Central Bank Digital Currencies (CBDCs) are likely to arrive faster than you think. This is partly because they will not be true cryptocurrencies.

CBDCs will be centralized, whereas true cryptocurrencies are decentralized. This makes a big difference.

The decentralized aspect of a cryptocurrency is what makes it distributed and trustless – meaning there is no requirement to trust a third party in facilitating an exchange. . Because it is decentralized — not governed from a central server or a single place — the user community can claim a kind of mutual ownership of the cryptocurrency. There is no person or entity with total control.  

CBDCs, in contrast, will likely run on government servers, with data that is held by a centralized ledger and subjected to a single point of control (and a single point of failure).

The centralized nature of CBDCs will make them easier to develop in terms of “programmable money”-type features and smart contract execution (self-executing agreements at the point of transaction with terms written into the code). This is why CBDCs will happen faster than many expect. They won’t have as many technical hurdles to overcome as true cryptocurrencies do — and they will benefit from the substantial body of smart contract knowledge and digital currency experimentation that has already developed over a period of years.

The smart contract capabilities of, say, Ethereum are comparably much harder to pull off than they will be for CBDCs, because ether (the cryptocurrency of Ethereum) has to do everything in a decentralized manner, in order to stay distributed and trustless as a true cryptocurrency.

Enabling safe, reliable, and fast-executing smart contract features on a decentralized platform is a much bigger challenge than going for a centralized version of the same capability set. Building a complex set of software features to run off thousands or millions of computers, with none in total control, is far harder than having a large store of data in a single place.

But then, the whole point of a CBDC is to grant control to a single entity, or a single combined set of entities — the central bank and the treasury department for the national government running the CBDC. The centralized aspect is a feature in that regard, rather than a bug. 

It also makes perfect sense for governments to have full CBDC ownership because that is how existing fiat money works.

If you look at the portrait side of a U.S. dollar bill, you will see “FEDERAL RESERVE NOTE” written across the top, and the signature of the U.S. Treasury Secretary on the right side. That dollar is a “note,” as it says on the dollar itself, which is “legal tender for all debts, public and private,” because it is owned by the U.S. government.

There will still be major technological hurdles involved in a CBDC rollout. But due to the centralized nature of the design — again, these are not cryptocurrencies — those hurdles will be overcome at a much faster rate, especially with the help of private-sector joint development. The world’s largest private payment processors, like Mastercard, are already hard at work on CBDC platforms.

CBDCs will also roll out quickly, and be adopted quickly, because they will have an instant mass market through their connection to fiat currency transactions.

The reason investors have a base currency — a currency they default to when going to cash — is because most of their day-to-day liabilities are priced in that currency.

If you own a house and run a business in the United States, for example, you will probably have a mortgage payment in dollars, and utility payments that are priced in dollars, and an employee payroll that is paid in dollars, and tax obligations that are payable in dollars.

If you are operating out of the European Union, in contrast, all of those things will be in euros. Or if you are in Japan, they will all be in yen. And so, it makes sense that, for your investment accounts, the base currency you use will be the same one that most of your ongoing liabilities are paid in.

Because CBDCs are essentially fiat currency with smart contract features built in — the same as the old dollars or euros, but programmable like software — there will be a seamless transition toward CBDCs for all the uses where fiat currency previously applied.

And this transition will further be seamless to the extent that most account holders won’t have to do anything. Imagine if your bank creates a feature where you can pay your quarterly estimated taxes, or your mortgage payment, with a single click of a mouse.

That kind of instant functionality might be enabled by the rollout of a CBDC — but for the end user of the bank account, it will feel like nothing other than a modest functionality upgrade versus what was available prior.

So CBDCs will roll out faster than many expect in part because they will be centralized — which makes them far easier to pull off from a technological perspective than true decentralized cryptocurrencies — and they will see instant adoption because their use will seamlessly take over from fiat currencies, and all the built-in liabilities that are now priced in one’s home-country fiat unit of account.

The other factor that will accelerate the rollout of CBDCs is a sense of political urgency, on both the geopolitical front and the monetary and fiscal policy innovation front.

On the geopolitical front, Western governments will fear China getting too far ahead in terms of CBDC development and distribution. If China succeeds in locking in economic relationships with countries around the world, cemented by CBDC-based transaction networks that create a lock-in effect, that could tip the global balance of power toward China alone, and away from the West.

And on the policy front, governments will have to get creative in the aftermath of the pandemic, especially with global debt levels at a historic peak and the traditional tools of monetary policy all but exhausted. With interest rates near zero, and different parts of the economy running hot and cold, the appetite is strong for 21st century experimentation.

All of this underscores why CBDCs will be a force to be reckoned with, and why CBDCs will arrive in the West sooner rather than later. But these factors also underscore how CBDCs’ single biggest strength will also prove to be their single biggest weakness.

The centralized, government-controlled, fiat-oriented nature of CBDCs will make them instantly relevant and powerful once they are rolled out. It won’t be a matter of choice, because CBDCs will be unavoidable when the time comes — citizens will be using them whether they like it or not.

But the decision to keep one’s savings in a CBDC, or to hold large quantities of a CBDC as a store-of-value proposition, will be another matter entirely.

Because of their government-controlled nature and fiat currency roots, CBDCs will likely not be desirable as a store-of-value repository at all — unless, of course, the government running the CBDC is making wise policy choices that add to the net prosperity of the nation.

In the future that is coming, it will be increasingly easy to express approval or disapproval of a government’s policies by voting with one’s savings account, which could mean choosing whether to keep one’s savings in the local CBDC or a separate and scarce alternative. The default alternative, on a global scale, is increasingly likely to be Bitcoin.

Solar power is now “the cheapest electricity in history,” according to new data from the International Energy Agency (IEA). On a cost-comparison basis, the economics of solar energy are superior to coal for new projects, and by midcentury (2025), solar could have a larger global energy footprint than coal.

This is a profound turning point, because coal has been a cost-effective energy source for thousands of years. There are Greek references to coal use in metalworking that date back to the fourth century B.C., and Roman Britons were heavy coal users by the second century A.D.

The transition to solar from coal should be a major net positive for human civilization. As useful as it has been, coal has also been awful for the environment, and the air humans breathe, since time immemorial.

For example, back in the late 13th century, King Edward I — commonly known as Edward the Longshanks — had to battle against Scotland on the one hand and rising coal use in London on the other. The king wanted to restrict London’s coal use on public health grounds, due to the acrid smoke that was poisoning the air and wrecked people’s lungs.

But King Edward lost the coal battle, even with strict bans and Draconian penalties enacted, because London was growing quickly, and Londoners desperately needed a low-cost fuel source for fuel and heat.

At the same time, the wood-based fuel supply from English forests was running out, with remaining forest acreage getting farther away from English cities as trees were chopped down. England’s scaled-up embrace of coal use, going far beyond what the Romans did, was in part a response to “peak wood.”

Coal also played a direct role in bringing about the Industrial Revolution.

In 1712, an inventor named Thomas Newcomen invented the atmospheric engine, commonly known as the Newcomen engine. The Newcomen engine was the world’s first steam engine to go into mass production, with hundreds of them built throughout the 18th century. The primary use case for the Newcomen engine was pumping water out of coal mines.

According to the World Coal Association, coal accounts for 38% of global electricity production.

As a cheap fuel source, it is still hard to beat coal in many emerging market countries, and coal is still used to meet large-scale electricity demand as renewable energy sources ramp up.

But the picture for coal is changing, fast, as a result of rapidly improving economics for solar and wind energy sources.

For example, in May 2020, U.S. renewable energy consumption surpassed U.S. coal consumption for the first time in more than 130 years, according to data from the U.S. Energy Information Administration (EIA).

As of 2019, according to EIA data, the U.S. used coal and renewable energy in equal amounts, with both contributing 11% to the total energy mix. But that 11% represents a rapidly falling percentage for coal, and a rapidly rising percentage for renewables.

This means the greening of America’s energy mix is no longer a hypothetical or a far-off possibility. It is happening here and now. The transition is accelerating, in part, because solar is now winning on the economics, and not just the external environmental benefits (better air quality, reduced carbon emissions, and so on).

The data on solar comes from the World Energy Outlook 2020, an annual report published by the International Energy Agency (IEA, not to be confused with America’s EIA).

According to new IEA calculations, the cost of capital for solar and wind development has fallen as much as 50% in the past two years alone, allowing solar energy to be produced at $20 per megawatt hour or even less. This has led the IEA to conclude that, for new energy projects with low-cost financing availability, solar photovoltaics have become “the cheapest source of electricity in history.”

The tipping point is related to energy economics. As the solar industry scales up in size, the cost of production goes down, thanks to the improved cost efficiencies of expanded output.

