Whenever we read or listen to someone’s opinion, we have to try to find out why that person thinks the way she or he is doing it. May there be a clear interest related to the topic? Would it be convenient to say something in particular?
If someone asks to a cranberry producer about the qualities of this fruit, it is obvious that the answer will be charged with good comments about the properties: It has antioxidants, it helps the circulatory system, among many others.
In the current situation, if someone asks a banker what perspectives there are about the upcoming economic situation, it is evident that she or he will answer that the worst has already happened. This person is practically obligated to give good predictions about the future because he or she needs that the situation does turn out to be that way. That is why we know the kind of answer we will get. Is the banker lying to us? More than that, I would say that we are asking someone who is too involved in the topic and cannot be impartial. In other words, we are finding the answer we were hoping to get.
In order to provide an example, we can make a reference to what happened with Bear Stearns, the same week before they had to get protection from JP Morgan. It was the president of the bank who denied once and again that they needed capital and kept assuring that the situation was under control. Was he lying to us? The best answer is to establish that “he could not tell us otherwise”. He was obligated to say that.
Nonetheless, the same situation happens with the Federal Reserve. Does anyone actually believe that the Fed was about to say, “honestly, the banks have little capital and we have done a lousy job”? There is no way that could have happened. That is why it was quite predictable that the Fed was going to say that practically all banks had got over the stress tests.
In general terms, there are a lot of people involved in the market who need us to believe in a dramatic way that the worst has happened and that the global economy is stable. And since these actors are quite powerful, they achieve to “convince” (or should I say “cheat”?) a great part of the global population. However…
The economic data shows that the worst is far away from saying that it has already happened. But instead of making lists of different information and their causes and consequences, I will concentrate in something that I think is the core: The American consumer.
The American consumer has been the artificial element in the growth of the United States (and as a consequence, of many of the global economies) of the last decades. How is this artificial? Because they spend a lot more than what they can afford. In order to do this, there must be someone who lends, to finance.
In this way, the American consumer is facing the current crisis with a level of a debt that has never been seen before. This is not only in absolute terms, but also as a proportion of the GDP. The next graphic is eloquent: All the American economy is dramatically in debt.
The level of indebtedness of the “households” or families was 18% in 1933, while in 2008 it reaches 27%. It is evident that the situation has turned out to be a lot more suffocating.
But, why am I focusing in this comment? Because what the American government is trying to do is to make their consumers spend again. They need it more than ever! Nonetheless, after living for entire decades with growing deficits, they have had to start adjusting. The question is: How? The only possible way is by saving money. However, if the consumers start saving now (a natural answer to this unbalanced situation), it will only intensify the crisis. Which makes it obvious that it is a crisis that instead of reaching the end, it is just about to start.
This post is tagged Economics, financial crisis
Miguel, your last line says it all; “it is a crisis that instead of reaching the end, it is just about to start.” The exhibited behaviours of decision-makers in government do beg the question, “Do these people really understand what is going on?” The behaviours also may beg the question, “what is most important to key government decision-makers; short-term myopic quick-fixes or long-term fundamental solutions?” Their actions can lead one to think that these people have been drawn into the dynamics of Shifting the Burden.
In a Shifting the Burden dynamic, decision-maker react to the symptoms of a fundamental problem, and these reactions cause them to look for quick-fixes that, on the surface, do appear to mitigate the impact of the symptom. And because they do ’see’ that their actions are doing something, they tend to apply the same form of quick-fix reactions for future symptomatic problems. Of course, they do the same when the same problem symptom surfaces once again – which it will because they have only treated the symptom and not the fundamental underlying problem. And because their ‘actions’ are seen to have done something, they never venture away from this type of thinking to address the real problem that is causing the symptom(s) to appear.
And if this is not enough, their perceived results cause them to become addicted to this type of reactive thinking over time, meaning that, for them, there is no way that they will ever be able or willing to get to deal with the fundamental underlying problem.
