We now enter the third phase of the crisis. Past events along the way, milestones on the road, each generated headlines and thousands of articles — are forgotten as we move to the next phase. And rightly so. The overall process is the important thing to see, so large that it is visible only in our mind’s eye. This is the end of the US debt supercycle and the post-WWII geopolitical regime — these are the domestic and international sides of the same coin.
Contents
- The 3 phases so far of the crisis.
- We have squandered the “golden hour.”
- What will happen in this third phase?
- The Election
The story to date, in three phases
(1) Collapse of the mortgage brokers, starting in December 2006 — met with laissez faire (indifference).
(2) Collapse of flawed financial institutions (Countrywide bank, Bear-Stearns, the government-sponsored enterprises) — met with massive intervention and bailouts.
(3) Contagion and failure of healthy institutions.
Note that the first two phases were characterized by confidence. Confidence that the problems were contained. Confidence that the government had the wisdom, knowledge,and power to solve these problems. Confidence that the worst was over. Happy talk by our leaders fueled this confidence.
Larger, sterner measures will be needed now, as confidence fades.
The golden hour
In emergency medicine doctors speak of the “golden hour”, a concept created by Dr. R Adams Cowley:
There is a golden hour between life and death. If you are critically injured you have less than 60 minutes to survive. You might not die right then; it may be three days or two weeks later — but something has happened in your body that is irreparable. (source)
{For more on this see Wikipedia; for its possible origin in study of WWI battlefield treatment see here.
Global leaders, both business and government, have squandered the golden hour — during which large and bold actions might have arrested the downcycle, or at least resulted in a controlled landing. Their actions have been reactive, incremental, and ineffective. Leaders take small steps in order to keep their options opened. That’s a delusion; time inexorably closes options. Their remaining options are both difficult and problematic.
The key error has been to address this as a series of unrelated interventions to help individual firms. A microeconomic response to a macroeconomic problem. As I have said so many times on this site, correct diagnosis must precede effective treatment.
Phase 3
How will phase 3 differ from the first two?
(1) We enter the third phase with considerable downward momentum.
(2) The credibility of business and government leaders has been expended, fruitlessly — and may be difficult to rebuild.
(3) Fear is appearing.
(4) Private sources provided much of the new capital to support ailing financial institutions; that will no longer be possible.
(5) The public policy tools used in phase one are exhausted — complex maneuvers with hidden costs (assurances to the public of a small price to pay): Fed loans, Fed purchases of junk assets, bailouts short of explicit nationalization, etc.
(6) The recession (US certainly, perhaps global) will become more severe, exacerbating the crisis.
Treatment of the financial system, not its parts, will be needed, IMO. This may come in phase 3, or be delayed to phase 4 — by which time the crisis will have grown more serious. What sort of actions might we see?
- massive fiscal and monetary stimulus programs,
- large scale and explicit nationalizations,
- coordinated central bank action to adjust relative currency values and control capital flows.
The change of Administration may halt or slow rescue operations at a critical point, esp. if there is a change of control in either or both Congress and the Executive branches.
Failure of the major nations to agree on a coordinated response to the crisis would have large and unpleasant consequences.
The Election
Unless its tenor changes soon, historians will marvel at the 2008 election. With so many great events taking place, the US public debates trivia. The major foreign and domestic issues of our time, immediate and pressing issues, remain almost invisible. I can recall no similar episodes in the past, either the US or other democracies. Does this mark our unfitness to govern ourselves?
Fortunately there is time. The election is our opportunity to influence these events, whose resolution might shape America’s destiny. Make your voice heard. Donate your time and money. Discuss these things with everyone you know, by every media at your command. The clock is running.
Update #1 — this is the glop both sides feed us
McCain speaking today (AP story):
“Our economy, I believe, still, the fundamentals of our economy are strong, but these are very, very difficult times, so I promise you: We will never put America in this position again. We will clean up Wall Street” … “The McCain-Palin administration will replace an outdated, patchwork quilt of regulatory oversight and bring transparency and accountability to Wall Street. We will have transparency and accountability and we will reform the regulatory bodies of government.”
