Comments (12)

• Already HyperInflated.

  The Fed has doubled the currency in 7 years. That is a 10% growth rate. I would consider this hyperinflation.

  The whole inflation computation is a lie. First the government uses a basket of goods to compute the inflation rate which is meaningless given consumers normally have lots of substitutes and lots of places to shop. Then there is China that cranking out cheap stuff keeping prices of most manufactured goods low.

  The government computes the data and there is no bias there?

  Lastly it ignores food and energy WHICH are two inflation dependent products.

  So the real inflation rates are very high. Fuel was as low as $1.5 a gallon and gold was under 300 after Y2k.

  Published: January 31, 2008 11:26 AM

• billwald

  It's the working class that has the big boom and bust, to a lessor extent, the small businesses and manufacturers. Our big owners may have the cash they can pull from their capital gains investments drop from $10 million to $8 Million. Breaks my heart.

  Published: January 31, 2008 12:14 PM

• mikey

  I am a subsistance farmer in a remote area.
  This year, I am using my seed grain to brew alcohol to cheer myself up and increase consumption thus stimulating the economy.
  The future seems bright.

  Published: January 31, 2008 12:41 PM

• Michael A. Clem

  I'm puzzled by one aspect of the article. Why does "optimism", "nirvana", and other terms of exuberance even enter into it? They can't or won't borrow unless the interest rates are low enough, no matter how much exuberance there may be.

  Published: January 31, 2008 5:19 PM

• pater tenebrarum

  "There is currently no indication that a severe downturn is on the horizon." - i would dispute that assertion. there is every indication that a most severe economic downturn is on the horizon. after decades of expansion of unproductive debt to finance consumption, and with a financial system that has piled leverage upon leverage as first the stock market bubble and then the housing bubble progressed, it looks like the time to pay the piper has finally arrived. in my considered opinion, the banking system is already insolvent. to wit, banks have moved extremely large amounts of assets into the level 3 category, which contains 'securities with no observable market valuation inputs' - they are evaluated via 'estimates' by the banks' managers. the reality of the situation is that these securities have no bid , and by observing the credit default swap indices on structured finance products we know for a fact that they are worth almost nothing ('A' rated ABX-HE indices trade at 20 cents on the dollar - with the BBB rated issues at 13 cents). the Fed is now naturally trying to pump, and the government resorts to the usual Keynesian 'stimulus' nonsense, but they may not be able to avert the credit deflation that has been set into motion. there are now few willing and able lenders, and few willing and able borrowers (there are however numerous desperate borrowers, who are racking up 'emergency debt' wherever possible, mostly via credit cards these days - the eventual defaults will rise to the extent that they can successfully go deeper into debt before blowing up - see recent earnings reports from CC issuers).
  my bet would be that a lot of 'money' will go back to 'money heaven', i.e. back into the thin air whence it came from. the fact that the central bank has embarked on a more or less openly inflationary policy is no guarantee that it will 'succeed'. no-one can deny anymore that e.g. house prices have begun to fall sharply, and houses and commercial property are the collateral for approx. 64% of all bank assets. the write-downs we have seen so far are the tip of the iceberg. with banks increasingly capital-impaired, the credit creation machinery breaks down. in theory the Fed could radically alter its modus operandi and begin to permanently monetize defaulted debt, or begin to buy up deflating assets. there are however reasons to believe that such steps are not likely to be implemented, at least not soon. after all, if the central bank destroys the currency it issues completely, it loses whatever power it once had. the owners of the Fed may have a word or two to say about the matter as well. why would they deliberately destroy the racket that has served them so well? note that all the Fed pumping in the early 1930's could neither keep the money supply from actually contracting, nor prices from falling sharply. this in spite of the fact that free bank reserves were pumped up by 400% in 1929-1932.
  so the most likely road the Fed will take is monetization of government debt, but this may not be sufficient to counteract the looming private sector credit deflation. eventually the central bank may be politically commandeered to 'do more', or may resort to doing so when it senses that it is about to be commandeered. if the economic downturn becomes severe, we will likely see intervention on a scale that hasn't been seen in many decades. this guarantees that a severe downturn will last very long and become much worse than it otherwise would need to be. as a recent example, look at Japan's fiscal and monetary interventionism since 1989, which has mired that country in a permanent 'depression-lite'.
  the Fed is currently panicking for a 'good reason' , at least from its own PoV. the banking cartel which it oversees is in dire straits. i don't think Soros exaggerated - this is indeed the worst credit crisis of the post WW2 era. considering how dependent on credit growth and asset bubbles the economy has become in recent decades, a bust to liquidate the associated malinvestments will have to be severe indeed.

