How to make a bad situation worse
By
Bill Bonner Sep 05, 2008
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This week, according to the Bloomberg report: “Prime Minister Gordon Brown suspended a tax on buying some homes for the first time since 1991 and brought forward 1 billion pounds ($1.8 billion) of spending in an effort to revive the UK economy”.
Brought forward? From where? What he is actually doing is taking money from renters and solvent homeowners to help other people live in houses they can’t really afford. Meanwhile, in the US, private lenders have grown wary, but the Fed’s money still flows like free beer. Fannie Mae and Freddie Mac have a combined losses of up to $100bn – much of which will have to be swallowed by the taxpayer. Next in line are the automakers, asking for $25bn – at negative interest rates, of course.
“The response to this sad situation is unfortunately simple,” wrote Marc Touati, in the French version of MoneyWeek magazine. “The US is doing everything it can to promote growth and employment, knowing that as soon as the economy improves its economic policies can be less accommodating.” Mr. Touati is an admirer of America’s financial activism. Looking back over the past ten years, he sees two episodes when US financial authorities acted aggressively and, apparently, successively. In 1995, for example, economists thought the US was headed into a prolonged slump while Europe was poised for a period of dynamic growth. Instead, it was America that surprised to the upside. Again, in 2002, same situation. America seemed to be in for a tough time, while Europe had the wind at its back. Again, America sailed ahead, while the Old World couldn’t seem to catch a breeze.
Now, in 2008, here we go again, he seems to say. “Once again, the consensus is wrong. Thus, the American economy has avoided the much-announced strong, prolonged recession, while the euro zone is threatened...”
Fortunately for you, dear reader, we do not have the space to describe in detail why Mr. Touati is wrong; we can only summarise: each time the US consumer threatened to stop spending more than he could afford, the Feds gave him more credit on easier terms. The US economy “grew” but the typical American became worse off.
George Magnus, writing in the FT on Tuesday, also looks with favour on US monetary and fiscal policies: “The Fed has been obliged to do unusual things to avert a systemic financial meltdown. I see nothing in its operations that is irreversible and cannot be undone as the sense of crisis evaporates.”
Mr. Magnus ought to take a look at the Fed’s books. Hardly more than 12 months ago, the American central bank’s vaults were so full of US Treasury debt that anything else in there wasn’t worth talking about. But at the end of last year, the bank began buying up the flotsam and jetsam from sinking Wall Street ships. Now, the Fed’s assets look like a poor man’s attic – including $106bn of junk in a category known as “other”. What exactly is in these credits, we don’t know. But we know it wasn’t there a year ago and it is only there now because other financial institutions were desperate to get rid of it.
If Mr. Magnus is right, and the crisis “evaporates”, perhaps these soggy credits will be crisp and saleable again. And perhaps the British Government will make a profit on Northern Rock. Then again, maybe oil is mis-priced too. Perhaps it will sell for $10 a barrel again... just like it did in 1998. And maybe the Russians will reconsider; maybe they’ll hoist the old hammer and sickle and go back to standing in lines to buy peas. We don’t know. We have tried to look into the future. Maybe if we could, we too would be tempted to improve it before it happened. But we’ve never gotten the hang of it. Instead, we turn to the past...
“Unusual events merit unusual solutions, especially when systemic risk is present,” concludes Mr. Magnus. But there is nothing unusual about these events, nor about the solutions. Every bubble in history was followed by a bust. And the Feds always use a crisis like a whale uses a beach. Emperor Diocletian, like Richard Nixon and Robert Mugabe, washed up on wage/price controls. Trying to keep prices down, their economies all got worse. Philippe d’Orleans, Regent for the young Louis 15th, turned to Beau Wilson’s killer to save the monarchy from the Sun King’s debts. John Law, with his funny paper money, bankrupted France. Now the world turns its weary eyes to Ben Bernanke, who controls the price of credit in order to try to keep prices moving up! History surely tells us it won’t work?
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