The fact that key government decision-makers have fallen into a Shifting the Burden mindset could be a sign that that the last sentence of your entry is spot on. This is extremely sad; not only for all of us, but for our children, and all of their children.
“We have inflation, because we belive we have inflation, and we belive we have inflation, because we have inflation” (Solow)…
What the quote means is that speculation is a strong ally or enemy. Learning to manage it is quite a challenge. It is obvious that no one really know the truth, but to speculate against an unfavorable economic condition will not resolve matters any more than lying about it. It is true that people need to start saving some money, but it is also truth that the costs of a consumption decline can me much more dreadful that the costs of low savings. There will be a time to save money and recover from this crack, but the time is yet to come…
I would have liked the author to make the article a little bit longer.
“Nonetheless, after living for entire decades with growing deficits, they have had to start adjusting. The question is: How? The only possible way is by saving money. However, if the consumers start saving now (a natural answer to this unbalanced situation), it will only intensify the crisis. Which makes it obvious that it is a crisis that instead of reaching the end, it is just about to start.”
I’m not sufficiently knowledgeable on economics and finance. I do not quite see how saving money would be a possible course of action for consumers. Rather, wouldn’t it be to simply use less credit and stick to what their income can afford them?
I do not see what makes it obvious that crisis is just starting. Because consumers will reduce expenses drastically and that it will intensify the crisis? That bankers and government are not being honest?
Perhaps it would have been better to add some numbers about consumer spending and credit borrowing, and compare to previous years and crises and conclude whether or not spending is decreasing towards a breaking point.
I think the article is good, but incomplete, it ended too soon, right when it made it’s biggest argument and didn’t provide conclusive proof.
Along the myth of the ‘end of capitalism’, the debt issue is one to be wary of amidst the discourses on the global crisis. However, I’m not so sure if politicians are only trying to fix symptoms. The debt is not going away in one night. It will remain with the United States, for instance, for a long time till is paid. The spending money strategy is thought out to avoid a full economic crash as in 1939 which would bring much costly social costs in general (refer to the graph it was the only way for the US to bring debt down in general). Perhaps the strategy of checks out to the people was neither the most intelligent nor the most effective way to face the downturn and did work only in a very short-sighted way.Nevertheless, the idea haunting most decision makers, from my own perspective, is to fix the problem of a contracting economy till it booms again in order to tackle down the debt problem. Whether decision makers and the public will remember the debt issue after the euphoria of having survived the ‘worst crisis since the 1930’s’ in order to start a savings strategy is still unclear but it will be a big mistake not to do so. Indeed the discourse of most government officials tend to be reassuring in order to sustain certain amount of confidence in financial institutions and the like, after all, as much as we dislike them now, have we come up with some other type of social institution to manage and deal with our money?
Very nice article. The problem is not falling consumption, the problem is unsustainable consumption over the past decade. And instead of acknowledging this and allowing a temporary downturn (I would here refer to the burst of the IT bubble), the Fed seems to see low interest rates as the solution for any potential economic recession. But with this Fed behavior (asymmetric in my opinion), saving has become unattractive and borrowing attractive. The problem is of course enforced by all the ’smart’ investment and borrowing constructions, but the key message is that I think that the current medicine (stimulating consumption) is actually the cause of the crisis…
Moreover, there is already such a large inflation potential in the U.S. (because of all the dollars that are almost literally dumped into the streets) that saving for a modes interest does not seem rational.
First of all, thanks so much for the thoughfull comments. I will reply below.
@James
Shifting the Burden. I just can’t remember the name of that archetype in spanish. But definitely yes! That’s what the US has been doing for the last decades: each time they faced the risk of recesion, they threw tons of money at the problem to get things back on the track again. I think there’s a good chance this won’t work. And the key is implied t-bonds rates are rising. Today’s action was impressive…
@Jorge
I think the market itself (market forces) will eventually push people to save. How? Through the price mechanism. Bonds are going down, and that will mean higher rates for Uncle Sam and (obviously), for the rest of us, mere mortals…
@Carlos
I didn’t want to make the article complete on purpose. Part of that reason is to have a discussion afterwards.
