A brilliant and provocative but pessimistic analysis by Albert Edwards of Société Générale: “To cut or not to cut? Actually it doesn’t really matter. We’re stuffed anyway!”, 12 February 2010. With links to even better analysis by Richard Koo. Must-reading for anyone seeking to understand this crisis. Excerpt:
My own view of developments, for what it is worth, is that any help given to Greece merely delays the inevitable break-up of the eurozone. But, for me, the problem is not the size of the government deficit and the solvency or otherwise of the governments in the PIGS (Portugal, Ireland, Greece and Spain we deliberately exclude Italy).
The problem for the PIGS is that years of inappropriately low interest rates resulted in overheating and rapid inflation, even though interest rates might well have been appropriate for the eurozone as a whole. Rapid inflation has led to overvalued bilateral real exchange rates (they do still notionally exist) for the PIGS and in most cases yawning double-digit current account deficits. With most trade done with other eurozone countries, the root problem for the PIGS is lack of competitiveness within the eurozone – an inevitable consequence of the one size fits all interest rate policy. Even if the PIGS governments could slash their fiscal deficits, as Ireland is attempting, to maintain credibility with the markets in the short term, the lack of competitiveness within the eurozone needs years of relative (and probably given the outlook elsewhere, absolute) deflation. Hence the PIGS public sector deficit will inevitably remain large as a direct consequence of this weak growth outlook.
In my opinion this will not be tolerated by the electorates in these countries. Unlike Japan or the US, Europe has an unfortunate tendency towards civil unrest when subjected to extreme economic pain. Consigning the PIGS to a prolonged period of deflation is most likely to impose too severe a test on these nations. And the political consensus within the PIGS to remain in the eurozone could falter in the face of another of Europe’s unfortunate tendencies: the emergence of small extreme parties to take advantage of any unrest. My own view is that there is little help that can be offered by the other eurozone nations other than temporary confidence-giving sticking plasters before the ultimate denouement: the break-up of the eurozone.
About the economic crisis of the developed nations
Note: A copy of this graphic appears in this report (earlier, by different author but same firm).
One of the great similarities of our economic downcycle and Japan’s two decade long journey to oblivion: both are periods of economic stress caused by private sector deleveraging — in which the government mitigates the resulting pain by borrowing and spending. Japan’s government has run up terminally large debts, on a gross basis equivalent aprox to 2x its GDP. We’re on the same path.
The private sector has too much debt. The process of working the debt down — by a combination of increased savings and defaults — reduces spending, causing a long, deep recession. The government mitigates the pain by tax cuts and increased spending — generating massive deficits, which it borrows. Private debt goes down, public debt goes up. It’s like heroin — effective, but deadly if used too long.
Experts continue to proposed solutions, as they have for decades. To no avail. The public refuses to understand the problem, with no interest in any but delusional solutions.
Look at the numbers
The public has its eyes closed, lost in dreams
Another sensible proposal, fated to rot away ignored like all the others
For more information, and an afterword
(1) Look at the numbers
In Q1 of 1994 government debt was 36.3% of total credit market debt, a long-term peak.
State/local debt was $1.15 trillion (9.2%).
Federal debt was $3.39T (27.1%)
In Q4 of 2007 government debt was 23.1% of total credit market debt, a long-term trough.
State/local debt was $2.19 trillion (6.9%).
Federal debt was $5.12T (16.2%)
Now, as of Q3 2009, government debt is 28.5% and rising fast — far faster than private debt is falling.
Summary: A powerful metaphor, widely used, about this recession — the worst since the 1930’s — providing important insights.
Excerpt from “Financial Heroin”, Don Coxe, Coxe Advisors, 16 December 2009:
… my father was a doctor in the Canadian Army in WWII, and served in the Italian campaign. He became greatly respected for his anaesthesia and pain management under battlefield surgery and rehabilitation conditions. (He was cited after war’s end for perhaps having performed more anaesthetics under such conditions than any other Canadian doctor.)
