Axel Merk: trump Proposing a Tax on Savings

Mike Gleason: It is my privilege now to welcome in Axel Merk, President and Chief Investment Officer of Merk Investments and, author of the book Sustainable Wealth. Axel is a well-known market commentator and money manager and is a highly sought-after guest at financial conferences and on news outlets throughout the world, and it's great to have him back on with us.

Axel, it's a pleasure as always. Thanks for joining us again.

Axel Merk: Great to be with you.

Mike Gleason: Well, Axel, we recently took a look at the September US Business Cycle Chartbook and for those that are interested, they can download that for free at MerkInvestments.com and click on research. But in there, Axel, you put together a number of great charts on a variety of factors and ultimately the outlook is a bit mixed for the U.S. economy.

You think the odds favor continued expansion in the months just ahead, but there are some warning signs as well. Can you give our listeners a couple of the pros and cons? What are some of the important signals of continued growth and what are some of the things that could throw a wrench into the economy in the months ahead?

Axel Merk: Sure. And let me try not to be too academic about it. Everybody knows we've got some global headwinds, trade tensions and whatnot. And the question is going to seep it over to the U.S. consumer. And just to take a step back, the U.S. consumer is obviously a huge chunk of the U.S. economy. And then the things that get us into recession sometimes would be inventory adjustments or the lack of business investments. And nobody should be surprised if inventories gyrate based on the Presidential tweets, people are trying to avoid goods or deplete them. So, there might be some technical adjustments. Business investments going down, that is of course a bigger concern. Now all that said, as you're aware, unemployment rate is low, and the people have jobs, right. And so that's all good.

What's really not good is the manufacturing industry and globally, that's gotten a huge stand, and in the U.S. that's also soft. And so, the question really is: Is it going to spill over to the U.S. economy? And one has to always put that in a context of the Presidential tweets. I have argued and as we speak and as we publish this, there's going to be probably another tweet, the thing is how is this going to play out? And obviously I don't have a crystal ball, but there's a huge incentive for both the Chinese and the President to ease trade tensions between October and December. That's really the window.

President Trump like any president would like to get reelected for that, you need to have a strong economy. And so if, and I'm not saying trade issues are going to be all resolved, that's not in the President's interest. He wants to keep it in news. He might want to have it on something less important like wants tariff on French wine. But he needs business investment to pick up, and there is an opportunity to make that happen in the coming months.

And then what you are faced with, is very low unemployment. You are faced with easing of trade tension, and low interest rates. And so you've got the perfect recipe to have a strong economy heading into the election. Now referring to the chart book, obviously the chart book have hindsight and it's precisely to avoid this sort of crystal ball thinking that I'm doing with you on the, you know. So we go back several decades and look at what has worked in the past. One of the things we can talk about is the yield curve, which I think is overrated.

Mike Gleason: Yeah, it kind of leads me into my next question, there. Bonds very recently began selling off and yields have been rising. This created some headwinds for precious metals, but perhaps we will see the yields moving downward again. The consensus is for the FOMC to cut rates again next week. The President has been all over Fed Chairman Powell to do more to stimulate. He suggested earlier this week that rates should be zero or even less. What are you expecting from the Fed over the next year, Axel? Are we going to see a steady string of rate cuts back to zero or even negative? Or maybe the FOMC will take former New York Fed President William Dudley's advice and avoid stimulus. He says the Fed should not enable the President's trade war with China. What do you think about all that?

Axel Merk: How many hours do we have here? First of all, the market is pricing in one rate cut this coming meeting. I think that's pretty clear cut. The challenge really is – with both the Fed and also what's happening in Europe – the Fed cannot solve the problems that we have. We have plenty of access to credit both in the U.S. and the Eurozone. People are not borrowing. And if you look at bond yields, bond yields rise, meaning interest rates move, as we have changes in the perception of the business environment. So, interest rates come down when trade tensions flare up, that's because there is less opportunity to invest. The long end of the yield curve is not controlled by the Fed. They tried to sometimes with QE and whatnot. And so, this idea that, “Oh the yield curve is inverted, and therefore we have to cut rates.”