Please share your comments by posting below. Please make them brief (250 words max), civil, and relevant to this post. Or email me at fabmaximus at hotmail dot com (note the spam-protected spelling).
Key Treasury Department documents
We cannot plead the “we didn’t know the details in the fine print” excuse. The important details about this massive nationalization have been clearly spelled out for us. See this page for a current list of Treasury Department documents.
Some FM posts about the current crisis
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Treasury Secretary Paulson leads us across the Rubicon, 9 September 2008
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High priority report: a geopolitical sitrep on the financial crisis, 15 September 2008
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Say good-bye to the old America. Welcome to our new socialist paradise!, 17 September 2008
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Another voice warning about the nationalization of AIG, 18 September 2008
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A vital but widely misunderstood aspect of our financial crisis, 18 September 2008
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A new sitrep, as we move into phase 3 of the financial crisis, 19 September 2008
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Another step away from our Constitutional system, with applause, 19 September 2008
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What do we know about the financial crisis? What are the key questions?, 20 September 2008
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Slowly a few voices are raised about the pending theft of taxpayer money, 21 September 2008
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America appoints a Magister Populi to deal with the financial crisis, 21 September 2008
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Legal experts discuss if the Paulson Plan is legal, 21 September 2008
For a full listing see the FM reference page about the Financial crisis – what’s happening? how will this end?.
A few of the most important posts warning about this crisis
This crisis has long been forecast by many, including in articles on this site. Even now that we are in the whirlwind, these provide valuable background material on its causes — and speculation about the results. Here are some of those posts.
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A brief note on the US Dollar. Is this like August 1914?, 8 November 2007 — How the current situation is as unstable financially as was Europe geopolitically in early 1914.
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The post-WWII geopolitical regime is dying. Chapter One, 21 November 2007 — Why the current geopolitical order is unstable, describing the policy choices that brought us here.
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We have been warned. Death of the post-WWII geopolitical regime, Chapter II, 28 November 2007 — A long list of the warnings we have ignored, from individual experts and major financial institutions (links included).
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Death of the post-WWII geopolitical regime, III – death by debt, 8 January 2008 – Origins of the long economic expansion from 1982 to 2006; why the down cycle will be so severe.
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Geopolitical implications of the current economic downturn, 24 January 2008, – How will this recession end? With re-balancing of the global economy, so that the US goods and services are again competitive. No more trade deficit, and we can pay out debts.
- A happy ending to the current economic recession, 12 February 2008 – The political actions which might end this downturn, and their long-term implications.
- What will America look like after this recession?, 18 March 208 — The recession might change so many things, from the distribution of wealth within the US to the ranking of global powers.
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The most important story in this week’s newspapers , 22 May 2008 — How solvent is the US government? They report the facts to us every year.
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The World’s biggest mess, 22 August 2008 — A brillant ex pat looks at America from across the ocean.
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“The changing balance of global financial power”, by Brad Setser, 22 August 2008
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“The Coming US Consumption Bust”, by Nouriel Roubini, 6 September 2008
To see the all posts on this subject, go to the FM reference page about The End of the Post-WWII Geopolitical Regime.
What do you mean by large-scale “nationalizations”? Does capital just turn over its holdings to the government to manage? Where will the money for “massive fiscal and monetary stimulations” come from? I thought we were broke (as a state). Does “massive” inflation enter the picture at some point?
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Fabius Maximus replies: Nationalization of profitable companies is expensive (if done at market prices). Nationalization of failing companies might prove expensive later, but has little or no up-front cost (if done at market prices).
The money for fiscal and monetary stimulus will be printed. Deflation is the danger now, not inflation (think of Japan’s decade-long struggle against deflation following the 1988 bust).
What happens later is almost impossible to determine now, as it depends on choices we have not yet made — and do not yet understand.
These are indeed strange times. I turned on the television lately on CNN – expecting the channel to talk about Bolivia, Georgia, the presidential election. Instead the pundits debated Sarah Palin’s look and haircut. Perhaps I just switched on the channel at the wrong moment, but afterwards they debated the look and appearances of Obama, McCain and Biden.