A shrinking consumption spending will intensify the crisis. Why? Because the US consumer accounts for 70% of US GDP. They are now losing their jobs, having their main asset (their home) experiencing a sharp decline on its price, and being highly indebted.
When you have an imbalance, you can’t just get away by printing money. At least not for ever. The US had much room for doing so because “it was the USA”. Try doing that in ANY emerging country and there would have been no chance of success whatsoever.
@Samuelis
Sometimes, debt does dissapear. How? When you have a bankruptcy like GM. The US Gov won’t go bankrupt but will have to print its way out of this mess. Why? Because they need to refinance 40% of its total debt by next year.
@Mark
I think you have summarize my idea in a great way. By forcing interest rates down, the did forced the US citizens to consume. But how is that possible? Somebody has to have “monetary illusion”. Somebody MUST be thinking that when the Fed prints money it’s creating wealth. And that is not true. And eventually (I think it is highly probable now), the reckon day arrives…
Ok, it is no surprise a government is playing with its citizens to make them behave in the way as they are supposed to and avoid all panic. But could anyone name me a government which doesn’t do that?
The other question is: isn’t the job of the media to filter through the information and offer the people both sides of the story and all the implications of the actions and reports? Only when the people have enough information one could expect they would behave rational. Reflecting back: this is another win for US propaganda and a loss for the independent media and the people.
Mr Boggiano,
Isn’t that just debt shifting not debt dissappearing?
Cheers!
@Aernout
I am really sure if they are just being “silly” and don’t realizing what’s going on or if they are in a sense colluding with the gov so as to continue the charade…
@Samuelis
When we hear about deleveraging what acutally happens is that wealth is destroyed. As plain vanilla as that. And this happens through different mechanisms. One is the contraction in the money multipliers.
Having lived through 2001 Argentine crisis, I can give a real life example.
John ows $100 to Paul but tells him. “Listen. I only have $30 to give you. Can we call it even?” And Paul agrees.
Then Paul goes to Michael and say “I only have $30 of the $100 I owe you”. And Michael also agrees.
Everybody owes to everybody in the world. But in large amounts. Delevearging is the generalized decrease in the amount of debt. I think we’re going there… at least to some extent…
@ Miguel:
As the government is chosen by the people; it should also prevent the people who don’t unsterstand everything instantly. Yes; there is a bigger picture and Yes it is also in the tax-payers advantage to safe these big companies. But you can’t tell me it is in the best interest to get the average Joe in even more debt, to keep a certain level of consumer spending. Governments have different ways to boost economies which do not rely on consumers spending borrowed money…
@ Aernout,
You are right from a theoretical and moral point of view. But as you see what is happening now in the US, it is actually in the best interest of the government to indebt their population even more to stimulate consumption. The US has entered such circle that only debt can pay debt back. In times like these, when it is impossible to pay debt back, we all see what the consequences are. Therefore you are right, it is not in the best interest to do it, but as I see it, there is actually no other possible solution right now. Because less debt means less consumption and less consumption means less possibilities to pay debt back..
@Neni
Certainly true that the U.S. has entered a circle which they can almost impossibly escape from (without a lot of ‘pain’). This however does not imply that the best solution is to enforce the circle. The Dollar has to (and will) strongly depreciate, and all those with US treasury paper will pay the bill. And since the Dollar can only depreciate strongly it is a wonder that the dollar is currently not depreciating stronger.
My point is that you can’t solve overconsumption by sustaining overconsumtpion. You can try to do that, but the recession will only be deeper in the future. Every day you postpone the correction that has to occur, the correction will become more painful. It is not the most pleasant scenario, and that might be why a lot people think that they can simply solve the problem with countercyclical Keynesian spending policies.