When debt is the real issue underlying an economic downturn, the result is a period of stagnation and short business cycles as we have seen in Japan over the last two decades. This is what a modern-day depression looks like – a series of W’s where uneven economic growth is punctuated by fits of recession. A recession is merely a period of recalibration after businesses get ahead of themselves by overestimating consumption demand and are then forced to cut back by making staff redundant, paring back inventories and cutting capacity. Recessions can be overcome with the help of automatic stabilizers like unemployment insurance to cushion the blow. Depression is another event entirely.
Focusing in the US, in the end, there can only be one direction the government is headed: increase asset prices (or, at least keep them from falling). Despite the remaining problems in credit cards, commercial real estate or high yield loans, limiting credit growth, the asset-increasing changes instituted by government definitely have meant that banks will earn a shed load of money and that house price declines have stalled, underpinning the asset base of lenders. This equates to an end to massive write downs, a firming of banks’ capital base, and a reduction in private sector deleveraging. As write downs cancel out capital, only when the massive write downs end will the downturn bottom.
What we are seeing today is that while toxic assets are still impaired and the banks are still under-capitalized, the feedback loop has spiraled beyond comprehension creating a false sense of recovery. As long as the balance sheets are still filled with problems, companies will not increase consumption. Banks are not lending because no one is borrowing and also because they too are rebuilding their own balance sheets. Despite what the government claims, the U.S. economy cannot possibly work itself out of the greatest financial crisis in some 70-odd years in a mere 4 years and then expect to raise taxes on the middle class without a major recessionary relapse.
So where does that leave us? The effects of this depression have been lessened by economic stimulus and government support. Government intervention has led to a reduction in asset price declines, which led to stock market increases, which led to asset price stabilization and more stock market increases and eventually to asset price increases. There is still no sustainable recovery at hand as the fundamental problems are delayed but not solved.
So the government has made some improvements, should the government continue to spend? The private sector (particularly households) is overly indebted. The level of debt households now carry cannot be supported by income at the present levels of consumption. The natural tendency, therefore, is toward more saving and less spending in the private sector. That necessarily means the public sector must run a deficit or the import-export sector must run a surplus.
The fact is, when faced with a serious debt problem (denominated in its own currency), there are only a few ways for a government to tackle the issue, namely:
1. Pay down the debt (via spending cuts / tax increases)
2. Monetize the debt (print your way out)
3. Default (you didn't really think we'd pay you back, did you?)
4. Positive Balance of Trade (More CDOs?)
5. Economic Growth (Only real growth)
Obviously 5 is the most palatable option, with 4 being a reasonably good alternative. But as the economic crisis at hand is a global one, most countries are in a state of economic weakness. That means consumption demand is constrained globally, leaving no chance for the U.S. to export its way out of recession without a collapse in the value of the U.S. dollar. Printing equates to money devaluation and inflation. Spending cuts and tax increases will stall the economy. Obviously, default would be catastrophic, leaving the government with the bill and the heavy task of pursuing option 5.
Meanwhile, all countries which issue the vast majority of debt in their own currency (U.S, Eurozone, U.K., Switzerland, Japan) will inflate. They will print as much money as they can reasonably get away with. While the economy is in an upswing, this will create a false boom, predicated on asset price increases. This will be a huge bonus for hard assets like gold, platinum or silver. However, when the prop of government spending is taken away, unemployment will rise and stock prices will fall as the global economy will relapse into recession.
To really recuperate, the government must allow market forces to restructure the economy. The government and individuals must rein in their spending; stock of savings must be replenished, interest rates must be allowed to rise, asset prices must to adjust to economic reality, insolvent businesses must be allowed to fail, and wages must reflect productivity. To accomplish these goals, subsidies that distort market forces must be removed and regulations that undermine our competitiveness must be repealed.