I want to ask you this FM: Can the United States be allowed to fall? Isn’t for example China to dependent on exporting to the American economy? I believe that is going to be a serious issue in the coming months and years. The Chinese have put a lot of money in the United States and would not like to see them be lost, but on the other hand they might decide it would be time to cut and run.
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Fabius Maximus replies: I have discussed this in many posts. The United States is a political regime; it is not America. If we have finanical or other problems vastly beyond anything forecast by our current leaders it is possible that regime change might result. But we will still be here. America’s industries will remain. Our vast natural resources will remain.
We will just have to build the Mark IV version of America (the colonial era, the Articles of Confederation, the Constitution, then the next era). We will learn and move on.
Excellent post. No person in the government -free market proponent – has been punished for the gross and negligent conduct at the root of this mess. One would expect the DoJ and SEC to be in the thick of it, but they are too busy acting as Bush’s personal lawyer. The entire financial system needs an overhaul. Crimes have been committed and they are taken as a given. The jails are filled with petty criminals who have not cause harm to the nation. The Wall Street gang and their supporters in government (and K Street) should be examine forthwith.
FM, I hope you are right but I don’t think there is now ‘time’ before the elections unless either one of the candidates step forward to offer substantive proposals. I have read in some blogs that Sarah Palin is a true-blue consitutionalist type who is dead set against the current Military Empire mode and that in fact this is McCain’s new mission as well if he gets in. But this is highly speculative. Obama seems fully in the pocket of the same old foreign policies that are the expression of this, so no change there and he is far too green to be able to take on what Putin recently called ‘the court that rules the king’ in reference to GWB not really being in charge of the USA.
There is also now talk of the US as a whole going ‘bankrupt’. I confess I am not sufficiently educated to know what that means really, but I think your remarks about Phase 3 and 4 are right on the money. Probably the most peaceful, workable outcome is for an internal collapse of the US financial system which will generate a world-wide depression economically speaking in the short term but which will oblige US citizens to push for over-arching reform of their political and financial systems. The spanner in the works has always been, to my mind, that in the event of such internal collapse, will the country actually turn inwards for a while to take care of long overdue housekeeping issues or will it choose to escalate conflict as a way to maintain denial?
Putin is rumoured to be crafting a speech for the Duma in which he will state that the US cannot recover from Hurricane Ike, that it lacks the credit to maintain yet another blow like this to the energy sector etc. etc. That might be wishful thinking on his part, but it seems to me that your ‘high priority’ report is well named and well timed. This is a truly critical period.
If you think something can be done this election, what sort of things are they? My sense is that unless mainstream oped writers do a serious 180 which I doubt they will be allowed to do, that nothing much can be done. Nov 4th is only 6 weeks away, relatively speaking a blink of the eye.
Your comment: “The United States is a political regime; it is not America. If we have finanical or other problems vastly beyond anything forecast by our current leaders it is possible that regime change might result. But we will still be here. America’s industries will remain. Our vast natural resources will remain.
We will just have to build the Mark IV version of America (the colonial era, the Articles of Confederation, the Constitution, then the next era). We will learn and move on.” is well taken and critical. Needs to be heard loud and clear by large segments of the US population followed by appropriate creative action.
“Military Industrial Complex 2.0“, By Frida Berrigan, posted at TomDispatch, 14 September 2008 — “Cubicle Mercenaries, Subcontracting Warriors, and Other Phenomena of a Privatizing Pentagon. Part 2 of a a 3 part series.
Good current article on how the military-industrial-congressional complex Ike warned about is perhaps the tail wagging the US nation’s dog.
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Fabius Maximus replies: I strongly recommend reading this!
It is my opinion that this whole mess started back in the early 70’s with Nixon taking us off the gold standard. There was a great opportunity in the late 90’s to stabilize monetary policy but Greenspan ended that in an attempt to save the stock market from it’s tech bubble and drove the housing bubble from there. The citizen now expects the government to come up with a cure all so they won’t have to work to hard. Unlike before, independence is not the name of the game, but comfort and less risk. The current candidates really reflect how little change the citizens want. The options for this current election are very few. Do either parties candidates support some kind of stable monetary policy? You probably can’t find a congressman, a senator, or presidential candidate that understands what that even means! Do any of them support a rational tax policy designed to raise revenue with very little economic impacts? Not really! But it’s because we, the citizens, have not asked for solutions but security. Why? Solutions involve change and therefore risk. The people don’t like either one of those.
