The Worst Recession in 25 years?
On September 18 the Fed cut its target for the fed funds rate by 50 basis points (0.5 percentage points), from 5.25% to 4.75%. The move surprised many analysts who had been expecting a more modest cut of 25 basis points.
For those versed in the Austrian theory of the business cycle, as developed by Ludwig von Mises and elaborated by Friedrich Hayek, the aggressive Fed "stimulus" is ominous indeed. Not only will it pave the way for much higher price inflation than Americans have seen in decades, but it will also exacerbate what could be the worst recession in twenty-five years. FULL ARTICLE
Comments (27)
While I'm sure plenty of comments will be made about the article, and it is a very interesting one, I would like to express my continued amazement of the articles' introductory pictures. These are of such high quality and relevance, I just can't get over it. Keep up the good work, I look forward to the day I have the disposable income to donate.
Published: October 1, 2007 8:51 AM
When the Fed magically prints money to expand the money supply when it buys bonds, doesn't that also destroy the money that is the used to service the bonds, partially or completely offsetting the inflationary effect of the new money?
Published: October 1, 2007 10:16 AM
The Fed is not currently inflating in comparison to the demand for liquidity. Leverage is increasing (MZM) but the monetary base isn't much (at least not right now). Leverage is increasing in *anticipation* of additional Fed loosening. 13 Week T bills yield 3.62 vs. fed funds of 4.75 (and Eurodollar deposits yield 5.25), indicating both a worry about the banking system and an expectation that the short rates will drop over the next 13 weeks and an expectation of dollar depreciation should they drop.
Worldwide interest rates are likely to rise given the booms and the "consuming our capital" problems - at least until the bust and that's when government bond yields will fall. Bottom line, if everyone extends their consumption-time by consuming their seed-corn, real interest rates are going up a lot, devaluing former bonds.
How much interest rates rise, and the significance of the final correction depends on how much central banks "defer the inevitable" and make things worse.
Published: October 1, 2007 11:15 AM
Person - Nope - Buying a bond buys the par value, a significant boost to the liquidity needed for coupon payments ... until the bond matures of course.
Published: October 1, 2007 11:16 AM
In this context the formation of sovereignty wealth -found by China looks very interesting.
The money deposited by foreign governments are not included in money supply statistic. The main argument to support that policy is that these founds are for special purposes(1). This statement can be valid as long as foreign governments keep money out of the markets, however it seems that China is about to form 200bln$ found to "better allocate its resources" probably in US financial markets.
So it appears that these money will further contribute to inflationary pressures.
In the context of R. Murphy article, it seems that we have another factor that will contribute to "the worst recession in the 25 years".
Moreover, after recession take place, the FED will not be accused for this, but Chinese instead.
1.J. Solerno "The 'true' Money Supply: A Measure of the Supply of the Medium of Exchange in the US Economy", Austrian Economic Newsletter, Spring 1987, p. 4.
Published: October 1, 2007 1:58 PM
Poln, you're probably very correct and given the current attitude toward the Chinese that a great deal of the Americans feel, the turbulence of America's foreign relations with China could boil over.
That would truly be catastrophic and even the slightest indication of hostility from Americans to the China man could cause real inflationary pressures in the US markets given other variables coming into play.
Published: October 1, 2007 3:26 PM
This is another example of the propaganda skill of conservatives. They can't find a really good econ argument against China that holds the peoples' attention, so they opt for racism.
Published: October 1, 2007 7:28 PM
*Town mayor* - "THE CHINA MAN IS POISONING YOUR CHILDREN AND MAKING YOU DEFAULT ON YOUR MORTGAGES!
*Town citizenry* - "LIGHT YOUR TORCHES BOYS! WE'RE GONNA LYNCH OURSELVES SOME EGG ROLLS!"
Only in America.
Published: October 1, 2007 9:13 PM
"The Worst Recession in 25 years?" We should only be so lucky:
http://www.financialsense.com/editorials/casey/2007/0926.html
Published: October 2, 2007 8:17 AM
I had to buy a present for my niece at Kay Bee. i found a ridiculous baby Shrek doll that laughs when you press it's belly. the more you press, the harder it laughs. I made sure it was made in China so i knew i wasn't paying too much.
Published: October 2, 2007 9:07 AM
I agree that another round of credit loosening will promote rising prices overall. I also agree that reckoning will only be postponed or prolonged. I'm less inclined to agree that a recession is either imminent or destined to be severe.