This is the same principle by which a mid-sized passenger car would cost hundreds of thousands of dollars, or possibly even millions of dollars, if produced in small-volume batches, but can sell for $30,000 or less at an output of millions of cars per year.

As a result of this transition — where the economics of solar now beat coal — the IEA anticipates solar overtaking coal as the world’s dominant electricity source as soon as 2025.

By the year 2030, according to further IEA projections, renewable energy could represent 80% of all new energy projects. And by 2040, the existing total output of wind and solar combined, including all legacy sources, is expected to be larger than total coal and gas output combined.

“I see solar becoming the new king of the world’s electricity markets,” says IEA executive director Fatih Birol. “Based on today’s policy settings, it’s on track to set new records for deployment every year after 2022.”

The Information Age, in which the global economy transitions from a physical emphasis to a virtual one, as software disrupts almost every industry, is also bringing about a historic energy transition.

As Sheikh Ahmed Zaki Yamani reportedly once said: “The Stone Age didn’t end for lack of stone, and the oil age will end long before the world runs out of oil.” He could have just as easily said coal.

One of the great wealth-building vehicles of the 20th century was the publicly traded retail franchise. There is a reason why retail franchise stocks, when successful, can deliver multi-thousand-percent returns over a long-term holding period.

With a great franchise — like, say, a casual restaurant concept, or a new type of clothing store — the initial locations are shown to have a profitable business model that attracts customers.

As new locations open up, incoming revenue goes up, which increases the likelihood of expanded profits. The repeat success with new locations, adding to revenue and profits, then justifies a public offering.

When the retail franchise goes public, capital is raised for national expansion. The capital raised enables faster expansion, with even more locations, and the new locations add further to revenue and profits.

As expansion continues, investors become increasingly excited by the ability to invest at a high compound rate of return. Because it is hard to find opportunities where growth is consistent, the company’s stock receives a price-to-earnings “growth multiple,” reflecting the likelihood of compelling future growth, which can be anywhere from 30 to 80 times earnings.

The growth multiple then persists as long as the franchise continues to ramp up.

It is helpful to understand this process because, when you see how it works, you can better understand why money managers are always looking for the next McDonalds, Walmart, Chipotle, or Home Depot.

The chain reaction of attention and profits drawing in more capital, which then increases attention further as profits expand, is a kind of virtuous cycle that can make a stock price go up and to the right, sometimes for years at a time.

Something like this is happening for cryptocurrency as an industry now. The crypto asset space is going from a sort of hypothetical, bleeding-edge opportunity — an opportunity of the future — to an opportunity that is here and now. We are watching it happen before our eyes.

If you have ever wondered what it looks like to observe a world-changing trend in its early stages, and to comprehend what is happening as the trend starts gaining power and speed, on the way to moving up and to the right at a 45 degree angle, this is it.

The crypto space is in a virtuous cycle of self-reinforcing feedback loops, where various events and impacts start to feed on each other:

• Investor enthusiasm fuels capital flow into top-tier crypto assets.
• World-class companies ramp up crypto-related tech investment.
• Expanded retail access to crypto payment rails fuels new enthusiasm.
• Companies accelerate crypto adoption via investor encouragement.
• Enthusiasm grows and the feedback loop reinforces itself. 

In crypto terms specifically, we are seeing retail adoption, corporate acceptance, fintech acceleration, and favorable macro factors all favoring crypto simultaneously.

Take this week’s huge news from PayPal, for example. But before we touch on that news, a quick recap of how serious a player PayPal is:

• PayPal is one of the world’s largest and best-known online payment facilitators. Paypal has more than 346 million users, connects with more than 26 million merchants, and has a large enough base of customer deposits that, if PayPal were a traditional bank, by deposit size it would count as the 20th largest bank in the world.

• PayPal also owns the Venmo smartphone payment app, which had over 50 million active accounts and processed more than $100 billion worth of peer-to-peer (P2P) transactions in 2019.

On Oct. 21, PayPal announced a new crypto-related service, set to launch in the coming weeks, that will let PayPal users buy, hold, and sell four top-tier cryptocurrencies — Bitcoin, Ethereum, Bitcoin Cash, and Litecoin — via their PayPal accounts.

On Oct. 21, PayPal announced a new crypto-related service, set to launch in the coming weeks, that will let PayPal users buy, hold, and sell four top-tier cryptocurrencies — Bitcoin, Ethereum, Bitcoin Cash, and Litecoin — via their PayPal accounts.

In even bigger news, PayPal revealed that, in early 2021, PayPal users will be able to use select cryptocurrencies for goods and services purchases in PayPal’s 26-million-strong retailer network.

For years, cryptocurrency as a payment mechanism had two big strikes against it: First, that paying with crypto is too complicated for the average person, and second, that there weren’t enough locations where you could buy stuff with crypto.

PayPal’s entry into the space changes the whole game in that regard. PayPal knows how to make the user transaction experience smooth and simple, because they have already done it for hundreds of millions of users. And by grafting the cryptocurrency option onto an existing network of tens of millions of retailers, the doors are blown wide open in terms of user adoption and ramp-up.

“The shift to digital forms of currencies is inevitable,” said PayPal CEO Dan Schulman in an official statement.

“We are eager to work with central banks and regulators around the world to offer our support, and to meaningfully contribute to shaping the role that digital currencies will play in the future of global finance and commerce,” the statement added. 

Some crypto industry observers think PayPal is laying the groundwork for its own cryptocurrency offering, a sort of PayPal-only version of the FaceBook Libra stablecoin concept. PayPal was an original member of the Facebook Libra consortium, but withdrew its membership in October 2019, after the Facebook project took major heat from government regulators.

The thing to understand with PayPal is that the floodgates are opening now. Whether PayPal offers its own cryptocurrency or doesn’t, the key thing is opening up the payment rails.

• PayPal’s actions will facilitate cryptocurrency payment rails that can potentially connect hundreds of millions of users with tens of millions of retail merchants.

• PayPal will have the ability to make the cryptocurrency transaction process smooth and hassle-free, and may even act as a point of exchange, allowing a PayPal customer to pay in cryptocurrency even as the retail merchant receives fiat currency (because PayPal facilitates the exchange behind the scenes, and turns a profit through trading desk operations).

• PayPal’s action here could inspire urgency, even panic, in the traditional banking industry. The traditional banks have to get involved with crypto now. Their business models are under existential threat if they do not.

Look, normal banks are going to get into crypto assets. Within a few years’ time, you will be able to have a crypto account at Wells Fargo or Bank of America and so on, and it will be a normal aspect of merchant banking services for a business to accept crypto-related payments.

The traditional banks will move in the direction of crypto-related services because, if they don’t, PayPal and others will eat their business, and take away their profit margin, in a process by which Silicon Valley “eats” the banking industry via software industry, as an extension of the Marc Andreessen thesis of “software eating the world.”

The U.S. government will not stop this process either. It cannot. Public legislators do not have the political will, or the voter support, to stop an innovative process that adds speed and efficiency to the global payments system. The government will regulate this process, but they will not stop it.

In fact, the groundwork is already laid for traditional banks to start doing crypto-related business.

Look at this news release excerpt from the U.S. Office of the Comptroller of the Currency, released on Sept. 21, 2020, and available here:

“The letter responds to questions regarding the application of stablecoin-related bank activities. It concludes national banks and federal savings associations may hold “reserves” on behalf of customers who issue stablecoins, in situations where the coins are held in hosted wallets.

“The letter addresses the use of stablecoins backed by a single fiat currency on a one-to-one basis where the bank verifies at least daily that reserve account balances meet or exceed the number of the issuer’s outstanding stablecoins.”

The title of the news release sums it up: “Federally Chartered Banks and Thrifts May Engage in Certain Stablecoin Activities.”

This is no longer the far-off future, or even the distant future. It is now. Even as you read this, we suspect high-ranking bank executives are having meetings to discuss what they are going to do to keep from eating PayPal’s dust.

And the more that crypto awareness increases, the more that Bitcoin wins.

Every single bit of ratcheted-up crypto awareness is favorable to Bitcoin because, ultimately, Bitcoin has a non-replicable use case that counts as one of the most important, ever, in the history of mankind: Bitcoin is dematerialized gold. Bitcoin, by nature of its digital design, does the job of gold better than gold itself. And the global Bitcoin network cannot be replicated.

As retail access to cryptocurrency explodes, and as hundreds of millions of users get comfortable with the idea of crypto-related payments, the curious among them will read about Bitcoin as a store of value alternative, and a means of protecting savings from government-induced currency debasement and inflation.

And then, because the payment rails will already be there, courtesy of PayPal and others, these curious retail crypto users will be able to buy some Bitcoin for themselves, in amounts as small as a few dollars — less than the cost of a Starbucks coffee — and keep in their PayPal wallet, or whatever type of crypto wallet they already have.