The government is reflective of priorities of the people. That being said, what are America’s priorities?
Personel responsability? No way! Live within our means? Hell no! etc.
I think we have stepped into a hole and it’s pretty darn deep. I’m not sure that a Mark IV America could even exist at this point. The people would’nt let it.
It is probably realistic to began looking beyond this financial crisis to the type of political and social dislocation it will soon unleash. Is a greater centralization of economic and political power inevitable? Will our “ancient” traditions of decentralization have any opportunity for a comeback?
Your comment: Unless its tenor changes soon, historians will marvel at the 2008 election. With so many great events taking place, the US public debates trivia. The major foreign and domestic issues of our time, immediate and pressing issues, remain almost invisible. I can recall no similar episodes in the past, either the US or other democracies. Does this mark our unfitness to govern ourselves?
I can recall several similar episodes within a generation. To wit:
1984: “Morning in America” sentimentalism carried the day while peacetime budget deficits exploded.
1988: “Willie Horton” and “A thousand point of light” carried the day while peacetime budget deficits exploded.
1992: Ross Perot forced discussion of the national debt. He received less than 20% of the popular vote.
1996: “It Takes a Village” vs. “one last mission for the Greatest Generation.” Meanwhile, Americans are oblivious to NATO expansion, dot-com lunacy, etc.
2000: Primarily about personality, reflecting an “End of History” triumphalism that major problems (budget deficit, superpower confrontation, etc.) had been solved.
2004: Personality again. One twist was cursory discussion of how to win in Iraq, not whether our grand strategy was flawed.
Triviality and obsession with personality are in fact the traditional American responses to electoral issues. It is difficult to argue about whether Americans are fit to govern themselves when, throughout our history, we are so easily manipulated.
Please note that I now have my own blog, where I discuss financial topics only. I save geopolitical comments for FabMax. I have linked to your blog in my Blogroll.
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Fabius Maximus replies: I doubt that the earlier events you describe (the sort of thing that can be found in any time and place) are even remotely comparable to what is about to happen.
They are saying the same thing over in China: “Chinese economists warn of the “biggest adjustment” in 30 years”, By John Chan, World Socialist Web Site, 12 September 2008
“Since the Chinese Communist Party (CCP) regime turned to the capitalist market in 1978, the official Stalinist ideologues and academics have all but dropped their “socialist” window dressing and now openly serve the new capitalist elite. Dismissing the Marxist theory of capitalist breakdown as “outdated,” they claim that world capitalism has learned to regulate its contradictions and that the economic depressions, social revolutions and imperialist wars of the first half of the twentieth century will never return. Such arguments are now looking seriously flawed.
Li admitted China was facing the “the most serious external shock in the 30 years of reform and opening up”. China was a closed economy throughout the mid-1970s period of world stagflation—a combination of economic stagnation and high inflation. Its market reforms only began in earnest in 1978. Even during the Asian financial crisis in 1997-98, China escaped most of the impact because the developed economies in North America and Europe were largely unaffected. China still had a closed capital market, unlike today when hundreds of billions of dollars in “hot money” or speculative capital has flooded into the country. Li warned that it was now impossible for China to “decouple” from the global economic crisis.”
From interview given on Sept 1st, before GSO’s or Lehman this weekend.
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Fabius Maximus replies: Be careful; nations are not unitary entities. How much weight would you give an essay from an obscure website in the US, as representative of thinking in the US?
FM: fair point, and I am taking it on faith that the quotes used from the Chinese senior official are accurate. WSW (I am not a socialist btw) often has interesting coverage of things, I find, and some of their articles are good.
Meanwhile, another take on this from Richard Cook (whom I suspect you also will not like) arguing that what is going on is structurally tectonic in implications.
“The Crash of Western Capitalist Civilization?“, Richard C. Cook, 14 Sep 2008 — Excerpt:
“Train-wreck” doesn’t even begin to describe what is starting to happen to the U.S. today with the financial crisis, an onrushing depression, and the failure of George W. Bush’s war policy as he is faced down by Iran and the Russian bear.