None of this can be accomplished without a degree of short-term economic pain and some consequences. At the end of it all, the middle class will probably be wiped out, leaving the uber-rich and uber-poor, which is a recipe for social revolution. Geopolitical pressures mount as every country tries to deal with a difficult time. Wars always seemed to be the perfect solution in desperation.
You can only hope we come out of it all a little smarter than before.
Focusing in the US, in the end, there can only be one direction the government is headed: increase asset prices (or, at least keep them from falling). Despite the remaining problems in credit cards, commercial real estate or high yield loans, limiting credit growth, the asset-increasing changes instituted by government definitely have meant that banks will earn a shed load of money and that house price declines have stalled, underpinning the asset base of lenders. This equates to an end to massive write downs, a firming of banks’ capital base, and a reduction in private sector deleveraging. As write downs cancel out capital, only when the massive write downs end will the downturn bottom.
What we are seeing today is that while toxic assets are still impaired and the banks are still under-capitalized, the feedback loop has spiraled beyond comprehension creating a false sense of recovery. As long as the balance sheets are still filled with problems, companies will not increase consumption. Banks are not lending because no one is borrowing and also because they too are rebuilding their own balance sheets. Despite what the government claims, the U.S. economy cannot possibly work itself out of the greatest financial crisis in some 70-odd years in a mere 4 years and then expect to raise taxes on the middle class without a major recessionary relapse.
So where does that leave us? The effects of this depression have been lessened by economic stimulus and government support. Government intervention has led to a reduction in asset price declines, which led to stock market increases, which led to asset price stabilization and more stock market increases and eventually to asset price increases. There is still no sustainable recovery at hand as the fundamental problems are delayed but not solved.
So the government has made some improvements, should the government continue to spend? The private sector (particularly households) is overly indebted. The level of debt households now carry cannot be supported by income at the present levels of consumption. The natural tendency, therefore, is toward more saving and less spending in the private sector. That necessarily means the public sector must run a deficit or the import-export sector must run a surplus.
The fact is, when faced with a serious debt problem (denominated in its own currency), there are only a few ways for a government to tackle the issue, namely:
1. Pay down the debt (via spending cuts / tax increases)
2. Monetize the debt (print your way out)
3. Default (you didn't really think we'd pay you back, did you?)
4. Positive Balance of Trade (More CDOs?)
5. Economic Growth (Only real growth)
Obviously 5 is the most palatable option, with 4 being a reasonably good alternative. But as the economic crisis at hand is a global one, most countries are in a state of economic weakness. That means consumption demand is constrained globally, leaving no chance for the U.S. to export its way out of recession without a collapse in the value of the U.S. dollar. Printing equates to money devaluation and inflation. Spending cuts and tax increases will stall the economy. Obviously, default would be catastrophic, leaving the government with the bill and the heavy task of pursuing option 5.
Meanwhile, all countries which issue the vast majority of debt in their own currency (U.S, Eurozone, U.K., Switzerland, Japan) will inflate. They will print as much money as they can reasonably get away with. While the economy is in an upswing, this will create a false boom, predicated on asset price increases. This will be a huge bonus for hard assets like gold, platinum or silver. However, when the prop of government spending is taken away, unemployment will rise and stock prices will fall as the global economy will relapse into recession.
To really recuperate, the government must allow market forces to restructure the economy. The government and individuals must rein in their spending; stock of savings must be replenished, interest rates must be allowed to rise, asset prices must to adjust to economic reality, insolvent businesses must be allowed to fail, and wages must reflect productivity. To accomplish these goals, subsidies that distort market forces must be removed and regulations that undermine our competitiveness must be repealed.
None of this can be accomplished without a degree of short-term economic pain and some consequences. At the end of it all, the middle class will probably be wiped out, leaving the uber-rich and uber-poor, which is a recipe for social revolution. Geopolitical pressures mount as every country tries to deal with a difficult time. Wars always seemed to be the perfect solution in desperation.
You can only hope we come out of it all a little smarter than before.
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