If you aren’t wildly excited about this, you still aren’t paying attention. As we stated some time ago, this is bigger than all the FANGs put together. And the next stage of breakout acceleration will happen even faster, because the transition in the continuum from physical to virtual is ever more focused on “virtual” now.

We started out talking about the power of the virtuous cycle, and the means by which retail franchise stocks go up and to the right though increased awareness, capital investment, and revenue generation. Well, because this whole crypto phenomenon is digital and software based, a vanguard of the Information Age, it can happen even faster.

In order for Home Depot to expand to nearly 2,000 locations across the United States, it had to actually build all those physical stores, after scouting the locations, buying the real estate, securing the retails, and so on. In contrast, for PayPal to introduce the crypto payment option to 26 million retail outlets in 2021, all it has to do is write some software code and flip a switch.

It gets even better. As you know if you have been reading TradeSmith Daily for any length of time, the governments of the world are on track to spend trillions of dollars in an effort to save their economies from the global pandemic, a Modern Monetary Theory (MMT)-style spending spree of world-historic proportions.

That reality of trillions in unrestrained spending coming, coupled with the threat of a debt-driven deflationary collapse, makes this the most compelling environment for precious metals stocks since the early 1930s.

And at the same time, every trend that is favorable for physical gold — whose market cap in U.S. dollar terms now approaches $10 trillion — is even better for Bitcoin by a potential factor of 10X or even 100X, because Bitcoin is on a one-time, never-to-be-repeated journey from being an asset with a $240 billion market cap to an asset with a multi-trillion market cap.

Given the above, it’s no surprise to hear what Paul Tudor Jones said this week.

Jones, a multi-billionaire, is one of the most successful macro hedge fund managers of all time — he has long been known as “the Michael Jordan of trading” — and also one of the first top-tier global macro hedge fund managers to embrace Bitcoin as an inflation hedge.

“I like bitcoin even more than I did then,” Jones told CNBC this week, referring to his initial bullish Bitcoin call in May 2020. “I think we are in the first inning of bitcoin and it’s got a long way to go,” he added.

Jones believes Bitcoin is the best inflation hedge you can find — better than gold, Treasury Inflation-Protected Securities (TIPS), copper, or yield curve steepener trades — and we agree. It also seems likely an increasing number of corporate treasury departments will start to agree, too, and follow the lead of MicroStrategy and Square by investing a portion of assets in Bitcoin as a hedge against dollar holdings.

In TradeSmith Decoder, we have built a sizable, multi-legged position not just in Bitcoin, but in multiple Bitcoin-related equities, too (equity plays with 10X return potential, or even more).

Our TradeSmith Decoder aim, as always, is to build large, concentrated positions in the world’s most compelling trends — and what’s happening in crypto now certainly qualifies as that.

In many ways the rise of crypto makes perfect sense as a hand-in-hand development alongside the seeding of a new global financial system (with the Nixonian post-Bretton Woods era in twilight) and the dawning of the fourth great age of human civilization (the Information Age).

As a TradeSmith Daily reader, you’ve got a front row seat.

Did you hear the one about the Department of Justice (DOJ) going after Microsoft? It isn’t a joke, but the stock market seemed to laugh at the news.

On Oct. 20, the DOJ announced the largest antitrust lawsuit in decades, officially declaring Google “a monopoly gatekeeper of the internet.” The last antitrust action of this size and scope was launched against Microsoft in 1998 — the same year Google was founded by two Stanford students.

In many respects, today’s Google antitrust case bears a strong resemblance to the 1998 Microsoft antitrust case. Twenty-two years ago, Microsoft was accused of abusing its Windows operating system dominance by way of anticompetitive practices to stifle or squash rivals, effectively squashing the Netscape Navigator web browser. With an estimated 88% global market share, Google is accused of doing the same in web search, smothering competitors like Bing, DuckDuckGo, and Yahoo Search.

Though Google is the antitrust target here, the DOJ case has major implications for Apple, too. According to DOJ analysis, Google pays Apple an estimated $8 billion to $12 billion per year to maintain the default search position across all of Apple’s smartphone, computer, and tablet devices — a sum so large it accounts for 15 to 20% of Apple’s net profits.

The contract relationship between Google and Apple, which looks like a form of cross-platform collusion in the eyes of the DOJ, is at the heart of the antitrust complaint. If Google is large enough to buy search dominance on all Apple devices — along with a host of other devices — the argument is that other search providers are crowded out. Because $8 billion to $12 billion annually is a whole lot of money, even for Apple, banning the relationship could wind up hurting Apple’s bottom line as much as Google’s. 

And yet, after digesting the 64page DOJ case briefing, which you can access here, the share price of Alphabet, Google’s parent company, wound up rising rather than falling. The reaction in Apple’s share price, even with 15 to 20% of net profits on the line, was a similar non-event.

There are multiple reasons why the market laughed.

First, antitrust cases are generally hard to win, even for the U.S. government, and Google is a trillion-dollar company with roughly $120 billion in cash on hand. Google will have a deep bench of the best antitrust lawyers in the world, and they will fight the case for years.

The DOJ has admitted the antitrust trial may not happen for a year — if it happens even then — and the verdict could be another few years after that, followed by years of appeals. By the time this thing is resolved, we might be using 3D hologram search from the back seat of self-driving hovercars.

This reality touches on an age-old complaint of antitrust cases: By the time the case is handled, the industry has typically moved on. While the DOJ is seen to have won its case against Microsoft, the verdict took four years to deliver — and the judge’s order for Microsoft to be broken up was reversed on further appeal.

Meanwhile Netscape — the competitor Microsoft wanted to squash, in part by tying Internet Explorer to the Windows Operating system — wound up fading away, while Microsoft went on to become the $1.6 trillion juggernaut it is today. Life after antitrust doesn’t have to be so bad, even if you lose.

Then, too, there are plenty of reasons why Google could win in court. It will be hard for the government to prove U.S. consumers are being harmed by Google’s actions, and even harder to prove that harsh antitrust measures against a lone tech juggernaut make sense.

In 1998, Microsoft was a kind of tech-world apex predator that had no rivals to speak of. But in 2020, there are at least five technology behemoths — Google, Apple, Amazon, Facebook, and Microsoft — who all encroach on each other’s turf.

That makes it hard to say Google stands alone in web search, for example, when Amazon dominates in e-commerce, Facebook dominates in social media, Microsoft dominates in corporate applications, and Apple dominates in smartphone app distribution — with all of those areas having search-related aspects.

All of the tech juggernauts want to be in your living room, as well as on your phone or computer, and all of them want to sell you hardware that further integrates their offerings into your daily life.

To single out Google for punishment, the DOJ may not only have to prove consumer harm for products that are free, it may have to explain how restricting Google’s reach, or forcing a break-up, would avoid giving extra power to other would-be monopolists.

For instance, if Google helps keep Amazon in check through an e-commerce alliance with players like Shopify, Walmart, and Target, who will restrain Amazon if Google is hobbled? You can be sure Google’s lawyers will be pressing these points.    

Some are not happy with the timing and the substance of the DOJ’s antitrust effort, fearing that it was overly rushed and politically motivated, with the goal of being initiated before the election.

The New York Times reported that, of the 40 DOJ lawyers working on the Google case, most of them opposed the Sept. 30 deadline imposed by William Barr, the U.S. Attorney General, with some refusing to sign off or leaving the case entirely. 

Another big-picture issue is the question of whether traditional antitrust law even works anymore.

The substantive report released by the House Antitrust Subcommittee just a few weeks ago — which pointed the finger at Facebook, Amazon, Apple, and Google — more or less argued that the tech giants represent a new kind of paradigm, implying that antitrust regulation as applied to dominant platform companies should be changed.

In its Google antitrust action, the DOJ is essentially going a different way than the House Antitrust Subcommittee, trying to paint Google as a monopolist under the traditional, old-school antitrust laws. But a big part of the problem with that approach, as noted above, is that the DOJ will have a hard time demonstrating consumer harm, and Google will be able to argue, rightly, that “competition is only a click away.”

It does, in fact, look like the technology juggernauts are headed for a reckoning, or at least some kind of showdown, by way of enforcement actions from the DOJ, the U.S. Congress, and dozens of state attorneys general.

But this is going to be a big, messy fight, with awesome legal firepower on the tech giants’ side, and the immensely complex challenge of having to rethink outdated antitrust laws for the Information Age. That is all going to take a good while to play out — most likely years at minimum — and Google’s search dominance will persist in the meantime.

We are now barreling headlong into the Information Age, the fourth great age of human civilization. The prior three, as we’ve explained before, were the Stone age, the Agrarian age, and the Industrial age.

