn, then the Treasury will have to sell those bonds, too. They have to sell enough bonds to repay the Fed in addition to finance all the new borrowing.

 

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Market Anticipates Quantitative Tightening

The market continues to rise; people are excited about the Fed meeting that start tomorrow and concludes on Wednesday.  Nobody expects a rate hike and there's not going to be a rate hike, but what everybody is looking forward to is the Fed outlining its strategy for quantitative tightening.

Shrinking the Balance Sheet

The Fed hasn't actually used those words yet; I use that term because what they are going to do is they are going to shrink their balance sheet.  Right now, it's pretty much as large as it's ever been ever since it has done QE: just over $4.5 trillion.  The idea is that the Fed is going to lay out a timetable or a roadmap for shrinking this balance sheet.

Upward Pressure on Interest Rates

I don't know why the markets are so excited about the prospect of a plan to shrink the Fed's balance sheet; if the Fed actually shrunk the balance sheet the markets would not like it. This would put dramatic upward pressure on interest rates, which is not good for stocks.

GDP Estimates Down

Also, GDP forecasts are coming down, we had big reductions late last week. Much of the reductions came from bad economic data we received before the hurricanes. Now, in the aftermath of hurricanes, that bad economic data is going to get even worse.  They are already tallying up the damage from Irma and Harvey and it is enormous.

Real Estate Under Water

Speaking about real estate, there are many people who did not have flood insurance.  The question is: What are they going to do with their houses? Are they going to borrow more money with low interest rate government loans and be deeper under water? Or are they going to walk away from their homes and just give these underwater housed back to the bank? Also, if Maria hits Puerto Rico and does a lot of damage, the U.S. government will have to pay for some of that.

Government Spending Increase

With all this bad news about the economy, why is the Fed going to try to make it worse by shrinking its balance sheet? The budget deficit is already going to explode; all the hurricane relief money needs to be borrowed.  Trump is promising to roll out the Republican tax cut plan by the end of the month and it may be a joint efforts with the Democrats.  They've already said it will increase the deficit.  If the deal is with the Democrats, it will no only mean less tax revenue, it will also mean big increases in government spending.

Money for Hurricane Damage - Money for Everybody!

So not only will we be paying for hurricane damage, there will be new infrastructure spending, new money for the military - who knows if we get money for the wall? Maybe it's going to be money for everybody, the Democrats and Republicans coming together to fill everybody's Christmas stocking with goodies for the voters.  How is the Federal Reserve going to add to the pressure?

Who Will Buy Government Bonds?

Remember: if the Treasury is going to borrow more money, that's more bonds being offered for sale. If the Federal Reserve is not only not a buyer for those bonds (which it normally would do), if it is shrinking its balance sheets it cannot buy any of them. So now the Federal government, the Treasury, is going to have to go into the private market to sell well over a trillion dollars worth of treasuries to finance next year's budget deficit without any help from the Fed.

Repay Fed Plus Finance New Borrowing

But not only is the Fed not going to help, the Treasury will be in competition with the Fed.  They will both be trying to unload treasuries at the same time. In other words, if the Federal Reserve refuses to roll over the maturing bonds, or refuses to reinvest the interest payments they earn, then the Treasury will have to sell those bonds, too. They have to sell enough bonds to repay the Fed in addition to finance all the new borrowing.

 

President Trump Courts Dems on Tax Reform

I think the catalyst for the rise in the stock market today is enthusiasm over President Trump's announcement that he is working with the Democrats and is close to a deal on tax cuts. So that if he can't get something done with the Republicans, he will get it done with the Democrats and, one way or another, he's going to accomplish this major tax reform.

Major Shift to Make Economy More Productive

But of course, it's not going to be tax reform; it's going to be tax cuts. Based on what the President is saying, we're not going to reform the tax code, we're not going to have a major shift that will make the economy more productive. The President has already said that the "rich", however he is going to end up defining rich, and I have  feeling that "rich" might be a lot less income than people might believe, but he is saying that the rich are not getting a tax cut at all. They may even have a tax hike!

