On Sunday, we celebrated America’s independence from Britain.
Having just come from London, it’s hard to see what the fuss was all about. The English seem like decent people. The queen still has her dignity. The British government seems no worse than its American counterpart. And David Cameron appears to have a much better idea of what he is doing than the Obama team.
Cameron is calling for ‘austerity.’ He wants the British public to make sacrifices so that British public finances can be brought back under control. We have some doubt that he will succeed. As far as we know, no democratically elected government has ever been able to reduce its debt burden DURING A CREDIT CONTRACTION. A number of governments – including the US and Britain – managed to reduce their debt in the ’80s and ’90s. But that was when their economies were booming. As long as the economy is growing faster than the debt, the burden of debt will decline as a percentage of GDP. The ’80s and ’90s were boom years. Credit was expanding. People were buying more and more things they didn’t need with more and more money they didn’t have.
Obviously, that kind of boom can’t go on forever. And when it came to an end in 2007 it changed the financial picture for governments as well as households and businesses. Tax revenues went down. Expenses went up. And so did the bailouts and boondoggles that they call ‘stimulus’ spending.
As deficits rise, so does debt. And so do the voices who tell us that debt is nothing to worry about. Those voices – led by Paul Krugman at The New York Times – mention the debt decline of the ’80s and ’90s. They say we can “grow our way” out of debt this time, just like we did the last time.
Here at Markets and Money we don’t rule out anything. The day is long past when we said anything with absolute, unshakeable conviction. Today, even when someone asks us our name, we check the initials on our undershirt just to be sure.
Might the US and Britain ‘grow’ their way out? Well, anything is possible. But two things make it unlikely. As we said above, we’re in a credit contraction. It’s part of what we call the Great Correction. Growth rates are going to be low…and occasionally negative. US government deficits, on the other hand, are scheduled to be over 5% of GDP from here to kingdom come. And if David Stockman is right, they could stay over 10% of GDP for the foreseeable future. Stockman is the former head of OMB during the Reagan Administration. He predicts deficits as high as $2 trillion per year, thanks to a weak economy and strong spending by the feds.
The second thing that makes it unlikely that we will be able to grow our way out of debt is the composition of the economy. More and more of it is under the control of government. ‘Growth’ in this economy is largely phony. It reflects activity. But not prosperity. The activity, therefore, is not the sort that you can tap to pay down your debt. Instead, it adds to the debt.
You can see how this works just by imagining what would happen if the feds hired a million census takers. The economy would appear to ‘grow’ – maybe even faster than the debt. But the economy itself would be hollow and less able to sustain the debt burden.
The other example used by Krugman et al is WWII. At the end of the war, US debt was equivalent to what it is today, as a percentage of GDP. “Hey, what’s the big deal? It didn’t do us any harm then,” they say.
But the federal government was actually in a much stronger financial position back then. While it had about the same official national debt, it faced almost no off-the-books unfunded liabilities, financial guarantees, and open-ended commitments. The last time we looked, these off-balance sheet debt items – such as for health care programs – totaled more than $50 trillion.
And then, there’s the private sector debt too. That’s about $50 trillion too.
How much net private debt was there in 1950? Almost none.
In the post-war period we were in a different stage of the credit cycle. People were just beginning to spend. They didn’t have a mountain of debt. They had a mountain of savings!
Yes, dear reader, people made sacrifices during the war years. They had put off consuming. Then, soldiers came back from Europe and the South Pacific with pent-up demand, and real savings that they could put to work. So, the economy was ready for a credit expansion, not a contraction. People had lived through the lean years. Now they were ready for some fat ones. The economy too was ready to rock and roll. It had been converted to a war footing. Now it was ready to meet consumer demand.
This is the opposite of the picture today. Few sacrifices were made over the last 50 years. Instead, the last 5 decades were a time of increasing extravagance. That’s why sacrifices are necessary today.
Households are only now beginning to cut back. Governments in Europe are cutting back too – or so they say. And under the sway of Krugman and other neo-Keynesians, the US government continues to run huge deficits…hoping that the debt will be refinanced and repaid, as it was after WWII.
But probably the nicest thing about after WWII was that there was an AFTER WWII. The war had a beginning and an end. When it was over people were finally able to get on with their lives. The economy was ready to switch to a new phase too – from making tanks to making hot water heaters. And, finally, governments could stop borrowing and begin repaying their debt.
The major trouble with today’s struggle is that there is no end in sight.
Americans may have fretted a bit over the holiday weekend. The news has been bad. At least, if you regard a correction as bad.
California is cutting its payroll and putting others on minimum wage salaries.
Illinois has run out of money and stopped paying its bills.
The stock market is going down. Bond yields are at record lows.
The housing credit has expired. The clunkers have all been crushed. Census workers are being awarded medals for counting above and beyond the call of duty…and sent home.
The feds’ stimulus didn’t stimulate…their recovery didn’t recover…their counter-cyclical fiscal policy didn’t counter much of anything. And now it’s all running out…and we’re beginning to see the word ‘depression’ used to describe America’s malaise:
“Dow repeats Depression pattern,” says an item on CNBC.
US “trapped in Depression,” says a headline at The Telegraph in London.
Consumer bankruptcies are at their highest level in 5 years.