But in an even broader sense, the West, as a civilization, after a century of world war and the utter failure of global finance capitalism, may have reached its limits. ”
Before you dismiss such an hyperbolic intro, here is his blurb at bottom. Since your main posts today combined economic meltdown with space program issues, both of which are on his beat….:
“Richard C. Cook is a former U.S. federal government analyst, whose career included service with the U.S. Civil Service Commission, the Food and Drug Administration, the Carter White House, NASA, and the U.S. Treasury Department. His articles on economics, politics, and space policy have appeared on numerous websites. His book on monetary reform entitled We Hold These Truths: The Hope of Monetary Reform will be published soon by Tendril Press.
Much of the article deals with the geopolitical ramifications of the current financial tsunami, which is also germane to this blog I trow.
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Fabius Maximus replies: Not a lot of content to this article, IMO. Mostly heated rhetoric. OK for folks who like heat with little light.
” the utter failure of global finance capitalism”
Total nonsense. Capitalism has lifted more people from poverty than any other system devised by man. Esp in the 20th century, which in effect a test of various systems — from communism to anarchy — a contest decisively won by free market systems. Cook does not even attempt to support his bizarre assertions.
Richard has lengthy, substantive proposals for how to turn things around. I excerpt a small part of the introduction. I like that he is confident that were we to address things honestly and intelligently that most of our current problems could be resolved rapidly and without too much trauma. That is clearly the best way to go if at all possible.
“An Emergency Program of Monetary Reform for the United States“, Richard C. Cook, Atlantic Free Press, 10 may 2007 — Excerpt:
“The report provides a unique diagnosis of the underlying financial issues by applying new concepts to familiar data. It criticizes finance capitalism but without going to the other extreme of proposing a collectivist solution. It affirms the value of “democratic capitalism,” combined with a shift to more public control of credit, and it offers a new approach to achieving worldwide prosperity, starting with economic recovery in the U.S. This can be done through measures that could be implemented today by inspired political leadership.
“Most economic reform programs nibble around the edges. Many proposals address symptoms, not causes, such as suggestions to use tax or trade policy to bring exports and imports back into balance. Other observers would destroy society — or, more accurately, watch it destroy itself — before building something new. Another line of reasoning says we can only look forward to decades of a lower standard of living before we work our way out of the present crisis.”
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Fabius Maximus replies: I skimmed this, and can see no signs that the author understands even the basics of economics — let alone the dynamics of money and monetary policy. He incorrectly uses economic terms (e.g., inflation) and numbers (e.g., components of GDP). It’s crank science, so far as I can tell (as I said, from a brief read).
“It ought to be remembered that there is nothing more difficult to take in hand, more perilous to conduct, or more uncertain in its success, than to take the lead in the introduction of a new order of things. Because the innovator has for enemies all those who have done well under the old conditions, and lukewarm defenders in those who may do well under the new. This coolness arises partly from fear of the opponents, who have the laws on their side, and partly from the incredulity of men, who do not readily believe in new things until they have had a long experience of them.” : N. Machiavelli, Il Principe
correct diagnosis must precede effective treatment.
While I think this is correct, I don’t think you’re focussing on the deepest underlying causes. The main cause is the desire of almost all American voters to spend money “as if” they are more wealthy then they are.
You say: Happy talk by our leaders fueled this confidence. No. Advertisements by mortgage brokers for 100% financing, with limited prior credit checks, and no employer checks for income (Liar loans) fueled this, abetted by the US income tax deduction for interest (but not principal). The macro mess is because of a huge structural tax bias in favor of debt over savings, and millions of micro decisions.
Look at almost any anectdotal detail of a family with foreclosure problems today, and you almost always find a new equity based loan (in last 5 years) — withdrawing equity savings for current consumption.
Remember Jib Jab’s (tune of O Susanah)
O Big BoxMart
Look what you’ve done to me.
For now my house is full of junk,
and it used to be empty.
The democracy problem is that leaders do not get votes when they tell voters the truth (you should be saving, not consuming).