Growth Comes When You Lower Marginal Tax Rate

If you're not going to lower the top rate, if you're not going to reduce the marginal rate of tax, you're really not going to get any economic stimulus, because that's where the growth comes from.  Growth comes when you lower the marginal rate and people have the incentive to work harder and product more taxable income, so that maybe the government can actually collect more taxes at a lower rate because there will be more income subject to tax. The reason is, the higher income workers need an incentive to continue to work harder in order to promote savings and investment. if the cost of working harder exceeds the cost of not working, people will choose leisure over productivity.

More Government Spending, Less Revenue

Now if the middle class tax bracket gets reduced a little bit, they probably will not have the incentive to work harder or generate more income or productivity.  They will just pay a little less tax.  I'm all for lower taxes, but only if we shrink government; only if we cut government spending. Nowhere is the President talking about that.  In fact, what he is talking about is more government spending. I'm sure that any deal with the Democrats is going to involve increasing government spending on infrastructure, on hurricane disaster relief, on border security - whatever it is, it is going to be a giant bill that will result in more government spending and less revenue to pay for that spending

 

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President Trump Courts Dems on Tax Reform

I think the catalyst for the rise in the stock market today is enthusiasm over President Trump's announcement that he is working with the Democrats and is close to a deal on tax cuts. So that if he can't get something done with the Republicans, he will get it done with the Democrats and, one way or another, he's going to accomplish this major tax reform.

Major Shift to Make Economy More Productive

But of course, it's not going to be tax reform; it's going to be tax cuts. Based on what the President is saying, we're not going to reform the tax code, we're not going to have a major shift that will make the economy more productive. The President has already said that the "rich", however he is going to end up defining rich, and I have  feeling that "rich" might be a lot less income than people might believe, but he is saying that the rich are not getting a tax cut at all. They may even have a tax hike!

Growth Comes When You Lower Marginal Tax Rate

If you're not going to lower the top rate, if you're not going to reduce the marginal rate of tax, you're really not going to get any economic stimulus, because that's where the growth comes from.  Growth comes when you lower the marginal rate and people have the incentive to work harder and product more taxable income, so that maybe the government can actually collect more taxes at a lower rate because there will be more income subject to tax. The reason is, the higher income workers need an incentive to continue to work harder in order to promote savings and investment. if the cost of working harder exceeds the cost of not working, people will choose leisure over productivity.

More Government Spending, Less Revenue

Now if the middle class tax bracket gets reduced a little bit, they probably will not have the incentive to work harder or generate more income or productivity.  They will just pay a little less tax.  I'm all for lower taxes, but only if we shrink government; only if we cut government spending. Nowhere is the President talking about that.  In fact, what he is talking about is more government spending. I'm sure that any deal with the Democrats is going to involve increasing government spending on infrastructure, on hurricane disaster relief, on border security - whatever it is, it is going to be a giant bill that will result in more government spending and less revenue to pay for that spending

 

A Huge Risk-On Day

The markets rallied all over the world.  Everything was up. All the foreign markets - European markets, Asian markets, rallied.  It was a huge risk-on day. Stocks went up and bonds got clobbered. Yields rose on government bonds, the 10-yr. out to the 30-yr.

Insurance Rates Going Up

There will be a lot of pressure on insurance companies to pay claims for both recent hurricanes and where's that money coming from? It's got to come from the markets.  It is just not sitting there in a piggy bank. It is invested in stocks and bonds, so if they are going to pay claims, you would think that is a negative for the financial market as the insurance companies have to liquidate some of their portfolios, but not today!

Big Move Down for Gold

Risk-on, so you get rid of your safe assets, although I don't know why anyone would consider Treasuries safe, but everybody sold treasuries and bought U.S. stocks. They sold gold.  Gold was down $19 today. This is the biggest one day move I've seen in a while.  In fact, this $19 down move - gold has been moving up steadily to $1350 last week. I don't think I have ever seen a $19 up day.

Gold's Steady Climb

Gold's been going up slowly.  $5, $7, $3; maybe there was one $10 day, I think, but it has been a very slow, steady climb on a wall of worry.  And now, all of a sudden, we have a day where everybody is excited because the hurricane didn't do as much damage as it could have, and they all buy stocks. They dump gold and it goes down $19 in one day. Gold had been climbing before the hurricanes came around. and I don't think any of that gain was necessarily the result of the hurricanes.  Had none of these hurricanes happened, gold could have been exactly where it was before today.  Gold was rallying anyway.

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