The Stone Age gave us tools, the Agrarian Age gave us farming techniques, and the Industrial Age gave us factories and physical machines. Now the Information Age is giving us the digitization of the physical world, the merging of the physical and the virtual.

This physical-virtual merging process, in which it becomes impossible to tell where one stops and the other starts, is becoming immensely powerful and consequential through the use of machine learning and artificial intelligence. As the venture capitalist Marc Andreessen famously put it in 2011, “software is eating the world.”

As a part of this shift from physical to virtual, government policy is on the cusp of radical change. New capabilities, enabled by technology and software, are coming online just as big new ideas are being called for to save national economies from deflationary collapse.

For instance, we are already seeing the early stage implementations of Modern Monetary Theory, or MMT. MMT has long been kicked around in theory, but the pandemic brought it about in practice, in the first quarter of 2020, by forcing a need to instantly spend trillions.

Those initial stimulus efforts, via mechanisms like $1,200 stimulus checks, the PPP (paycheck protection program), and stepped-up unemployment benefits — not to mention the Federal Reserve backstopping credit markets — did an okay job of getting stimulus relief to the nation’s workers and small businesses. At the same time, a great many problems were encountered, a great many recipients were left out, and a great deal of effort was wasted or misdirected.

Central Bank Digital Currencies (CBDCs) could have made a big difference in the timely and targeted distribution of funds. In that sense, CBDCs are the future of MMT, and the future of more active fiscal policy in general, to the extent that governments do more to help workers and businesses directly, while shaping behavior through incentives powered by software.

For governments that seek greater speed, flexibility, and creative control over monetary and fiscal policy, the big promise of CBDCs is the ability to offer “programmable money,” along with all the capabilities that entails.

For example, with CBDCs, governments will hypothetically be able to spot-deliver funds to specific regions of the country or to specific industries or worker groups.

The Treasury, in coordination with the central bank, may also be able to issue funds with a time expiration component, meaning, “you have to spend these currency units by such-and-such date, or else they disappear.” That kind of granular fine tuning and control could revolutionize monetary and fiscal policy, plus transform economic assumptions in doing so.

Because CBDCs will be money as a form of software, governments will be able to write rules directly into the software. That means an ability to, say, collect taxes at an immediate point of transaction, or have transactions immediately reported to a database at the point of sale, or have certain types of transaction restricted based on location or user permissions.

As a result of these capabilities — and many others, as the roster of possibilities is nearly endless — CBDCs will have Orwellian levels of potential in terms of surveillance, tracking, and behavioral influence.

On the positive side, CBDCs will enable the development of far more rational and well-tailored economic policies, which could help economies run better by, say, changing lending rates to spot-reduce inflation or encourage small business creation. On the negative side, this means “big brother” will become more of a reality, over the course of the next decade or two, than most of us might have imagined.

To some this sounds like a dream. To others it sounds like a nightmare. Either way, the reality is that is CBDCs are coming.

This also reflects a larger truth: The enhanced power that technology bestows upon governments, and giant corporations, will make civic participation more important than ever. Voting, and paying attention to leaders and policy choices, will be the citizen’s primary means of avoiding the societal top-down implementation of 1984 and Brave New World.

We’ve tracked the development path of CBDCs from 2018 onward via TradeSmith Decoder, and we’ve also written about CBDCs multiple times in TradeSmith Daily — for example, here and here.

But the topic is especially timely this week, because CBDCs are having a moment.

On Oct. 15, a high-profile official at the International Monetary Fund (IMF) gave a speech entitled “A New Bretton Woods Moment,” highlighting the trillion-scale ambitions of global policy change. 

Then, on Oct. 19, Jerome Powell, the Chairman of the Federal Reserve, discussed the prospects of a “digital dollar” as part of an IMF conference panel on CBDCs.

And last but not least, China just finished a digital yuan test pilot, in which $1.5 million worth of digital currency was distributed to 50,000 users in sums of $29.75 each, to be spent via smartphone scans in downtown Shenzhen, China’s fourth-biggest city.

The Oct. 15 IMF speech, delivered by Managing Director Kristalina Georgieva, compared the challenges of the pandemic to the task of rebuilding the global financial system in the aftermath of World War II.

“Our founders faced two massive tasks,” Georgieva said in reference to the 1944 gathering in Bretton Woods, New Hampshire: “To deal with the immediate devastation caused by the War; and to lay the foundation for a more peaceful and prosperous postwar world.”

Substitute a global pandemic for a world war, and you have the “New Bretton Woods Moment” the IMF sees. Georgieva noted that global fiscal actions have amounted to $12 trillion so far, with central bank balance sheet expansions of $7.5 trillion — and the pandemic is far from over, its aftermath not yet begun.

The IMF managing director sees advanced economy debt levels reaching 125% of GDP on average — comparable to World War II levels — and notes that “digitalization also helps with financial inclusion” as a means of beating poverty.

On Oct. 19, Powell weighed in, saying that a digital dollar is not in the works just yet.

“We have not made a decision to issue a CBDC, and we think there’s a great deal of work yet to be done,” Powell said. “It’s more important for the United States to get it right than it is to be first,” he added.

It’s a good thing the Fed is not worried about being first — because China is way ahead.

The Fed is conducting CBDC research in conjunction with the Massachusetts Institute of Technology (MIT), but China is already rolling out mass experiments, having pushed hard for years to be first out of the gate with its “digital yuan.”

During the week of Oct. 11 through 17, China ran a large-scale beta experiment as noted earlier, with 50,000 trial recipients receiving 200 digital yuan each — the equivalent of $29.75 — to spend in one of Shenzhen’s roughly 3,000 retail outlets.

With dozens of central banks now diving head first into CBDC research, it looks like China will be the first to manage a true mass-scale rollout — although the official “first” designation may go to the Central Bank of the Bahamas, where all 393,000 residents officially received access to the country’s digital “Sand Dollar” on Oct. 20.

One might ask: How is Bitcoin responding to all this? By smashing through overhead resistance to new 16-month highs, that’s how.

As of this writing Bitcoin is trading above the $12,400 level, with the various events of the moment — CBDC buzz, multi-trillion-dollar stimulus expectations, and a softening U.S. dollar — all helping BTC power higher.

As we have noted before in these pages, CBDCs are no threat to Bitcoin, and never will be, because they can never compete with Bitcoin’s chief attributes: sovereignty and scarcity. CBDCs by definition will always have an expandable supply profile, subject to the whims of central bankers and politicians.

Bitcoin, meanwhile, will exist outside CBDC regimes — with no government body able to commandeer it or program it — and at the same time remain absolutely scarce, making it the ultimate global reserve asset (even more so than gold). 

To understand the times we are in, it is helpful to know what a “Balance Sheet Recession” is, and why it is so hard to get out of one.

The Balance Sheet Recession — which can last for years, or even decades —  is another crucial concept for investors to grasp, along with other concepts we’ve explained like financial repression, fiscal dominance, and the long-term debt cycle.

To recap those other terms very briefly:

• Financial repression is the process by which interest rates are kept artificially low, in order to inflate away the debt. In periods of financial repression, government bonds lose their value to inflation (which is part of the point). The Federal Reserve has committed to near-zero interest rates until 2023 — this is textbook financial repression.
• Fiscal dominance is an environment where the government is forced to spend in such large amounts, normal monetary policy is overwhelmed by the task of managing the flood of new currency and debt created by the government. With trillions in spending already on the books for 2020, and trillions more to come, we are in the early innings of a new fiscal dominance era.
• The long-term debt cycle is the natural ebb and flow of debt over a very long period of time. For multiple decades, debt, credit, and leverage are built up to ever higher levels. Once the debt load reaches its outer limit, the cycle reverses course. After that, multiple decades are spent either reducing the debt or inflating it away — and then the process starts again.

The term “Balance Sheet Recession” was introduced to the field of macroeconomics by Richard Koo, a Taiwanese-American economist, in 2003. Koo is the Chief Economist at the Nomura Research Institute in Japan.

In the early 2000s, Koo wanted to figure out the strange thing that had happened to Japan. After many years of research and contemplation of the data, the “Balance Sheet Recession” concept is what he came up with. He had to coin a new term because Japan’s post-1990 experience was new — the economics world had never seen anything like it before.

In the 1980s, Japan experienced one of the biggest equity market and real estate bubbles of all time. To give you an idea how big that bubble was, at one point the land under the Tokyo Imperial Palace — an area roughly one-quarter the size of San Francisco’s Golden Gate Park — was worth more than all the real estate in California.

In 1990, the Japan bubble burst in spectacular fashion. Thirty years later in 2020, the Nikkei 225 Index (Japan’s version of the S&P 500) is still 40% below its 1990 highs.