History will likely blame the Democrats for using 2006 and 2007 to argue incessently in favor of losing in Iraq, rather than support victory but trying to do so at a lower cost, and also to fix the other problems.
Insofar as the current global slowdown is due to excessive oil prices, the global slowdown also reduces the demand for oil … and the price. No $200/bbl in the next year, and probably not even $150/bbl. I heard that OPEC wants a price around $100/bbl, and that some spot prices have been less than this already.
Finally, you claim that deflation is the fear. But with no evidence.
At least the Fed knows how to avoid deflation: printing money / lower interest rates / weaker dollar (not overvalued).
FM says: “Capitalism has lifted more people from poverty than any other system devised by man. Esp in the 20th century, which in effect a test of various systems — from communism to anarchy — a contest decisively won by free market systems. ”
I think the high-point of American prosperity (wage growth, GDP growth, upward class mobility, etc) was in the early seventies. Since then, purchasing power has eroded, income inequality increased, plants have closed and re-opened overseas, Americans have gone wildly into debt, and investment profits have come increasingly from financial manipulations.
Now we see that not only is capitalism uninterested in the welfare of its own national population, it’s not even capable of regulating itself.
In these senses, one might say call capitalism a “dismal failure.”
Spengler has an interesting take on the current financial crisis, stating that
What took both firms down, rather, is a sudden break in the chain of expectations between the present and the future. Today’s savers no longer can have any confidence that they will earn enough to fund their retirements by putting money at risk. They have discovered that in one form or another, their investments have fed a securities market bubble rather than the creation of value.
However, perhaps more interesting he also states:
The US government’s ability to influence events, however, seems exhausted. The Treasury and Federal Reserve can’t bail out everyone. After Lehman, the insurer AIG and Washington Mutual may be next to fail, followed by several regional banks.
This buttresses an argument that I have made on Patrick Lang’s blog to the effect that we may be reaching a “Richard Whitney Moment” ( referring to the failed attempt of then NYSE President Richard Whitney to stem the 1929 crash. ) This would be a moment when heretofore “orthodox” economic remedies no longer work and the cascades of economic forces proceed relentlessly.
“Fabius Maximus replies: I skimmed this, and can see no signs that the author understands even the basics of economics — let alone the dynamics of money and monetary policy. He incorrectly uses economic terms (e.g., inflation) and numbers (e.g., components of GDP). It’s crank science, so far as I can tell (as I said, from a brief read).”
Well, I beg to differ. But I am no economist and cannot argue substantively.
I suppose you will say the same about Stiglitz too who said in an interview recently: “The Fall of Wall Street Is to Market Fundamentalism What the Fall of the Berlin Wall Was to Communism“, 16 September 2008 — Excerpt:
“Stiglitz: The globalization agenda has been closely linked with the market fundamentalists — the ideology of free markets and financial liberalization. In this crisis, we see the most market-oriented institutions in the most market-oriented economy failing and running to the government for help. Everyone in the world will say now that this is the end of market fundamentalism.
“In this sense, the fall of Wall Street is for market fundamentalism what the fall of the Berlin Wall was for communism — it tells the world that this way of economic organization turns out not to be sustainable. In the end, everyone says, that model doesn’t work. This moment is a marker that the claims of financial market liberalization were bogus.
“The hypocrisy between the way the U.S. Treasury, the IMF and the World Bank handled the Asian crisis of 1997 and the way this is being handled has heightened this intellectual reaction. The Asians now say, ‘Wait a minute, you told us to imitate you in the U.S. You are the model. Had we followed your example we would be in the same mess. You may be able to afford it. We can’t’.”
Since we haven’t had truly free markets or pure capitalism, the jury is still out I suppose. But there has never been a pure anything in human affairs so it doesn’t really matter. All that matters is what happens. With the nationalisation (which is what it is) of god knows how many trillions of dollars of mortgage debt and the likely similar rescue of AIG, all in order to prevent a run on the over 60 trillion in outstanding leveraged instruments which cannot withstand more than a 6% reduction in value, a good case can be made that if this was indeed capitalism we have been living under, then it has failed.
The sooner the semi-private Federal Reserve is dismantled the better.