In discussing his experiences, he told me that he swiftly learned that the best — and frequently the only — reliable drug for the critically wounded was heroin. Soldiers who writhed in agony under other medications almost always responded to heroin. The problem wasn’t deciding whether to administer it: if morphine didn’t work fast, you didn’t waste time, you injected heroin.
The problem for the doctor came when the patient had begun to recover from surgery, and was receiving heroin. How quickly could the dosage be reduced and when would it be terminated? Although few soldiers were freed of heroin without experiencing pain and distress, it was necessary to take the drug away as rapidly as possible. Otherwise they would become addicts and their lives would be ruined — for soldiering and everything else.
… Zero interest rates are Financial Heroin.
This goes to the vital points, mostly misunderstood, about the massive fiscal and monetary stimulus governments have applied in response to this global recession. Government stimulus has several characteristics similar to heroin.
Much of the commentary about the financial crisis in the general media is little more than superstition — recommendations like the 14th century efforts to control the Plague by killing dogs (which, of course, made it worse).
Here are two excerpts from the professional economics literature, brief insights into our true situation. Plus two powerful recommendations: sustained fiscal stimulus and global coordination of economic policy. We’re doing the first, on too-small a scale and in a sloppy fashion. We are not doing the second, an error which might undo all the efforts of the world’s governments.
(1) Excerpt from the Drobny Global Monitor, Andres Drobny, 30 November 2009:
Monetary policy should help ensure that liquidity is maintained, and pot holes like Dubai and other busts that are encountered do not spread systemically. Easy money is designed to prevent a cascade of failure sin an environment of falling asset values combined with high private sector debt loads. It may not, however, be at all effective in stimulating additional aggregate demand in such circumstances. When real returns on physical assets are low, easy money can’t really provide much of an incentive to boost physical investment spending. It is thus more of a support package and seems unlikely to provide much of an economic boost.
The unemployment rate for men, 11.4%, based on seasonally adjusted data from the Bureau of Labor Statistics, outpaces the rate for women, 8.8%. We now have the largest jobless gender gap since tracking became possible in 1948. The gap reached its previous peak, 2.5 points, in 1967 and 1978. Today’s gap has exceeded that for three months. It’s endured at two points or above for an unprecedented length, eight months and counting.
Summary: The US dollar is falling in value vs. most other currencies and gold. As usual, much of the material in the mainstream media about this important economic trend is misleading or wrong. It is potentially both bane and boon. Which depends upon us. This is just a sketch; please see the links at the end for more information — those are among the most important on this site.
The truth is that the falling dollar is good news. For one thing, it’s mainly the result of rising confidence: the dollar rose at the height of the financial crisis as panicked investors sought safe haven in America, and it’s falling again now that the fear is subsiding. And a lower dollar is good for U.S. exporters, helping us make the transition away from huge trade deficits to a more sustainable international position.
Why is the US dollar falling in value?
Is a falling dollar inevitable?
Is a weaker dollar bad for us?
What should the US do about the dollar?
Other valuable articles about the dollar
For more information on the FM site, and an afterword
(1) Why is the US dollar falling in value?
As all parents know, “why” is the most difficult of questions to answer. We can only guess. The stock market’s ticker tape gives the price and volume of each trade, but not the motives of the buyer and seller.
The past quarter-century has been an extraordinarily stable period for the economy (as we accumulated debt to maintain growth). With only two recessions since 1982, both mild and brief, we’ve forgotten what recessions are like. So we get analysis like this:
The current male-female jobless rate gap of 2.6% is three times higher than the maximum gap during the last recession and more than two times higher than the peak gap of 1.1% following the 1990-1991 recession. These facts about the male-female jobless rate gap are not only incontrovertible, they are truly unprecedented and historic.
They are neither unprecedented nor historic.
Men routinely suffer greater job losses than women (as Perry notes). But just as this is the worst labor downturn since the 1930’s, so the men-women gap is the largest since the 1930’s. But it is not worse than during the 1930s, although we have only unreliable data other than the 1930 and 1940 censuses (for more about this see “Calculating the Unemployment Rate“, The Liscio Report, 23 January 2009)