The Japanese economy struggled all throughout the 1990s. All attempts to revive the economy seemed to fail. And so, in 1999, the Bank of Japan (BOJ) took the wild step of introducing zero-interest-rate policy, or “ZIRP” for short. Then, in 2001, the BOJ introduced Quantitative Easing, or “QE.” 

Today the world is all too familiar with ZIRP and QE. But in the 1999-2001 period, these actions were bizarre and completely new. What would happen when interest rates went to zero? What would happen when the central bank started buying bonds en masse? Nobody knew.

As it turns out, nothing much happened at all. The introduction of ZIRP and QE did not revive Japan’s economy. If anything, it might have made things worse.

Koo wanted to figure out why this was so. He asked himself, “How in the world can there be no economic growth when Japanese companies have the ability to borrow at 0% interest rates?”

What Koo realized is that corporate balance sheets were the problem. As a result of Japan’s great 1980 bubble, and the 1990s bust, Japanese corporations had a massive overhang of debt on their balance sheets. Because of that overhang, the Japanese private sector was focused on paying down the debt, and didn’t want to borrow any more — even with interest rates at zero.

Think of a household, or a business, that still has money coming in the door, but also has a gigantic debt burden to deal with. Instead of investing the extra cash flow for growth, it is likely the cash will go toward paying down debt.

When the entire private sector of a nation’s economy is oriented to paying down debt — not in terms of every single company, but aggregate saving rather than spending on the whole — it becomes almost impossible to make the economy grow.

Koo coined the term “Balance Sheet Recession” to describe what happened to Japan. There was so much debt on the books, the private sector in aggregate did not want to borrow and spend for growth. They were too busy paying off the debt that already existed.

As a result of that condition, Japan’s economy got stuck in the mud. When the BOJ tried to get things going by implementing ZIRP and then QE, nothing happened — because ZIRP and QE were not helpful in solving the Balance Sheet Recession problem. 

Unlike normal recessions, which typically come and go in the course of a year or two, Balance Sheet Recessions can stretch on and on, and sometimes last for decades. They can last for as long as it takes the private sector to work off a large overhang of debt, as such that companies on the whole start borrowing and spending for growth again.

To be clear, there will always be a handful of companies borrowing and spending for growth at any given time. But macroeconomics deals with whole-economy impacts, which are determined by the net effect of what all the companies are doing as a group.

If a few companies are borrowing and spending, but the vast majority of companies are hunkered down, the net result is that the economy shrinks or flatlines rather than grows. That is what happened to Japan. It is a Balance Sheet Recession because debt-burdened balance sheets are the problem: That debt has to be worked off or dealt with.

For a number of years, the Balance Sheet Recession was a Japan-only phenomenon. There wasn’t any academic literature on the subject, because the phenomenon was too new and isolated.

As Koo pointed out, no economist was taught this stuff in their university courses, because nobody had ever seen interest rates at zero, and companies refused to borrow at rates near zero, prior to Japan’s introduction of ZIRP and QE.

After the 2008 global financial crisis, the United States and Europe entered Balance Sheet Recessions, too. While some U.S. companies continued to borrow — like publicly traded blue chips using cheap funding to buy back shares — the private sector on the whole saw its net borrowing levels shrink.

The chart below, from TradingEconomics.com, shows U.S. private sector debt to GDP dating back to 1995. As you can see from the chart, aggregate debt levels rose almost every year from the mid-1990s onward. Then, in the 2007-2009 period — when the global financial crisis unfolded — the lever was thrown into reverse.

The Balance Sheet Recession phenomenon is also worse than it appears, because so much of the borrowing done post-2009 was done for the purpose of share buybacks.

When companies borrow money to buy back shares, they artificially increase their earnings per share estimates (so the same amount of earnings is spread over a smaller number of shares). This helps the stock price go up, but it doesn’t actually increase profits, or employ more workers, or result in a positive economic impact.

The chart below, via the St. Louis Federal Reserve, shows U.S. corporate profits after tax, on a quarterly reporting basis, since 1999. As you can see from the chart, corporate profit growth saw an impressive rebound after the global financial crisis, but then started to flatline around 2012 or so. 

The years of sideways profit growth that occurred from 2012 onward are consistent with a Balance Sheet Recession. Stock prices were going up at this time, and companies were borrowing somewhat, but again, a lot of that was financial engineering — using share buybacks to juice corporate earnings.

For the U.S. to get out of its Balance Sheet Recession — and Europe, too, for that matter — the private sector will have to dig out from under the load of debt that still weighs heavily on its balance sheets.

And remember, we aren’t talking about the cash-rich tech juggernauts here, or the handful of S&P 500 companies that are making money hand over fist. We are talking about the private sector on the whole, which includes millions of struggling small businesses. (Small- and medium-sized businesses, not giant corporations, are historically the engine of job growth in the United States.)

So what about all of that zero interest rate policy (ZIRP) and quantitative easing (QE) that the Federal Reserve and European Central Bank (ECB) and Bank of England (BOE) engaged in for years, following Japan’s lead after 2008? Did QE and ZIRP help the situation any?

Unfortunately, no. According to Koo — and we agree with this — QE and ZIRP probably made the situation worse. This also goes for Europe, where they actually tried negative interest rates — an absolutely terrible idea, because it destroys the outlook for banks while doing nothing to solve the problem (too much private sector debt).

There are multiple reasons for this apart from the big one that, in a Balance Sheet Recession, trying to force-feed loans to the private sector at 0% interest rates doesn’t work. If there is no net appetite for borrowing, apart from blue-chip companies buying back shares, monetary policy doesn’t help.

The real problem with QE, though, is what happens when the Balance Sheet Recession finally ends. After years and years of Quantitative Easing, trillions of dollars’ worth of reserves have built up in the banking system, and also on central bank balance sheets.

All of those trillions are not a problem as long as the private sector is comatose. When nobody wants to borrow, trillions in excess reserves are like underground pools of water, or perhaps like wet gunpowder. They don’t circulate through the economy, and they don’t ignite inflation.

But at some point, when the private sector wakes up again and returns to aggregate borrowing, the situation changes dramatically. At that point, you get competitive demand for investor funds drawing down on trillions’ worth of reserves — which can lead to explosive inflation.

The net result of this, as Koo explains, is that getting out of the “QE trap” becomes an even bigger problem than beating the Balance Sheet Recession.

If the government implements enough fiscal spending to reignite the economy, as such that corporations want to start borrowing and spending for growth again, they simultaneously wind up activating the trillions of dollars in liquidity reserves that were previously stagnant, having built up via years and years of QE.

That, in turn, creates a threat of explosive inflation — which is also a threat via concerns of currency debasement — which then in turn forces the central bank to raise interest rates in order to head off inflation risks.

But of course, the central bank can’t raise inflation rates too quickly when the economic recovery is vulnerable — because if they try, the markets will crash and the economy will slip back into downturn or recession status.

In 2014 the Federal Reserve tried to “normalize” interest rates, the markets fell sharply, and they had to back off. In December 2018, the Federal Reserve under Jerome Powell tried again, with the same result: They tried to normalize monetary policy (take things back to normal), the markets freaked out, and they had to back off.

Okay, so how do we get out of the Balance Sheet Recession and the QE trap associated with it? The short answer is, we don’t really know and neither does anyone else — this is another one of those brand new things, nobody has ever tried to exit a ZIRP and QE regime — but we wouldn’t be surprised to see gold in the $10,000 per ounce range and Bitcoin well into six figures, many years from now, by the time all is said and done.

The United Kingdom is headed for a “No Deal Brexit” break-up with the European Union. This assessment is based on harsh statements coming directly from Boris Johnson, the U.K. Prime Minister.

If a “No Deal Brexit” happens, or even just an exceptionally “Hard” Brexit, the result could be a hammer blow for the British economy.

That, in turn, could force the U.K. government to devalue the British pound aggressively, or even crash it, to try and steer the U.K. economy away from disaster.

This creates a trading opportunity, by way of shorting the British pound.

In some ways, the opportunity is reminiscent of 1992, a year when the U.K. was forced to devalue the pound to try and save the British economy.

On Sept. 16, 1992, a single-day collapse in the value of pound sterling was dubbed “Black Wednesday,” with a famous macro hedge fund earning profits of $1 billion in 24 hours.

The 1992 currency crash was widely blamed on “speculators” in the financial press. But in reality, the U.K. government itself was to blame.

The British government had been forced to withdraw the pound from something called the European Exchange Rate Mechanism, or ERM, because the currency was too strong, at that point, for the struggling British economy to handle.

The strength of a currency matters more to some countries than others. An important factor is how much of a nation’s economy is based on exports; that is to say, how much revenue the country earns from goods and services sold to other countries.

