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The bank panic
Posted by Jerome a Paris on September 29, 2008 - 10:10am in The Oil Drum: Europe
Banks are not to be trusted. This is not just the view of the public and policymakers, but that of the banks themselves.
And indeed, the most notable thing over the past year has been the general mistrust amongst banks, and their reluctance to lend to one another. This graph shows a direct indicator of the level of defiance between banks:
Via Mish
-- Initially posted on European Tribune, where we've had many good threads on the financial crisis and the bailout.
The TED spread can be used as an indicator of credit risk. This is because U.S. T-bills are considered risk free while the LIBOR rate reflects the credit risk of lending to commercial banks. As the TED spread increases, the risk of default (also known as counterparty risk) is considered to be increasing, and investors will have a preference for safe investments.
As the FT notes:
As someone on European Tribune noted a while ago, banks started looking at their balance sheets last August, suddenly decided they did not like what they saw, and went through the following process: "We've been wiser than others, so if our balance sheet stinks like this, we don't even want to know what those of other banks look like - but we'll stop lending to them." Interbank lending froze up then, and has never really recovered - it just gets worse at each new seizure of the markets, and the current situation can only be described as critical.
If lenders demand huge spreads for such short periods, they are either tightly constrained in their ability to lend, deeply concerned about the solvency of counterparties, or engaged in predatory behaviour. Whichever of these possibilities is true, credit to the economy will dry up.
This one shows what's happening with euro bank credit risk
Banks are hoarding all the cash they can (avoiding new deals, not renewing facilities that come to an end and would in normal times be extended, and now even trying to find legal - if not necessarily very proper - ways to sneak out of existing commitments), both because they need it for their own basic needs, and because they simply don't trust the risk represented by other banks.
And given that at any time a bank makes a loan to a customer (at least for big corporate deals), it borrows the same amount of money on the markets, the fact that the interbank market, ie where that borrowing part takes place, is frozen can makes it difficult for banks to continue with the lending.
Those that still have access to liquidity are paying an increasingly high price for it (the above represents the price the best banks have to pay - its even worse for most others). Others have to make do with ultra short central bank liquidity lending, but you cannot run your ordinary lending activities (which rely on 3-month or 6-month funds) on overnight funding at punitive rates.
Thus, credit to the economy is drying up. Corporations often had a good balance sheet, and lines of credit that were available to them at good conditions, but these are either used up or expiring as time goes by. They are no longer renewed, and the pressure is building up for companies to start scrounging for cash.
In the financial world, this is bringing about a grand de-leveraging (ie the infamous tide that supposedly lifted all boats is moving out rather brutally, and we're seeing, to mix maritime metaphors, who was naked under the water).
- The players that had low risk, low cost funding, high volume investment strategies are stuck as the low cost bit has disappeared; they have to stop their business; some have come to trouble in the process, but this is a liquidity issue and they might be saved by central bank intervention;
- those that had high risk, low cost funding, high(er) returns are quite dead as the high risks happen to have been (really) bad risks. The disappearance of low cost funding is, to a large extent, irrelevant to their situation.
The trouble is that the two cases are often hard to distinguish, because they are engaging in the same behaviour: they are trying to sell assets: in one case, to reduce their (now expensive) borrowing requirements, in the other to raise cash to plug holes in their balance sheet or to get rid of the toxic stuff.
And banks have realised that, in the best case, they belong in the first category (they are highly leveraged, borrowing amounts many times their own capital to lend them again) and, it seems, in many cases they look like members of the second group - and there is no way to know which (and banks often don't even know in which category they are themselves!). rdf provides a good analogy for what financial products look like these days, and how hard it has become to truly understand what they're worth, but what is even scarier is that the underlying assets that underpin all the financial bets made about them are turning sour, as the housing markets continue to fall and the economy grinds down to a halt.
So, while banks have frozen in the fear that they no longer understand what they and their colleagues have been doing, their core assets are turning bad and, in a chain reaction, will pollute all the financial bets made on them, ensuring that the banks' current fears turn to reality.
from an earlier Martin Wolf column
Banks are paralysed because they don't know how much bad stuff they have. Can it be better when they know that they really have a lot?
Thus the Paulson plan is unlikely to help much if it does not deal with the assets at the bottom of the toxic waste pile: not even the mortgages, but the houses themselves. The only way to do this would be to actually buy the houses, to prop up their prices, but this would cost rather more than $700 billion, and would bankrupt, for real, the government.
Fundamentally, house prices are out of whack with any realistic capacity of people to pay for them, and these must converge again. Apart from falling house prices (and the ensuing collapsing house of cars built on top of it), the only way to do this is to increase incomes - not those of people that own several homes, but rather of those that are trying to own one.