  Published: January 31, 2008 6:11 PM

• David

  Just a heads up to the readers of this post; there is a related discussion going on at the Time magazine blog that you might want to look at.

  http://time-blog.com/curious_capitalist/2008/01/ricardo_hausmann_calls_for_an.html

  I think that a lot of the readers there might actually buy into the idea that the Fed should be fighting back recessions and depressions through inflationary tactics.

  Published: January 31, 2008 6:40 PM

• cipher

  Rather than deporting "millions of people" - which is to say millions of foreign "workers" - how about directing them instead to take up residence in the author's neighborhood and home town. Or better still his backyard and garage. He could then fund their insatiable appetite for "public goods" straight from his own pockets, bend his hard-earned lifestyle to their and their advocates' every whim and demand, teach them some Libertarian philosophy (after first teaching them to read English), and maybe even get his house re-roofed at a cut-rate price!

  Published: January 31, 2008 7:53 PM

• Nelson

  cipher, I sense hatred in your post.

  Published: January 31, 2008 9:38 PM

• Nelson

  The article is a good one. It's sad, but when I heard of the stimulus package I was relieved. Not because I think it will work, but because congress could have done a lot worse. Time is the main cure for the downturn. Let the housing prices fall back to normal. Don't inflate the currency.

  Published: January 31, 2008 10:11 PM

• David J. Crouch

  In my opinion Mr. Tenebrarum has hit the nail on the head.

  The fed has and will continue to pump in a massive amount of liquidity in order to shore up the balance sheets of many of our largest financial institutions. They will do this by monetarizing the bad debt that these institutions currently hold. They will buy this bad debt for far, far more than its actual market value and call it a fair trade. This of course is nothing more than fraud on a stupendous scale. But since the government is doing it is "ok" in our society.

  This additional liquidity and credit that the fed is creating out of thin air...and backed by nothing more than really bad debt...will NOT be available to us everyday people. As a result interest rates will remain very low but actual credit availability will probably be pretty scarce for everyone other than politically protected institutions and individuals. This will significantly retard real economic growth in the future.

  This fed strategy may still not work and a giant deflation in some asset prices is a very real possibility. However it would be relatively short, swift and just.

  Another scenario is that the current fed strategy "works" albeit temporarily. This will result in a massive transfer of wealth from savers to these large, financially vulnerable financial institutions and a significant loss of purchasing power for the general public. In a truly moral society this would be considered a crime.

  We will see which way it goes.

  Published: February 1, 2008 10:31 AM

• nemo

  Clifford Thies makes some valid points when saying that we cannot predict (no matter how clear the signs).
  We will never know the future as it depends on too many factors unknown to us or unseen by us (in the present). Gloom and doom as their opposite are worthless.

  But I would like to point out that two assumptions Clifford Thies makes in evaluating the situation are evidently wrong.

  1. Clifford Thies bases his evaluation on government numbers for inflation. We know that theese numbers are meaningless.
  http://www.shadowstats.com/

  2. Clifford Thies bases his evaluation on government numbers of unemployment rate and these are also wrong with real unemployment being more in the range of 12-14%.
  http://www.weedenco.com/welling/Downloads/2006/0804welling022106.pdf
  http://www.cepr.net/documents/publications/sweden_unemployment_2007_06.pdf
  

  Published: February 1, 2008 1:45 PM

• Abhilash Kumar

  Governments across the globe are using Keynesian stimuli to revive drooping economies. Even George Bush and now Obama has presided over the greatest stimuli in US history, with a projected fiscal deficit of $ 1.2 trillion and monetary injection of almost $ 2 trillion by the Fed.

  But is the recession Keynesian? Trillions of dollars of stimuli have failed to end the downswing. Keynesians argue that even trillions are not enough. Really?

  The current recession looks more Hayekian than Keynesian. A Keynesian recession represents a sudden fall in demand, and can be remedied within six months by pumping enough purchasing power into the economy. A Hayekian recession, however, is caused by misallocation of resources over a long period, driven by unrealistic interest rates, ending in a bust that requires years of structural adjustment. Such a recession can last a decade (as in Japan in the 1990s).