No, long term rates are low and therefore something needs to be resolved on trade. If we want those rates to be higher. On the short end, the Fed cannot predict the next tweet. I mean I just gave you my crystal ball. I have no idea whether I'm right. But when Fed Chair Powell says, "Policy is now dependent on political developments," that's a tweet dependent Fed. It just doesn't work. Now the criticism, if you were just to sit on the sideline is that he's going to be late. Well of course he's going to be late. The Fed is always late, and that's kind of the job in this sort of environment. But trying to preempt what might happen. And again, more importantly, a trade war cannot be won by lowering interest rates. They have nothing to do with one another.

And to just make a comment on the Presidential tweet in general on the Fed, when the most effective monetary policy is one where a Fed official utters a few words and rates move, it's more expensive to cut rates, more expensive to have QE. So, when you have somebody outside of the Fed who is influential, like the President, interfere, that makes Fed policy more expensive. That means the Fed has to move more to achieve the same thing. So, that's an academic way of saying why it is not helpful for the President to meddle with the Fed.

Now obviously politically it's helpful, right? If you have a weakened economy, why not have the Fed as a punch back. So, politically it kind of makes sense. But from an actual monetary point of view, rates will be higher, long ends on interest rates will be higher when the President tweets. The bonds often fall when the President tweets and so it's not helpful for what the Fed is trying to achieve.

Mike Gleason: Let's talk about Europe for a minute. The ECB just announced a bit more stimulus, but European growth forecasts are not very encouraging, lke the U.S., or perhaps even more so. European economies are stagnating under mountains of debt and the prescription is to lower rates and try to entice even more borrowing. Then there are some geopolitical events. For example, the British people are still wrestling over Brexit and it is far from clear how that matter will be resolved now – more than three years after UK citizens voted to leave. So do you see any solutions coming for some of the big problems over in Europe?

Axel Merk: Well, I guess Madame Lagarde is the solution because Mr. Draghi has thrown in the kitchen sink and he's going to retire in a few weeks. Same as in the U.S., we have, and you mentioned a few of the issues: Brexit, you cannot solve that with interest rates. Exports. One is trade tensions. The other one is actually exports to Turkey. Eurozone interest rates don't fix those issues. Germany not getting its act together quickly enough, in getting onto electric cars and re-engineering its automotive industry. You cannot fix that with interest rates. Access to credit is abundant. And the banks, they’ve tried to help them a little bit with a new tiered interest rate system but doesn't really help them. And so again, they're trying to use the wrong tool to fix the problems of the day, but it hasn't stopped them.

And offline we talked briefly about metals going up. Well, what happens when you lower rates everywhere, but it doesn't really have an impact? Well it does have an impact on the metals. And one thing we should talk about maybe is Madame Lagarde succeeding Draghi. I think she can do something. Ever since she has been nominated on, I believe it was July 3rd, the spreads in the Eurozone, so the premia that Italy and Greece pay for example versus German bunds have come down.

And the media have attributed that to fantastic new policies in Greece and Italy and maybe the most recent action at the ECB. But I think Lagarde may well take the Eurozone to the next level and socialize that debt more, meaning making Germany be on the hook for Italian and Greek debt more, to keep those spreads down. So, that's where I think Lagarde can do more. But as far as growth is concerned, what we need is visibility on investments, we need less regulation, those sorts of things. And just printing money is not the solution to the ills of the world.

Mike Gleason: Seems like they're moving in the opposite direction there. Obviously we've been reading a lot about all the negative yielding bonds out there in Europe, specifically Japan as well. Do you see that coming to the U.S. is that going to spread here in the bond market?

Axel Merk: Well the President tweeted yesterday that interest rates should be low or less. I then cynically said, "Wait a second, the President is proposing a tax on savings," because that's what it is. Negative interest rates on cash would be a tax on savings. It is increasingly talked about in central banking circles. That's why many central bankers, would like to move to digital money. They may not like the Libra project, but they are toying with that idea. Who knows what's going to happen down the road? I think it's going to be very unhelpful to how the U.S. financial system is structured, but let's keep in mind that we don't have markets anymore. People at the New York Fed, Williams who came from the San Francisco Fed, is an academic. And so, they play with these models and who knows how far they'll push them?

