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This week opened with the wail of fire engines. The Europeans announced a bank rescue, variously reported to cost €1.3 trillion (Le Monde), €1.7 trillion (Liberation) or €1.873 trillion (Financial Times). They ought to get their story straight. But who cared: investors had a reason to buy!
Yes, as the Great Fire burned through the world's capital markets, a host of smoke jumpers came down from the heavens. Investors turned their faces to the sky and thought they saw angels. There was the archangel Gordon leading the flock, whom The Times thought they heard say: "The world must follow my example..." And so investors bowed their heads and said their prayers: "Please God, spare me... and I will be happy with what I've got." And suddenly, the wind died down... and the fiery furnace calmed. 'Hallelujah,' they said... and bought some more!
In the last 100 years there have only been two fires similar to today's. The first inferno was in 1929, centred in New York. The second was in 1989, when Tokyo went up in flames. In both instances, extraordinary measures were taken by rescuers. And in both cases, they not only failed to save the economy, they scorched it even more. Naturally, few economists share this analysis with us. The few who do are either insolvent or insane, or perhaps both. So, the burden of proof is on us.
We begin by calling an expert witness: Murray Rothbard, once professor at the University of Las Vegas, now among the forgotten dead. A properly functioning economy is balanced, he explains in his classic, America's Great Depression
. One industry enjoys an expansion, another a contraction. But sometimes there is a "cluster of errors". Rothbard then identifies the culprit: "monetary intervention in the market, specifically bank credit expansion to business." Rothbard would probably be pointing his finger at Alan Greenspan – the arsonist who lowered the key US lending rate to an "emergency" level of 1% and held it there long after the emergency was over. In response businesses, investors and consumers stacked the biggest pile of tinder in history. Then, he'd probably point at Ben Bernanke, who continues to add kindling... and to Hank Paulson, who led Goldman Sachs while it created explosive packages of asset-backed debt worth trillions of dollars and sold them to financial institutions everywhere.
"The boom, then, is... the time when errors are made..." he continues. "The 'depression' is actually the process by which the economy adjusts to the wastes and errors of the boom... Far from being an evil scourge, [the depression] is the necessary and beneficial return of the economy to normal... Evidently, the longer the boom goes on the more wasteful the errors committed, and the longer and more severe will be the necessary depression readjustment."
But here come the rescuers with yet more dry wood. After stoking the flames with easy credit... they bring more. Professor Rothbard, reviewing the record of the post-'29 rescue team, came to this conclusion: The authorities "met the challenge of the Great Depression by acting quickly and decisively... [using] every tool, every device of progressive and 'enlightened' economics, every facet of government planning to combat the depression."
Yet, the fire didn't go out. It intensified. An expected recovery in 1931 went up in smoke, says Rothbard, thanks to real wage increases and higher government spending.
"The guilt for the Great Depression must, at long last, be lifted from the shoulders of the free-market economy and placed where it properly belongs: at the doors of politicians, bureaucrats and the mass of 'enlightened' economists. And in any other depression, past or future, the story will be the same."
Six decades later, and half a world away, the Japanese proved him right. In January, 1990, the Nikkei Dow headed down. Soon, Japan's miracle economy was in trouble. Bankruptcies rose. Profits fell. Banks teetered. But the Japanese had their economists too. And soon, they were doing what Hoover and Roosevelt had done before them. As to monetary stimulus, the Bank of Japan's key lending rate was cut from 5% down to "effectively zero". And there was plenty of fiscal stimulus too.
Japan's government did just what Keynes recommended – it spent money. It went on a spree of what Alan Booth calls "state-sponsored vandalism" in the 1990s, taking the budget deficit to a remarkable 5% of GDP in 2002. Roads to nowhere, concrete shorelines, bridges and dams. Eventually Japan, per square mile of available territory, had covered 30 times as much surface in concrete as America. In 1996, the Shumizu Corporation even announced plans to build a hotel on the moon.
Once again, these heroic efforts produced farcical consequences. The Japanese economy is still barely on speaking terms with prosperity. And the Nikkei Dow closed at 8,276 last week... a level last seen (except briefly in 2003) a quarter of a century ago.
America's pyromaniacs still have a way to go. There are 150 basis points before the Fed's key rate reaches zero... and the US budget deficit is expected to reach $2 trillion in 2009. The resulting roast, we predict, will make even the devil sweat.
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Bill Bonner
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