Houses aren’t selling. Retail sales are down. Factory orders are falling.
And the cruel Senate told those whose unemployment benefits have run out to ‘go fish.’
“Recession Jolted Most Americans into Cheaper Living,” said a recent Bloomberg headline.
That’s what you’d expect in a Great Correction. But who expected a Great Correction? Not many people. Instead, most expected a recovery.
Whatever is going on, a recovery is not it.
There were fewer jobs at the end of June than there were at the beginning of the month – 625,000 fewer. The Labor Department reported that the unemployment rate went down to 9.5% but everybody now understands that the numbers are fraudulent. The feds are just disappearing people from the unemployment rosters. In fact, they dropped 1 million Americans off the list in the last two months. These people are not ‘actively’ seeking employment, they say.
But it now takes 35 weeks, on average, from losing a job to finding a new one – if you’re able to find a new one. That’s about half again as long as it took in the worst job market of our lifetimes, during the late ’70s.
With five people available for every job opening, naturally, a lot of people don’t find work and give up. Bad odds.
We only actively looked for a job once in our lives – in the early ’70s. We had gotten out of college. It was time to start a career. So we looked in the paper for jobs in journalism, for which we were completely untrained. We saw an opening in Washington, DC, at a newsletter company. We put on a suit and went for an interview.
The interview went well. But we didn’t get the job. They wanted someone with a better haircut or a better resume. Either way, it did not look like job hunting was going to work out for us. Fortunately a friend needed help. He paid $100 a week. That wasn’t much. But it was a start. We stuck with him until we were able to start our own newsletter company.
Pity the poor people who are looking for a job now. Nearly 8 million jobs have been lost in the last 3 years. Many of those jobs will never come back. Recovery? Forget it. Who’s going to build McMansions ever again? No one. They are relics of the Bubble Age…historical artifacts – like a Chrysler Imperial with huge fins from the ’70s…
But wait…it gets worse. Because even people who are working are earning less money. Hourly wage earnings are falling.
Hey, maybe China will get out of this slump? No, China’s economy is slowing down. And Ken Rogoff says its real estate market is beginning to collapse.
Fortunately, (and here you see our Markets and Money sunny side coming through the clouds) a great correction is just what the country needs. Remember, you can’t make bad decisions good or make debts disappear. You have to work through them…write them off, pay them off, default, foreclose, Chapter 11 or Chapter 7. That’s what we have corrections for.
Best to get on with it…
And more sunny thoughts…
Earnings in the private sector in Britain are falling at their fastest rate ever…down 1.1% in the first quarter of the year. Meanwhile, the economy is in a ‘savage’ recession; GDP growth was negative by 1.9% in the first quarter, the worst performance in 30 years.
Willem Buiter, a former member of the Bank of England’s Monetary Policy Committee, said: “The economy will be shrinking into next year. We’ll be in recession and have sharply rising unemployment for the next year or year-and-a-half.”
The purest and most obvious zombies are criminals. They make no pretense about it. They’re out for blood.
But what’s interesting is how the pure zombies work hand in hand with the poseurs. You put a zombie in jail, for example, and before long the prison system – guards, suppliers, builders, administrators, unions – has become zombified, lobbying the state legislature for more laws, more criminal penalties, and more prisons. America has more prisons and prisoners than anywhere on earth. Why is that? Is it because Americans are worse people? Or is it because the correctional system has become a vast zombie gulag, leeching on the rest of the society?
We saw an example of this kind of symbiotic zombification in The International Herald Tribune over the weekend. Chicago has no money. It also has a lot of young people who like to shoot at each other. So, the city hires full time counselors to work with ‘at risk’ youths…one on one…accompanying them to school and to the store and so forth.
The counselors are supposed to help keep the hoodlums from going off the rails. Whether they succeed or not, we don’t know. We just notice how the system drains blood from the real economy into an activity that may sound worthy, but is really just a conspiracy of zombies.
An even more outrageous example comes from England, recounted to us by a new friend, an English lawyer:
“There was a famous case a few years ago. Two boys, I think they were only 10 years old, snatched a two-year-old from his mother at a mall. They marched him into the woods. They used an iron bar to bash in his head. And they mutilated him in some way that was never described to the public.
“These were very nasty boys. They planned the whole thing. After they killed the child they laid his body on the railroad tracks…where it was discovered. And then, the local people were horrified, of course. They put flowers on the railroad tracks to mark the site. The killers – who hadn’t been caught yet – joined the mourners. Cold blooded. It’s on videotape.
“Finally, the police caught them. One of the boys cracked and confessed.
“But what happened next was bizarre. The criminal justice system rose to defend the boys in the most remarkable manner. Since they were minors they couldn’t be tried as adults. Instead, the legal establishment soon turned these monsters into ‘victims.’ They were appointed custodians, and counselors, and lawyers, of course, all paid for by the government. And the government provided full care…including schooling, of course, but also television and toys. Since they were underage, they could only be sent to a kind of reform school. But they only stayed there for a short time. Because the people of Liverpool were so incensed, the murderers got death threats. So they petitioned for something like the witness protection program, where their identities were changed, and they were to be supported by the government for the rest of their lives – even after they were no longer in government custody. You couldn’t even find out what happened to them. They could be living next door to you and your children.”
for Markets and Money