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Fabius Maximus replies: I do not understand your point. Stiglitz makes several cogent points about the terrible regulatory regime we have had in the Greenspan era. You appear to be extrapolating his comments into a systemic critique, which do not appear to be justified by anything in this interview.
Certainly there is little in this that supports Richard Cook’s thesis.
{snip}
My comment here is that I am surprised that so many experts are talking about this being a crash already. It isn’t by any stretch. Do they know something the rest of us don’t, or are they panicking. Or are they talking it down before an engineered monster rally next week?
But it sure feels like it might crash any day, albeit that is not usually how crashes happen, they tend to sort of cascade all of a sudden which this one hasn’t done, and take everyone by surprise. Of course, I wasn’t around for the 1922-3 and 28-9 crashes…
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Fabius Maximus replies: You have no way of knowing this, but there is no investment commentary allowed here. It hijacks the thread instantly, and there are thousands of other sites to post such things.
The financial system is obviously under severe stress, with losses in the half-trillion dollar level already. You are looking just at the equity markets. Most of the losses to date have been in the fixed income markets, just one of the many odds aspects of this cycle.
“But it sure feels like it might crash any day, albeit that is not usually how crashes happen,”
There is no “way crashes happen.” Even in our brief experience with financial markets (not even 2 centuries), they have happened in many different ways. In any event, what happens in the real economy is far more important. And that story is still in the early innings.
There was no intended connection between Cook and Stigler except insofar as Cook is offering a way of monetary reform based on what he calls ‘Democratic Capitalism’ versus the rigged banking-sector system we have had at least since 1913 if not before because he feels the current system is unworkable, and Stiglitz who says that: “In this sense, the fall of Wall Street is for market fundamentalism what the fall of the Berlin Wall was for communism — it tells the world that this way of economic organization turns out not to be sustainable. In the end, everyone says, that model doesn’t work. This moment is a marker that the claims of financial market liberalization were bogus.”
Similarly, Chalmers Johnson in a March 2008 article looked deeply into the military-industrial complex to underline for us just how unsustainable are the current military-industrial-congressional matrix of policies. {snip}
I think the thrust of your original post and one of the comments is that even if everything does collapse the American people will still be there. I couldn’t agree more. But that is why I offered the Cook piece originally: whilst aware of the deep systemic problems, he offers a practical way of fixing them that preserves both democracy and capitalism and is essentially an optimistic can-do approach.
Stigliz calls for proper regulation – long overdue of course – but perhaps too late to prevent any ongoing tsunami if we are about to go through one.
Chalmers identifies a clear, glaring issue in terms of how US military polity is ruining the country and has been for several decades.
None of these things is being addressed in this election. The US political process is horrifyingly frivolous and bodes ill for the next few years.
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Fabius Maximus replies: This comment was 660 words, the length of a post — and far longer than the 250 word max limit mentioned at the end of each post.
The comment’s discussion of military spending is not topical to the post, hence the snip. Niehter the post nor the crisis has anything to do with government spending or debt, but rather household debt, deleveraging, and the resulting consumper-led recession. Govt liabilities are a problem, but not yet affecting us. Government spending on the military is not a problem, just insane (IMO).
As for Cook and Stigliz, this read like you were drawing a connection: “I suppose you will say the same about Stiglitz too who said in an interview recently…”
Well, if you think bailing out Fannie and Freddie and now tomorrow (probably) AIG has little to do with govt debt, I for one am not so sure. “The Next Crisis?”, Bruce Bartlett, Forbes, 16 September 2008
The next crisis: govt debt.
“Since 2004, deficits have declined as a percentage of GDP, falling to 2.6% in 2005, 1.9% in 2006 and 1.2% in 2007. However, the latest projections from the Congressional Budget Office (CBO) show the deficit rising to 2.9% of GDP in fiscal year 2008, which ends on Sept. 30. The deficit will remain in this range through at least 2010.
“One way the situation could get worse is if the federal government is forced to fully absorb the debts of Fannie Mae and Freddie Mac. The CBO feels strongly that their debts should be brought on-budget to reflect the fact that they effectively have been nationalized. This would have the effect of increasing the national debt by about $1.6 trillion, the current liabilities of Freddie and Fannie.