The more export-oriented a country is, the more that a too-strong currency is a problem, because a too-strong currency makes exports overly expensive for other countries to purchase.

A weak currency, in contrast, is favored by a country’s export sector, because it makes exports cheaper for overseas customers to buy.

The U.K., as a nation, is heavily export-dependent, with nearly 32% of the British economy powered by exports in 2019. That is a heavy percentage. By comparison, the U.S. economy was only 12% powered by exports in 2019, and China’s economy was just over 18%.

You might not have thought the U.K. was a far bigger exporter than China, in percentage terms relative to its own economy, but it is.

In practical terms, this means a “No Deal Brexit” could be an economic disaster for the U.K. economy.

The European Union, as a giant next-door neighbor comprised of 27 member countries, is Britain’s largest trading partner by far. This is wholly to be expected, as countries typically trade the most with their immediate geographical neighbors.

About 43% of all U.K. exports go to E.U. member countries, and more than 51% of U.K. imports come in from the E.U., according to data from the BBC. If a “No Deal Brexit” goes through, that two-way flow of goods could be thrown into chaos. 

As of this writing, Brexit negotiations are now down to the wire, and Boris Johnson seems to want to smash them (more on that shortly). If no agreement is made, then the U.K. will revert to “No Deal” status as of Jan. 1, 2021.

When trading partners lack a comprehensive agreement, as with Australia and the European Union, their terms of trade are governed under World Trade Organization (WTO) rules.

As part of the E.U., the U.K. had free-flowing trade with all E.U. member countries. Switching to WTO rules would cause all the old agreements to be ripped up as of Jan. 1.

That would not just mean a requirement to renegotiate tariffs, but the need to handle a staggering amount of paperwork on safety rules, customs inspection, and all manner of other legal trade requirements that would expire with a “No Deal” result.

It would also mean the potential renegotiation of dozens, if not hundreds, of individual import and export product agreements, in the absence of the overarching framework that the E.U. relationship provided. 

A No Deal Brexit result could be immensely painful for both the U.K. and E.U. alike as a significant flow of trade, in both directions, screeches to a bureaucratic halt.

But this disruption would likely hurt the U.K. a lot more, because the U.K. is a far smaller entity, whereas the E.U. has an economic output on par with the United States.  

Johnson, the U.K. Prime Minister, is taking such an aggressively hard line in final Brexit talks that E.U. negotiators suspect he is bluffing.

On Oct. 17 per the BBC, U.K. government representatives said talks between the U.K. and E.U. are “over,” and that there was “no point” in continuing discussion. Johnson himself further said the U.K. must consider the “alternative,” by which he meant an Australia-style deal that is really a “No Deal” result.

British exporters are alarmed by all this, as the Financial Times reported last week:

“More than 70 British business groups representing more than 7 m[illion] workers have made a last-ditch attempt to persuade politicians to return to the table next week to strike a trade deal between the EU and UK.

Organisations from across British business in automotive, aviation, chemicals, farming, pharmaceuticals, tech and financial services sectors have united to urge both sides to find a compromise over trade terms.

Bosses were alarmed by Boris Johnson’s move to end talks with EU negotiators on Friday and fear that what they see as a clear need for a deal to protect jobs and investment will be sacrificed for political motives.”

In some ways it is hard to understand the strategy here, because, in taking a ferociously hard line, Johnson seemingly wants the E.U. to bend or compromise in areas where compromise is impossible.

There are certain things the E.U. cannot agree to, under any circumstance, because of the need to preserve a sense of fairness and continuity with the 27 E.U. member states.

If part of your negotiations involve demanding something the other side cannot give, you aren’t really negotiating — unless the thing you actually want is to blow up the talks, or run the risks of doing so until the very last second. 

Either way, and even if a last-minute Brexit deal is agreed to — preserving some form of trade between the E.U. and the U.K, versus the Australia-style, “No Deal” default — it looks like the U.K. economy will be in for some severe turbulence.

The U.K. economy, like many others, has already been hurt by the coronavirus pandemic, with the threat of new restrictions and pandemic-related slowdown once again looming. The disruption of a No Deal Brexit result, with the U.K. crashing out of the E.U. on Jan. 1, could make all of that immeasurably worse, and U.K. exporters could be facing serious pain even if a last-minute Brexit deal gets done.

This brings us back around to the British pound, and the inherent advantage the U.K. government has in the ability to weaken its currency on purpose.

Because a too-strong currency can be devastating for the export sector of an economy, the ability to weaken one’s currency deliberately, as need be, is a feature rather than a bug.

It is also, quite notably, a feature that the 27 E.U. member countries do not have, given how they are tied to Germany, and the top-down monetary policy of the European Central Bank (ECB), and the euro as a single currency. 

Given the pain ahead for U.K. exporters, and their deep importance to the U.K. economy, we anticipate the U.K. government will decide, at some point, to take a page from the 1992 playbook and deliberately weaken their currency once again.

If the British pound is devalued sharply, or even crashes out to significantly lower levels, that could make it far easier for desperate U.K. exporters to compete in a “No Deal Brexit” world come 2021.

Nor should this result, if it happens, be seen as anti-U.K. or unfriendly to the British people: If the U.K. government is forced to devalue the British pound by a large amount, it will be in an effort to save the U.K. economy from deadly contraction, not to harm it further, and it may well be the proper thing to do.

In TradeSmith Decoder, we are short the British pound/U.S. dollar forex pair (GBP/USD) and will be watching developments closely, in terms of both price action and Brexit-related events, for opportunities to add size to the position.

It would not be correct to say the coronavirus is back — because it never actually left.

We can say, however, that coronavirus caseloads are surging again on two continents. The numbers are starting to look alarming, and it isn’t even truly cold yet. (The winter months are expected to make the pandemic worse, due to reduced outdoor activities, lower humidity levels, and greater exposure to indoor circulated air.)

In the United States, daily coronavirus cases topped 63,000 on Oct. 15 — the highest level since July. In the Great Plains and the Midwest, the Washington Post reports, hospitals are jammed, and intensive care unit (ICU) facilities are approaching capacity. In Yellowstone County, the most populated county in Montana, 98% of inpatient beds were full.

On Oct. 14, Wisconsin opened a new field hospital on the grounds of the Wisconsin State Fair Park outside Milwaukee. Wisconsin and Illinois both broke records for daily COVID-19 cases this week, surpassing earlier records set in April and May.

“At least 20 states have set record seven-day averages for infections,” the Washington Post notes, “and a dozen have hit record hospitalization rates.”

On a monthly basis, the numbers are even worse. “Forty-four states and the District of Columbia have higher caseloads than in mid-September,” the Washington Post adds. “Ohio set a new high, as did Indiana, New Mexico, North Dakota, Montana, and Colorado.” El Paso, Texas, is ordering new restrictions and lockdowns.

Nor is it just the United States. On the other side of the Atlantic, Europe is seeing a new wave of infections, with a million cases continent-wide over the past 10 days.

“Country after country is just declaring their highest ever numbers since the pandemic began,” the chief medical officer of Healix International, Adrian Hyzler, says of Europe. France, Spain, the Netherlands, the Czech Republic, and Italy are imposing new restrictions, including curfews.

Meanwhile, in the United Kingdom, new lockdown restrictions were announced in London this week, with 10 p.m. curfews for pubs and restaurants. Northern Ireland and Wales, fearing the U.K. government’s measures were not serious enough, imposed their own restrictions tighter than the rest of the U.K.

Infectious disease experts had long expected a “second wave” to show up in the winter months, possibly intensified by the co-arrival of the normal flu season. But what we are seeing now is less of a new wave and more of a resurgent blaze.

Michael Osterholm, the director of the Center for Infectious Disease Research and Policy at the University of Minnesota, has compared the coronavirus to a forest fire that doesn’t burn out. Instead, it hangs back and then flares up again, treating unprotected populations like kindling.

“The trick is to keep that burn at a controlled rate,” Osterholm said back in April. The U.S. and Europe have apparently failed to do that.

Fortunately, the mortality rate for COVID-19 has fallen, thanks to new treatments and more experience handling infections. We remain concerned about the high number of deaths, with the United States recording more than 900 deaths per day on multiple days in October.

The coronavirus resurgence threatens to weaken or destroy a fragile economic recovery. In Europe, the economic gains from containing the virus could be completely wiped out. In the U.S. and the U.K., complacent investors could be forced to rethink their market optimism.

For the United States, the question is not just whether new lockdowns will be imposed — the odds of that seem low, at least for now — but whether hospital systems will again be strained to the breaking point, and the degree to which economic activity slows down.