My main point of disagreement is on the general, negative focus of the piece. If we are in agreement that central bank credit loosening will invite another asset price bubble somewhere in the world, shouldn't our focus be on personal financial survival? If so, shouldn't we be ACTIVELY LOOKING TO INVEST IN SUCH A BUBBLE in order to have our personal wealth grow at a rate faster than that of inflation (properly defined as monetary supply growth)?
Published: October 2, 2007 10:24 AM
Fed policy is politicized to make everybody coplacent while the military-industrial complex under Bush executes it's war against people in the Mideast who happen to live on top of easily accessable and useable fossil fuel. Eat drink and be merry. Much of the other "growth" which we are supposed to worship is founded on the other war against all things natural through technology in the "hands" of multinational corporations. The consequences of the economic recession you folks worry about will be minor compared to the environmental collapse that will inevitably result. Imposing free market ideology, idolizing thoughtless pursuit of material wealth without regard for nature or our brothers or sisters has created a totalitarian system that you don't even recognize.
Published: October 2, 2007 11:13 AM
Mises theory is just one. It's a good theory, but hardly the be-all-end-all. I would suggest to the author that Ricardian Equivalence Theory is a more accurate explanation, though Reaganomics and Republican tax shenannigans put a queer spin on the theory.
Ricardian Equivalence says that the business cycle IS natural. This is intuitive if you consider that many economic shocks are "acts of god" and outside the control of people. For example, the economy may be booming in the U.S. but the worst winter in 100 years could come along and destroy much of the agricultural crops, which could send the economy into recession.
When in recession, Ricardian Equivalence says it is prudent to take on deficits to stimulate the economy out of contraction, then when the economy expands, use tax revenues to pay off the debt. This was what the U.S. did from WWII up to Reagan and that's when it got messed up. Republicans saw the tax man as a boogeyman to the voters and this new logic came into being--NEVER pay off the deficits, because MORE tax breaks will expand the economy even MORE! Somehow it's been 25 years and we haven't expanded our way out of any deficit yet.
Published: October 2, 2007 12:03 PM
If that were true, Ted, then a graph of government debt level would have oscillated around a mean value for that time period; it wouldn't have trended upwards because surpluses in good times would roughly balance out deficits in bad times.
There's also another wrinkle, a specifically political one. Debt has to be serviced, and using debt in the manner you recommend does give certain demagogues an ax to grind. "Why should the rich be paid to keep us afloat?"
Published: October 2, 2007 12:48 PM
I actually had an extended argument along those lines last year, at the Austrian Econ Forum. I believe that some level of cyclicality would exist in business even under a stable currency, not only because of natural shocks, but also because of human nature. However, the presence of a central bank and fiat currency exacerbates the cycle, to the extent that most Austrian view the business cycle as an impossibility without central banking.
If I were to try and quantify it, I would say that cycles of scale 1-2 might exist because of human nature, scale 3-5 might be caused by technological shifts or disasters, and that the addition of central bank (mis)management elevates all of those to potentially 6-10.
Published: October 2, 2007 2:34 PM
My concern with the article is that it appears that those Austrians who discuss FFRs and the discount rate seem to approve of this system to control the economy as long as the interest rate is set at the proper level. The only problem is that no one knows what the proper level is. With all of the fiscal changes from congress and the bureaucracy the normal or natural (or what ever you want to call it) interest rate could be higher one day and lower the next.
Until we return to allowing interest rates to be driven by the market and then directly targeting the money supply (best based on a 10 year average for gold) we will have the ABCT taking us on a roller coaster.
I'm sorry but I don't think Murphy knows what the interest rate should so he can't make the claim that the FFR is too high or too low.
If we were in chronic inflation as we faced in the 1970s an interest rate of 10% could actually be too low.
I understand what Murphy is attempting to say but without giving us a better solution he actually simply reinforces the FED arguments.
Published: October 2, 2007 2:44 PM
George wrote:
"he consequences of the economic recession you folks worry about will be minor compared to the environmental collapse that will inevitably result. Imposing free market ideology, idolizing thoughtless pursuit of material wealth without regard for nature ..."
Goerge:
I respectfully disagree. I claim the government artificial skews preferences for ecologically detrimental technologies.
1) I have solar panels and the governments proffering of incentives actually appears to have driven the price of these devices up. I claim that offering rebates has stimulated an artificial demand for them and the prices have adjusted upward.
2) The US government has subsidized the highway system and the use of automobiles.