In the short term, in the very short term, as I indicated earlier, I think these trade tensions will ease and the Fed will have less of an inclination to cut down the road. I think the market was pricing in too much of a rate cut. But yeah, in the long run all bets off, how where the central bankers are going to take things.

Mike Gleason: And leads us then into gold. Obviously that's a good environment for gold. The war on cash, you kind of alluded to that, should drive more safe haven demand into gold. Gold and silver have performed well this year despite the recent pullback. It appears there is some appetite for safety and there's this general acknowledgement that the rate hiking cycle at the Fed is over, at the very least. We'd like to get your thoughts as we approach the final quarter of the year. Do you think metals can hold on here and is there still room for more gains? What is your short term outlook for metals, Axel?

Axel Merk: There is room but it's not going to be a straight line. As I indicated to you, I actually think trade tensions are going to ease and we might end up with a hot economy, when this is all said and done. That's clearly an outlier scenario right now. I'd be the first one to admit that. But the Fed is going to be late in that sort of environment. And that's going to be good for gold. As long as we are in the late stages of this economic cycle, there will be people looking to diversify. You have a lot of people who want to hold onto the gains and equities and rather than move to cash, they want to diversify with something else. And gold and gold mining, you can do that with a fairly small portion added to the portfolio. If people are really scared, they would move to cash probably much more than they do right now. And so, but at the same time, if indeed we do have a better outlook, yes, that might provide some headwinds to gold.

And so, it's not going to be a straight line how this unfolds and obviously the slowdown scenario is a very real one that's continuing to unfold. And obviously the Eurozone appears to be willing to cut rates. I think in the U.S. we've kind of over done it with those rate cut expectations for the time being, but it's going to certainly remain interesting. And again, it doesn't really matter how it plays out. It matters how the risk is always playing out. So, for people do buy gold, they need to see the risk of certain scenarios happening and those risks, I think will continue to be around.

Mike Gleason: Well, as we begin to close here Axel, as we usually do, we'll ask you to give us any of your final thoughts, topics or events that maybe we haven't talked about yet. Or perhaps give us a sense of what you're going to be watching most closely that you believe will have an impact on financial markets moving forward.

Axel Merk: Well, maybe you should buy some French wine. The reason I say that is that my assumption is that the trade tensions will move from where it matters on GDP to less relevant things. So, if Trump imposes tariffs on French wine, it will make the headlines. Lots of people will be outraged, but it's not going to affect global GDP, because trade needs to be in the news for the President because it's an important topic for him. But the economic damage, so to speak is, going to be less.

With regard to investing, I say the thing I frequently say, investors should stress test their portfolios, because this can go in many different ways. And obviously we talked about gold, gold mining, we like them; we invest in them. But those are certainly volatile. And for those who have invested in those over the years, they know that the volatility we have seen of late is really nothing compared to the sort of volatility when one could see.

Mike Gleason: Yeah, it's certainly going to be interesting. A lot of different directions this could go. And we'll be watching to see how it all unfolds.

Well, thanks Axel. We appreciate the time as always and enjoyed the conversation once again. Now before we let you go, please tell folks a little bit more about your firm and your services and then also how they can follow you more closely, please.

Axel Merk: Sure. MerkInvestments.com is the website. I'm on Twitter @AxelMerk and we do all kinds of things. We have some public products. We do provide some customized advice as well to high net worth individuals. And importantly, we publish research reports as well where we have unbiased charts where we dive into things. So come to our website, browse around and if you want to be in tune with the latest and greatest, follow me on Twitter.

Mike Gleason: Excellent. Thanks again Axel. Have a great weekend and enjoy the fall and we'll look forward to catching up with you again down the road. Take care of for now.

Axel Merk: My pleasure. Take care.

Mike Gleason: Well that will do it for this week. Thanks again to Axel Merk, President and Chief Investment Officer of Merk Investments, Manager of the Merk Funds. For more information, be sure to check out MerkInvestments.com.