  The many recessions between World War II and the oil shock of 1973 proved amenable to Keynesian remedies. But 1973-80 witnessed a Hayekian recession, caused by excess pumping of money into economies in an attempt to stimulate them. Rising trade union demands meant that the stimuli translated into higher wages and inflation, not higher production. After this era of stagflation, economists could hardly utterly the word “Keynesian” without a snigger—it had become a joke.

  However, the recessions of 1991 and 2001 were mild affairs remediable by Keynesian stimuli. Keynes was back in fashion. So, when the subprime mortgage crisis hit the US in 2007, it responded with Keynesian nostrums. But to no avail.

  Politicians want to be seen as quick and effective. They love Keynesianism, which puts them in the driver’s seat, allowing them to portray recessions as caused by greedy business villains, and paint themselves as rescuers.

  But Hayekian recessions occur when politicians themselves distort the economy for years, creating misallocations of resources that ultimately prove unsustainable. The consequent bust cannot be ended by pumping in more money. Rather, the entire economic structure must change to correct the historical misallocations, and make future growth sustainable. This involves wrenching changes in individual, corporate and political behaviour. Neither the public nor politicians are quick to acknowledge a Hayekian recession. They would rather hope it is Keynesian, remediable by pumping in more money. Yet at some point somebody will surely declare that Emperor Keynes has no clothes.

  The current recession is deeply structural. For a decade, the US has run the biggest trade deficits in history, matched by corresponding trade surpluses of China, OPEC, and other Asian countries. After the financial crisis of 1997-99, many Asian countries swore to build large forex reserves to avoid another debacle. So they deliberately undervalued their exchange rates, ran large current account surpluses, and so generated large forex reserves. This had to be mirrored in correspondingly large current account deficits in some other countries. The biggest turned out to be the US.

  This defied conventional economic logic. Normally, rich countries run trade surpluses, and send their excess savings to poor countries with scarce capital that are running trade deficits. This normality was turned on its head by Asian countries determined to build large forex reserves after the trauma of 1997-99. These forex reserves went mainly into US gilts.

  Suddenly the world was flooded with money. The US trade deficit sent a flood of dollars into Asia and OPEC, which then flooded back into US financial markets, mainly through forex reserves. Bernanke called this the Asian savings glut. The flood of dollars drove down long-term interest rates, especially in the US, and drove up asset prices. It became highly profitable for Americans to borrow cheaply to invest in houses, stocks and commodities. Even when the Fed raised short-term interest rates in 2006, long-term rates remained low because of the flood of money from Asia. Innovations in the US financial system, some productive and some mere con-games, encouraged leverage by everybody—individuals, corporations, banks, speculators. This was classical Hayekian misallocation.

  This misallocation yielded mouth-watering short-term gains. It proved a huge stimulus for the global economy, which grew at its fastest rate in history in 2003-08. Record US trade deficits sucked in record imports of manufactures from Asia and oil from OPEC. Asia in turn bought record quantities of commodities from Africa and Latin America to be converted into manufactures for export. Thus the whole world economy boomed as never before, and so did asset prices.

  Yet the boom was patently unsustainable. American households, who historically saved 6% of disposable income, started saving nothing at all, and dipped into their wealth to spend as never before. Today, this seems terribly irresponsible. Yet the boom had hugely increased the wealth of Americans, and it was logical for them to spend part of this wealth. The spending spree was subsidized by artificially low interest rates, which also generated bubbles in the markets for houses, stocks and commodities.

  These bubbles have now burst. A Keynesian stimulus amounts to an attempt to re-inflate those bubbles. That is neither practical nor wise. The US government in 2008 mailed $ 80 billion to households to stimulate spending, but households spent only $ 12 billion of that and saved the rest—they knew, even if politicians did not, that the old spending spree had to stop.

  The world—and Asia-- must accept that the global boom of 2003-08 was based on an unsustainable economic structure. In future, Americans will have to save much more (and export more), and Asians will have to consume much more (and export much less) to end existing global imbalances. This Hayekian adjustment, which started in 2007, may take years to complete.

  So, the global—and Asian—economy may not revive in mid-2009. Even if it does, the recovery may be so weak as to count for little. Hayekian theory suggests that we may have to wait till 2010 or 2011 for a sustained economic bounce. One ray of hope: the current recession may be partly Keynesian, even if mainly Hayekian. That may diminish its travails.

  Published: February 11, 2009 11:39 AM