IMHO, men and women would be much better off riding to work on bicycles.
a) You will save about $300.00*12 = $3600.00
USD by using a bike.
b) Good health is a very big (economic)
benefit. No aerobic exercise == death!
c) The streets and highways would last longer
without the pounding of heavy traffic
d) The pollution from automobiles is almost
eliminated by swithing to bikes.
I could list a lot more reasons for resorting to bicycle transport but limited space makes that difficult here.
The idea market driven consumption is inherently rapacious or wasteful is not true. Beautiful parks and clean enviornments are an economic benefit worthy of investment. The notion that a central government planning agency is more perceptive than individual consumers is not true.
Published: October 2, 2007 2:58 PM
I agree with the post by Bill aka NO DooDahs! - up to a point. If there is going to be another bubble, we should be looking for ways to invest in it; and if there is going to be a depression, we should invest in companies that will stay in business and even prosper during hard times. Some companies (General Motors and DuPont come to mind) did quite will in the 1930's.
However, I disagree with this: "shouldn't our focus be on personal financial survival?" We should widen our horizons and think of other things besides survival. When I contemplate the economic future, I don't think in terms of buying gold and hunkering down. I ask myself, what would Edison do? He was born in 1847, and was in his twenties when the depression of 1873 began. He didn't let that stop him. He just went on with his career.
Other people did the same thing in the 1930's. Roger J. Williams lived on a shoestring and continued his fundamental research in biochemistry and nutrition. Vannevar Bush invented the analog computer or "differential analyzer" (1930); Edwin Land invented Polaroid photography (1932); Edwin Howard Armstrong invented FM radio (1933); Wallace Carothers and his colleagues at DuPont invented nylon (1935); engineers at GM were developing the first automatic transmission, introduced in 1939; mathematicians such as Hassler Whitney and Andrei Kolmogorov went on with their mathematics; and so forth.
Whatever happens, we should get on with our lives.
Published: October 2, 2007 3:08 PM
I meant quite well, of course, not quite will.
Published: October 2, 2007 3:16 PM
Wall Street and the Carry Traders are the only ones who are now bennefitting from the rate cuts. For those up to their eyeballs in debt, it's to little to late.
I think if you go scratch around in the historybooks of the Great Depression, you should find the types of businesses that faired well in that era. I'd look at investing in them. It should be consumer goods (have to haves, not nice to haves).
I wouldn't touch GM with a ten foot pole though, in terms of investing :-)
Gold and silver looks good. Speculating with the indexes (i.e. DJI, S&P) looks interesting. Follow the funny money! I'm not interested in actual stocks now. We're in dangerous territory!
Just a number...watch out for the Dow at around the 14560 level. :-)
Published: October 2, 2007 3:41 PM
Wall Street and the Carry Traders are the only ones who are now bennefitting from the rate cuts. For those up to their eyeballs in debt, it's to little to late.
I think if you go scratch around in the historybooks of the Great Depression, you should find the types of businesses that faired well in that era. I'd look at investing in them. It should be consumer goods (have to haves, not nice to haves).
I wouldn't touch GM with a ten foot pole though, in terms of investing :-)
Gold and silver looks good. Speculating with the indexes (i.e. DJI, S&P) looks interesting. Follow the funny money! I'm not interested in actual stocks now. We're in dangerous territory!
Just a number...watch out for the Dow at around the 14560 level. :-)
Published: October 2, 2007 3:42 PM
Huh? Sorry for the double post. Don't know how that happened!
Published: October 2, 2007 4:05 PM
Bill, Lyle and Jake,
Don't play the market timing game because you will almost always get burned. If you invest in the boom remember that you never know when the bust will come. This is the same with the price of gold or silver. Granted gold and silver themselves will be stable but unless you buy the actual metal the price of the stocks are subject to the changes in the value of the fiat dollar and once again you might lose at the drop of a hat.
Investing in the successful stocks of the Great Depression have a number of problems. We live in a different age, products are significantly different today. Also remember that may of the successful companies were successful because of government largess.
Invest in a good productive company that is satisfying the needs and wants of the people and you will find that your investment will beat inflation and will have a better chance of out lasting the bust.
Published: October 2, 2007 4:05 PM
*Town mayor* - "THE CHINA MAN IS POISONING YOUR CHILDREN AND MAKING YOU DEFAULT ON YOUR MORTGAGES!
*Town citizenry* - "LIGHT YOUR TORCHES BOYS! WE'RE GONNA LYNCH OURSELVES SOME EGG ROLLS!"
Only in America.
Yeah...about that whole holocaust thing...people killing jews because of banking problems...that was in America right?...because after all...only in America.