“Even without Freddie and Fannie’s debt, the on-budget national debt will rise to $5.9 trillion next year–40% of GDP, up from 35% in 2000. But as all budget analysts know, the real problem is not the official debt, but all of the unbudgeted debts that are accumulating off-budget in the form of unfunded promises for Social Security and Medicare. According to the Financial Report of the United States Government, the present value of their unfunded liabilities is now more than $40 trillion.”
Sorry about the length. In my first posts I did not include quotes from the articles and you put them in. I haven’t been counting those inserts.
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Fabius Maximus replies: Totally absurd. The debt of the GSE is unlike “regular” government debt in that it is both income-producing and secured by a real asset. People pay their mortgages; their homes are collateral. One can lump it in with government debt, but putting me in a barn does not make me a horse.
Defaults on the GSE’s assets (loans) that would destroy a bank are insignificant to a government. A 10% loss (large!) on $1.6 trillion is only $160 billion. Large as a fraction of the government’s annual deficit, but a trivial addition to the national debt.
US government debt (not liabilities) as a % GDP is aprox 1/2 of Japan’s, and low compared to most other developed nations. As economist David Rosenberg said in a recent report on this subject:
“The downgrading of Canadian debt in 1995 and Japanese debt in 1998 highlight how far the United States should be from a downgrade of its sovereign debt. In 1995, Canada’s debt rating was cut from Aaa to Aa1. At that time, using IMF figures, Canada’s gross debt-to-GDP ratio was 114%. Similarly, when Japan’s debt was downgraded in 1998 from Aaa to Aa1, the ratio for Japan was 120%.
{Rosenberg calculates that including the GSE’s in the IMF calcuations, our debt-to-GDP would be at 84%, still far below that of Canada and Japan. And this is inflated because the IMF figures for US gov’t debt includes state and local debt which are not guaranteed by the federal government.}
“…we remain unconcerned that sovereign US debt will face a downgrade. Even if the US were to assume all of the liabilities of the GSEs, history suggests the debt-to-GDP ratio would not reach a level that would prompt that level of concern from ratings agencies … the Treasury is not facing any significant funding restraint despite their recent actions and the anticipated large budget deficit for fiscal year 2009.”
Also, Bartlett grossly underestimates the government’s liabilities, which are now over $60 trillion (or larger; I do not recall the actual number). But few care about this today (unfortunately). Bush senior’s medicare drug benefit increased governemnt liabilities by $6 trillion; were there downgrades or rioting in the streets?
” I haven’t been counting those inserts”
Of course I did not mention the length of comments in which I included inserts. The length of the posts was too long on the recent ones.
Like generals Bernanke fought the ‘last war’, not realising (1) This one is different, (2) how he thought the last war was lost was incorrect.
He’s an ‘expert’ on 1929, unfortunately he drew the wrong conclusions. He thought ’29 was a liquidity issue, not realising that liquidity is a symptom, not a cause. In actual fact, and herein lies a similarity to today, it was a debt and solvency issue – too much debt with demand being fuelled by expectations of rising asset values (in that time shares) and supply being provided by many sources (ie margin loans). As soon as the asset value falls (as all booms turn to bust) then solvency collapsed and liquidity dried up.
He though that is he managed liquidity enough then everything would work itself through the crisis and come out the other end and then BAU (business as usual) could continue.
Not a chance. The debt levels dwarf asset values to an astronomical amount (e.g. just the CDO market of $60+ trillion, vs a $14 trillion US economy). The leverage levels are at historic highs, so even small asset price movements means base capital being completely wiped out.
Imagine a game of pass the parcel with 10 players. Now with one parcel and passing in order, when the music stops one is left holding it and goes out, the other 9 are ok.
Add more parcels with everyone passing parcels backwards and forwards to each other, with each of them adding new parcels as they go. When the music stops (and there is a 1,000 parcels in total) everyone is holding at least one parcel, some have 100 (and look for a convenient window), a few ‘lucky‘ ones only have 1 or 2. Now ‘Daddy’ has to come in and take all the parcels off them to let at least some of them play again.