COVID-19 is not just an economy killer because of mandated rules to fight the virus, but because commerce slows to a crawl as consumers fearful of the virus stop eating out and visiting physical stores.

The coronavirus resurgence is also a threat to the profit-based U.S. hospital system on the whole. When hospitals are flooded with COVID-19 patients, they tend to lose money at a rapid rate, not just from the cost of COVID-19 patient care, but the loss of revenue in normal profit-producing areas like elective surgeries and standard treatments for the privately insured.

“The growing number of cases is threatening the very survival of hospitals just when the country needs them the most,” Bloomberg reports. “Hundreds were already in shaky circumstances before the virus remade the world, and the impact of caring for COVID patients has put hundreds more in jeopardy.”

Not only is the pandemic still with us, its most intense challenges are yet to be felt. Along with rising caseloads and greater hospital strain heading into the winter months, the harshest trauma impacts on the U.S. economy and the U.S. health care system have not yet materialized.

Optimism is a positive trait in most circumstances, but not when it encourages a blindness to reality. The reality here is that hard challenges are ahead, and the market is not reflecting those realities yet.

Either that, or the market is optimistic that a multi-trillion-dollar wave of rescue funds is coming, along with an economic solution that will keep the U.S. health care system and strained state budgets from financially imploding.

And yet, if trillions in rescue funds is the inevitable answer, that flood of stimulus will produce great inefficiencies, and supply-chain bottleneck inflation effects, that mean the price of gold and Bitcoin should be much, much higher.

Get ready to hunker down and prepare for a set of pandemic-driven economic circumstances that will force governments to act, unleashing fiscal rescue funds in staggering amounts. Every day they fail to do this, the potential damage toll grows larger, necessitating an even larger response, for good or ill, when they are finally roused from stasis.

In a book written in 1942 titled Capitalism, Socialism and Democracy, the Austrian-born economist Joseph Schumpeter coined the term “creative destruction” and called it “the essential fact about capitalism.”

Creative destruction “revolutionizes the economic structure from within,” Schumpeter wrote, “incessantly destroying the old one, incessantly creating a new one.”

The creative destruction process is all too often painful. Entire industries can be downsized, radically restructured, or even swept away completely.

Because of the global pandemic, a tsunami of creative destruction was unleashed. We can see creative destruction in action, in that whole industries are being transformed and some are being wiped out.

Public movie theaters, for example — where hundreds of people sit in a dark, confined space, breathing each other’s air as they watch a giant screen — may be a thing of the past. Big-box department stores may survive, but in far fewer numbers and radically different form.

And the restaurant landscape is being gutted.

According to Yelp.com and The Wall Street Journal, almost 22,000 restaurants closed their doors forever between March 1 and Sept. 10 this year. Three-quarters had fewer than five locations, meaning they were independents or “mom and pop” establishments rather than national chains.

“The silver lining of this pandemic is we are going to emerge stronger,” said the CEO of El Pollo Loco Holdings Inc. The El Pollo Loco chain has 475 locations, and continues to open new ones in 2020.

“Chipotle more than tripled its online business sales in the second quarter,” the WSJ reports, “while Domino’s, Papa John’s International Inc,. and Wingstop all reported double-digit same-store sales increases in the third quarter compared with the year-earlier period.”

And as for McDonald’s, the king of the homogenized food experience, same-store sales for September represented the best performance in a decade. 

As small restaurants shut down in the midst of this pandemic, the national chain operators scoop up the business that is left behind. For independent operators, profit margins were typically in the low single-digits even before COVID-19 hit. With limited seating capacity and reduced consumer traffic, the math became impossible.

“Larger operators generally have the advantages of more capital, more leverage on lease terms, more physical space, more geographic flexibility and prior expertise with drive-throughs, carryout and delivery,” The Wall Street Journal reports. “A similarly uneven recovery is unfolding across the business world as big firms have tended to fare far better during the pandemic than small rivals.”

This is about more than a virus. A forced shift in consumer habits has radically accelerated the opportunity for innovation — and innovation is expensive.

National chains not only have the deep pockets, the financing, and the scale to weather economic turbulence, they have the budgets and the manpower to upgrade their technology-driven offerings, harnessing the power of creative destruction in the process.

On the one hand, the restaurant landscape is going to feel blander, as mom-and-pop establishments disappear. On the other hand, the creative destruction process will continue to push service upgrades at the margins.

For example, another up-and-coming trend is the rise of “cloud kitchens” — highly efficient restaurant options optimized for delivery, with no seating on the premises. This will make it easier to enjoy restaurant-quality food at home, in the same way the movie experience is becoming a home experience (via ever-cheaper flat screen TVs and the rise of streaming services).

One downside to all this creative destruction is the likelihood of permanent job loss.

As the service sector hemorrhages jobs across the restaurant, retail, and travel space — three of the biggest employment areas in the United States — millions of those jobs will never come back.

The U.S. economy has long depended on the growth-and-renewal aspects of creative destruction, with new jobs and new career paths springing up to replace decimated ones. For the high school and college students of today, a great many job titles haven’t been invented yet.

The problem, though, is that the formation of new industries and new job opportunities takes time. Society does better at absorbing creative destruction shifts when the changes are distributed over a period of years, rather than hitting all at once.

This means that, when the gale-force winds of creative destruction are concentrated into the job-loss equivalent of a Category 5 hurricane, economic catastrophe can follow.

Many industries are experiencing a version of what the restaurant industry is going through, with large players experiencing a “winner take all” dynamic and myriad smaller players getting wiped out.

The prospect of permanent job loss, coupled with inevitable budget crises for many U.S. states, is part of the reason why we see trillions more in government spending in 2021, with more to come in the years that follow.

The government will be forced to act as a savior of last resort, not just to counter ongoing pandemic fallout, but to cushion the blow of structural unemployment for tens of millions of Americans. This will not be an optional undertaking, but a means of avoiding social unrest. 

The U.S. economy has a track record of dealing with, and dynamically benefiting from, creative destruction under ordinary circumstances. A global pandemic, by itself, might also be a challenge the U.S. economy can muddle through.

But when you put both forces together, with creative destruction forces accelerated by pandemic realities in a self-reinforcing feedback loop, you get a whole different level of societal threat.

We don’t know what the ultimate answer for this problem will be. We do expect huge spending, and increasingly radical measures taken in response to badly broken systems — and, ultimately, the prospect of runaway inflation driven by a loss of faith in the currency, and a growing sense of uncertainty as to whether the center can hold.   

In recent days, we’ve written about the “Biden Sweep” scenario, and how Wall Street has come to embrace it as a bullish expectation.

The thing that Wall Street fears is a government spending cut-off that leaves the U.S. economy in a deflationary hole. If policy gridlock cuts off the anticipated flow of upcoming spending, permanent job loss and recessionary scars could take down the U.S. economy and the stock market, too.

If Democrats take the levers of power in the White House and Senate, on the other hand, trillions of dollars will flow in 2021. The polls now strongly favor a Biden sweep. In consistency, breadth, and durability, the available poll numbers say Biden has the most favorable outlook of any presidential candidate in modern history, dating back to when scientific polling efforts began in 1936.

The race was close at one point, but that dynamic changed after the first presidential debate. Not only does Biden lead by historic margins, as far as presidential races go, he is forecast as ahead in key swing states like Florida and Pennsylvania, and competitive in historic Republican strongholds like Arizona and Georgia.

The shape of U.S. Senate races is comparable: Democrats are on offense, and Republicans are on defense, in a number of tight races where, just a few months ago, the GOP incumbent was expected to win handily. At the same time, the Biden campaign has a significant cash advantage, and is reported to be outspending the Trump campaign 50-to-1 in some media markets.

Wall Street is not a sentimental place, and investors are not thrilled with the possibility of capital gains tax increases, a greater regulatory burden, and higher labor costs under a Democratic administration.

But Wall Street is looking past those factors in anticipation of huge spending programs — including more trillions in direct-to-consumer relief via stimulus checks and unemployment benefits, a fair portion of which will flow into the stock market.

A “Biden Sweep” would also go far in reducing the risk of post-election chaos. If Biden wins a crucial swing state like Florida on election night, for example, the race could actually be decided fairly quickly, with the post-election lawyering kept to a minimum.

There will almost certainly be a flurry of shouting and protests in the immediate aftermath of Nov. 3, but a drawn-out legal contest, paired with armed stand-offs in the streets, is the nightmare scenario. The stock market would prefer to avoid that scenario, and a Biden Sweep would help do that. 

Some of you have written in to question the Biden Sweep scenario, and to argue with conviction that President Trump will win the 2020 election, no matter what the polls say.

For those of you who wrote in to express the view that President Trump will win, a strong source of conviction was the fact that Trump, as the challenger, defied the polling odds in 2016. If the polls were wildly wrong in 2016, this argument goes, then the polls could be wildly wrong this time, too.