(That is unless you agree with that iranian psycho. Also I do believe whoever was killing the jews was allied with italy.)
Working Class Guy: Before you call for a ban on cars, it would be nice to have a honest review of the consequences of everyone switching to bikes. Lets make a list shall we?
1) Disabled/old people would be stuck at home.
2) People would have to live much closer to work. High population areas are never good places to live with the crime, disease, etc.
3) Would take many people much longer to get to work, so they'd have less time for family and relaxation which would lead to more stress and more stress != good health.
4) People would arrive at work exhausted, leading to lower productivity.
5) Good luck getting that tv home on a bike...
6) Perhaps if you'd ever lived in a hilly or mountainy area you'd see the obvious problems. My car can barely make it up some hills in Austin.
7) Thousands if not millions would be out of a job in the automotive, hydrocarbon industries, including me (you bastard.)
Yes I know Pope Gore has branded me a heretic of the Cult of Environmentalism.
Published: October 2, 2007 4:09 PM
Robert wrote:
1) Disabled/old people would be stuck at home.
My reply: This is a valid criticism. However some of thes disabled people do not drive anyway.
2) People would have to live much closer to work. High population areas are never good places to live with the crime, disease, etc.
My reply: Not necessarily, it is possible to put the bikes on the busses and trams.
3) Would take many people much longer to get to work, so they'd have less time for family and relaxation which would lead to more stress and more stress != good health.
My reply: I disagree; They are stressed out because they are in debt trying to pay for an expensive conveyance. Driving itself is nerve wracking
I was back in the Washington D.C. area and I saw a traffic report that the speed was only 9 mph on the Capitol beltway. That is really crazy since the beltway is a 4 lane highway (each way!)
4) People would arrive at work exhausted, leading to lower productivity.
My reply: Wrong! This is really false. The excercise will improve stamina. Robert, once you get used to it, to ride 20 miles on a bike is nothing. Heck there are men and women in their 50's who ride 100 miles non stop for fun.
5) Good luck getting that tv home on a bike...
My reply: You order the tv over the internet and have it delivered. Internet orders are usually tax free. Alternatively, you use a bicycle trailer. A good Burley or B.O.B will easily transport a TV. Actually, if you care to know, cat litter is the hardest and heaviest thing to transport by bike. I usually move about 75 pounds of the stuff at a time.
6) Perhaps if you'd ever lived in a hilly or mountainy area you'd see the obvious problems. My car can barely make it up some hills in Austin.
My reply: Austin is hilly? I live near the foothills of the Rocky Mountains. When I go up into the canyons, it's 12.5 miles forward and 3000 feet up. Modern bikes have excellent gears so climbing steep hills is not a problem.
7) Thousands if not millions would be out of a job in the automotive, hydrocarbon industries, including me (you bastard.)
My reply: Name calling does nothing to vindicate your point. I was merely pointing out in my previous post that Austrian economics does not predispose people to make anti-enviornmental choices.
Yes I know Pope Gore has branded me a heretic of the Cult of Environmentalism.
My reply: I am not in favor of the governement forcing people to get rid of their cars. If they want to overspend, be in debt and get heart disease, then thatbis their choice.
Published: October 2, 2007 4:48 PM
Jake and DickF - I just mentioned GM and DuPont as a reminder that it is *possible* for companies to prosper in a depression. I didn't mean to imply that those same companies would do well if there is another depression. We live in a different age, as DickF says. If you buy GM, don't say I told you to do it! :)
In any case, even if we have the worst recession in 25 years, or the worst in 250 years, some people will find opportunities and profit from them. It's better to be active, not passive.
Published: October 2, 2007 6:07 PM
Bill,
I would take issue with you on cycles. If there were a catastrophic event that struck most of the country, something I have not seen in my lifetime, there would be dislocation but this would not be a cycle.
Even at the micro level that might be ups and downs in individual industries but most of this would be in segments that would actually offset and so there would be very little at the macro level. Once again these would be individual events not cycles.
But even looking at the catastrophic the disruption would be minimal if the government was not involved.
For example Florida had two years of the worst hurricane activity in recorded history yet economically there was very little impact. The market took care of most of it. Even with all the whinning about Katrina it had very little macro impact and had it not been for stupid political moves as the state and local level there would have been limited micro dislocation as prices and private benevolence would have quickly dealt with the problem.
And if price gouging laws were changed so that the price system could reallocate resources disasters would be over very quickly.
Published: October 3, 2007 2:51 PM