Print this article
Regular readers of this space will recognise this as the third in a series. Irregular readers won't recognise it at all. They'll look at us as though we had come from Mars. Earthlings believe a financial crisis of cosmic proportions is upon us. Had the authorities failed to act with speed and determination it would have been the end of the world. In the popular mind, the politicians saved capitalism from its own excesses.
Our views are different. Once upon a time, they were even respectable. The gist of our message two weeks ago was that debt is dangerous. Give a society too much debt and bad things happen. How bad? It depends. That's why today's situation is such a delight to serious economists; it offers more data points. We get to see how much straw the feds can add before the camel's back breaks.
What's the best way to get through a debt crisis? Straight through was our advice last week. For at least a thousand years, the business cycle went round and round without help from central bankers or economists. It is only since these geniuses have been on the case that real problems have arisen. The Panic of 1920 – in which the US government did nothing but cut taxes and spending – was quickly forgotten. The Panic of 1929 was followed by huge rigging and jiving by the authorities. It took 20 years and a world war to overcome, and is now remembered as the Great Depression.
Could it be that earnest action by economists doesn't really help? Martin Wolf, speaking, gravely, for the world's intelligentsia in the Financial Times last week, proclaimed that "the only thing worse than rescuing the system would have been not rescuing it". But he is wrong; of all the many blessings the feds may bestow upon a grateful people, improving the economy is not one of them. An economy is a natural thing. It can be improved by the striving of entrepreneurs, the prudence of bankers, and the sweating of field hands. But when it comes to the feds, forbearance is the quality that pays. Any initiative on their part inevitably makes things worse; it sends the wrong signals.
Like the Great Depression, the Bubble Era was largely – but not entirely – the result of government initiative. Artificially low interest rates, meant to counter the modest downturn of 2001, sent the wrong message. Consumers – notably those in Britain and America – bought things they couldn't afford. Producers – notably those in Asia – made things for which there was no real market. Debt piled up. Mountains of it.
As consumers bought more and producers made more, the economy grew. But much of the 'growth' of the 2001-2007 period was fraudulent. It was based on debt spending, not genuine increases in purchasing power. Debt looks like real money, but it is not. It stimulates the economy like counterfeit money. The former Reagan-era Office of Management and Budget director, David Stockman, estimates the level of "counterfeit GDP" at $4trn in the US alone.
The fraud was discovered, though misunderstood, when sub-prime debt began to implode. The economy had been kissed hard; millions of houses had been built, bought and sold. Now, owners couldn't pay for them. Lenders, investors, and householders all began to de-leverage; paying off debts as fast as they could, defaulting on those they couldn't.
Then, the government stepped in. Rather than come to the obvious conclusion – that they should never have meddled in the first place – the feds began rescue operations on a breathtaking scale. The British government raised spending to 140% of revenues. America now runs a stimulus programme nearly equivalent, in economic impact, to World War II. Not since 1945 have the two pages of its ledgers – debits and credits – told such different stories, with almost $2 of spending for every $1 in tax receipts. In Britain, the government will add almost 50% to its debt in the next three years. In the US, Stockman expects the publicly held national debt to almost double in the next five years. The Congressional Budget Office looked ahead from the year 2000 and saw $5.6trn of budget surpluses over the next ten years. Now, they look ahead and see twice that much in new debt.
Even at those levels, many economists think the government should do more. Nobel Prize-winner Paul Krugman is one. Richard Koo is another. They've warned that the US could suffer a Lost Decade, like Japan, if the government slacks off before consumers have finished de-leveraging. At least they understand what is going on. Too bad they miss the point. The problem is too much debt, not too little spending. Leveraging up the public sector doesn't help. The feds claim they will 'exit' their stimulus, when the time comes. But how? There is no end in sight to the deficits – Stockman sees "$2trn annual deficits as far as the eye can see". The central bank cannot easily end quantitative easing, not without dumping debt back onto the private sector and driving up interest rates.
There is no exit. No easy out. No escape. All debts must be paid – if not by the borrower, then by the lender. The feds are smooching more ardently than any debt lover in history; now we get to see who gets killed.
• To read Bill's daily thoughts, sign up for The Daily Reckoning free email at Morefrombill.co.uk.
Published in
Economics
| More
articles
by
Bill Bonner
Related articles
-
By Bill Bonner, May 25, 2012
-
By Bill Bonner, May 24, 2012
-
By Bill Bonner, May 22, 2012
-
By Bill Bonner, May 21, 2012
FREE - MoneyWeek's daily investment email
Our free daily email, Money Morning, is an informative and enjoyable analysis of what's going on in the markets. Written by our Editor, John Stepek, and guest contributors.
Sign up FREE to Money Morning here.