But here is the thing. The polls were not wildly wrong in 2016. They were more or less accurate — just as they were in 2018.

The science of presidential polling, which began in the mid-1930s, is far from perfect. But polling methodologies, as expressed by dozens of different outlets across the political spectrum, have developed a better track record than many realize. The 2016 result did not mar that record, though many think it did.

This may seem confusing. How could the polling have been accurate, or even close to accurate, in 2016 if Hillary Rodham Clinton was the dominant favorite, and yet Donald J. Trump turned out to win?

To put it another way, doesn’t the fact of a 2016 Trump win — when so many expected he would lose — demonstrate the polls and the oddsmakers were way off?

No, it does not. The fact of Trump’s 2016 win, and the manner in which he won — which is just as important as the win itself, as we shall see — were consistent with the data. That has meaningful implications for the polling data as it stands right now.

To be specific, it means that Wall Street is not being irrational in betting on a “Biden Sweep” as driven by an increasingly favorable outlook for Democrats taking control of the White House and U.S. Senate.

The breadth and consistency of the data here, across a majority of outlets — including multiple polling outlets that have historically favored President Trump, like Rasmussen Reports and Fox News — is reliable in its aggregate message. When you look at the total picture, it isn’t fake news. The Biden Sweep really is the dominant scenario at this point. 

Does President Trump still have a chance to win? And does the GOP still have a chance to retain the U.S. Senate? Yes, of course. A chance is always meaningful. That is part of the 2016 lesson, too.

To understand what happened in 2016, and why “the polls were wrong” is not the lesson to draw, it helps to think about the difference between probability and outcome. The probability of an event, versus the one-off outcome of an event, are wholly separate things. Let’s look at some thought examples.

Imagine I have a cloth bag with five marbles in it. Four of the marbles are blue, and one is red.

I offer you a prize: If you can draw the red marble on your first try, without looking, I will give you $10.

You reach into the bag. Success! You draw the red marble, and you win the $10.

Before making the draw, your odds of success were 20%. There were five marbles, but only one of them (the red one) could produce a win.

After the draw — even though you picked correctly — the 20% assessment remains true. You picked the winning marble, but you didn’t change the odds. For the instance in which you won, it was simply the case that the low-probability occurrence worked out.

Let’s look at a more detailed example. It is the final hand at the final table at the World Series of Poker Main Event, a No-Limit Texas Hold ‘Em event. Two players remain, with precisely equal chip stacks.

In this final hand, both players go “all in” — putting all of their chips in play — immediately after the three cards of the “flop” are dealt.

After going all in, both players’ hands are turned face up. The dealer prepares to reveal two additional cards, the turn card and the river. Whoever wins the hand also wins the whole contest.

On turning their hands up, the first player reveals pocket aces. The second player has an inside straight draw, meaning, they need to draw one additional card, on the turn or the river, to complete a “straight,” a hand composed of five cards in sequence.

At the point of going all in, what are the odds of either player winning the hand, and the tournament?

The first player — the one with pocket aces — has an 83% chance of winning. She does not need to improve her hand to win. She just needs to avoid being “drawn out on,” meaning, the scenario where the other player draws the needed card to complete an inside straight.

The second player — the one with an inside straight draw — has a 17% chance of winning. He is behind on the flop, but has two opportunities, via the turn card and the river card, to complete his straight draw.

With two cards to come, the player drawing to the straight has a 17% chance to win, because of the way the math works out. There are four cards out of 45 that will complete the straight — which wins if it completes — and two opportunities (the turn and river) to draw.

Under these circumstances, the player will get their straight roughly 17% of the time. The other 83% of the time, the draw cards don’t change the outcome of the hand, and the other player wins. 

Now, let us say that, in this particular instance, player two gets the straight. He draws one of the four cards needed, and wins both the hand and the event. He wins it all.

If the draw is completed, and player two wins, would that mean the poker announcer was wrong in stating that, at the time of going “all in,” player one had an 83% chance?

Would it have been inaccurate for the announcer to say — before the turn and river were dealt — that player two had only a 17% chance of winning?

Again, the answer is no. The assessment of 83% versus 17%, in this example, would have been correct. Drawing to the straight was the low-probability event. But sometimes the low-probability event works out. That is what it means to have a chance: If an event is mathematically likely to occur 17 times out of 100, then roughly 17 times out of 100 it will actually take place.

When Donald J. Trump won the presidency in 2016, he did so with the equivalent of drawing to an inside straight. His path to victory was highly unlikely, but the numbers worked out.

This is where path dependency matters. The manner in which Trump won shows that it made sense to see Clinton as the favorite, just as the player with pocket aces in our given example would be the favorite — even though, 17% of the time, they still lose.

In the 2016 presidential election, nearly 129 million votes were cast for the Democrat and Republican candidates, and Hillary Clinton won the popular vote tally by more than 2.8 million votes.

But Trump won the electoral college — the thing that matters — by a margin of fewer than 80,000 votes across three crucial swing states: Michigan, Pennsylvania, and Wisconsin. If not for that razor-thin path to victory, Clinton would have won the Electoral College. She didn’t win, of course, but the point is understanding the shape of probabilities versus the actual outcome.

In an election where nearly 129 million votes were cast for the top contenders, and the Democrat won the popular vote, Trump’s margin of victory was dispersed across exactly the right states, with a small enough vote count, in terms of the deciding votes, to fit inside Ohio Stadium with 25,000 seats to spare.

Polling prognosticators who gave Clinton a better than 80% chance of winning certainly felt foolish, and shocked, the day after the election. But based on how the contest played out, they were not wrong. If a number of factors had not lined up exactly right, things would have gone the other way.

The point here is two-fold. First, the 2016 polling data was not invalidated by Trump’s victory. That has implications for the present day, and for the accuracy of polling data in general. The data remains useful, and believable, when it comes from a wide array of sources over a meaningful period of time.

Second, it doesn’t make sense to say, “The polls are wrong now because they were wrong in 2016” — because the polls were not all that wrong. The media was shocked at the result, to be sure — while some who expected Trump to win were not — but that is wholly separate from the odds of the thing.

As for the 2020 election, there is reason to argue Trump is in the same situation he was in before.

Based on the numbers we are seeing, across a wide range of sources — again, including multiple polling sources historically favorable to Trump — the president is once again the underdog, drawing to an inside straight.

This seems largely due to the impact of the presidential debate, and the events that unfolded after it.

Now, can President Trump still win? Of course he can. A double-digit chance is still very much a chance. That is the other message of 2016: If someone has any kind of double-digit odds of winning, from, say, 10 to 30%, they are still in the game in a major way.

Professional poker players, who experience probability match-ups over and over again, understand this reality intuitively. Something with odds of happening 10% of the time will actually happen a fair amount of the time. Ten percent is not zero. If you play a lot of poker, you will see 10% outcomes routinely.

The public does not intuitively grasp this, however, because probability is a weird and bizarre thing, especially in relation to historic one-time events.

“Well if he drew an inside straight once,” some of you might say, “maybe he can do it again.”

To which we say, again: Yes, of course! There is no reason to assume the contest is over or the die is 100% cast. But at the same time, odds are odds, and probability has no memory, which means the outcome of a past event doesn’t impact the next one.

President Trump also has obstacles that would be tough for any presidential incumbent to overcome.

The single biggest one is probably the fact that incumbent presidents tend not to get re-elected if the election comes in the aftermath of a recession.

President George H.W. Bush arguably lost the 1992 presidential election because of recession conditions. Bush had a booming stock market, but unemployment was high. President Jimmy Carter, who lost to Ronald Reagan in 1980, was also dogged by recession woes.

This matters for 2020 because, not only is the United States working through a recession, a significant portion of the country is experiencing what feels like a Great Depression, complete with food bank lines and vanished job prospects for tens of millions of service-sector workers.

The pandemic is also impacting the election in ways that are harmful to the incumbent. For example, the senior demographic — voters aged 65 and older — are trending Democrat over Republican for the first time in decades, in large part because they are upset with the pandemic response.

Seniors are the group most likely to experience severe impacts from COVID-19, and also the group that most intensely misses the ability to hug their grandkids. That matters a lot for Florida, a must-win state for Trump where Biden is now polling ahead. 

Again, President Trump can still win. We aren’t saying otherwise, and neither is Wall Street — the market moves decisively in favor of dominant-odds scenarios on a regular basis (and changes tack on a dime if something different happens).

But the polling data has shifted substantially against Trump in consistent and credible ways, across too many data outlets to ignore, and the claim that “the polls were wrong in 2016” is not correct. It is a misread of probabilities versus outcomes — and the data right now really does favor a Biden Sweep.