The bottom for houses, and for the banks, & nbsp; which fundamentally ride on them, will be reached when incomes - for the majority, not for the few - catch up with them. Governments should work on that, with simple ideas:
- re-regulate labor markets, in particular with increases in minimum wages, and with actual enforcement of existing rules;
- launch a massive public investment plan in, for instance, public transport infrastructure, housing thermal insulation and renewable energies;
- make banking boring by limiting leverage and eliminating banks that are "too big to fail";
- and increase marginal tax rates significantly to pay for it all.
Who knows, it might save a few banks - and investors - along the way. Note: I also made a proposal elsewhere for a National Investment Bank. To those who ask why we write about the banking crisis on TOD: a response is that the good policy answers are surprisingly similar to those for the energy crisis, whereas the easy political answers to the financial crisis are likely to make good energy policy that much harder.
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I would argue that there is an additional connection to the energy situation. The higher price of fuel and the resulting higher price of food are making it more difficult for individuals to pay back their debt. These individuals have less discretionary income, and this reduced discretionary income leads to more defaults on business debts.
Governments can re-regulated labor markets and launch massive public investment plans, but they will need to keep ramping up their efforts, as oil becomes more and more scarce, and people spend an increasingly large share of their incomes for smaller amounts of energy.
Gail what a lot of people don't understand is that this huge debt pyramid probably represents 70% of our world economy on a per dollar basis while the real economy i.e manufacturing food etc only represents 30% of the world flow of money either in cash or debt.
However this 30% is responsible for producing enough goods to pay the interest and some of the principal on the debt economy. Monetary inflation is used to hide this massive imbalance.
I'm sure your aware that the debt economy is leverage 10:10 - 50:1 what this really means is at best every ten dollars of debt generates 1-2 dollars of real product annually thus my generous 70-30 split.
Now where peak oil comes into play is to manage this ever growing debt pyramid the real economy has to grow enough to pay interest and at least a token payment on principal. Peak oil subverts this and the real economy becomes focused on it main purpose i.e producing goods and services to survive this year this month or this week.
The real economy i.e staying alive has become a margin account in a sense for the bankers.
It used to produce 105 dollars for every 500 dollars of debt and 100 dollars of money now it produces 99 dollars for 105 dollars of real money and 1000 dollars of debt.
What peak oil has done has shifted this 100->105 to 105->99 this small shift has eliminated the ability to pay interest on debt and the debt pyramid comes crashing down.
Now for people that think this means cheap oil from demand destruction I have to ask why ?
All I see for some time is that people will default on debt because the other half of the equation is that the profits from the real economy where primarily used to pay debt to the tune of 10:1 i.e for many people 90% of their net income went to debt payments. As they default they can readily pay the negative balance for energy and food.
Look around you.
Right now you see banks losing trillions of dollars yet the real economy shows unemployment up by 2-3% durable goods down by 5% etc well in line with the effects of peak oil. Certainly long term the collapse of the debt pyramid will start taking out businesses and lowering wages but until people are spending say 50% of their income on living expenses not servicing debt then the real economy will chug along. The debt economy will be blown out well before then but so what ?
Seriously its just bankers being taken out and people with long term debts like mortgages.
Big deal I mean seriously who cares ?
For the little people its only people with mortgages or expensive cars or lots of credit card debt that eventually will default but its not the end of the world. Our much smaller real economy will chug along and the will get jobs producing real goods and services and pay whatever they have to to stay alive all they won't do is take on massive amounts of debt.
And of course we don't really need that many bankers at this point. Checking accounts and simple savings accounts work just fine for everyone people and businesses.
Yes I agree with memmel. It sounds cruel, but the right thing to do is to let more banks fail and more people lose their homes. There is over capacity in both housing and the financial industry.
Where investment is needed is the energy industry. Bailing out bankers and home owners will reduce the capital available to the energy industry. Where it is needed most as we are at the beginning of a serious energy crisis.
Of course this is exactly the opposite of what the government is preparing to do. It might be a good idea to prepare for some serious hard times now.
Increasing stocks of vacant housing deteriorating while the number of homeless grows. Not a very pretty picture and to my mind not a very rational outcome.
That's not what I'm advocating.
There's a surplus of housing. Let the prices of houses collapse. Then even poorer people can afford them and there's no need for a growing number of homeless people.
It's the government that has made house prices artificially high, and is trying to keep prices high with their bailout proposals.
The gov could buy defaulted houses and rent them to the needy. In the UK there used to be a huge social housing program. It sort of worked. If it had a weakness, it was that local councils [who administered it] also had a duty to house the homeless, so bad neighbours were always housed somewhere, rather than being shipped to the colonies etc. Same problem with US 'project' housing I suppose.
Then Reaganomics arrived..
The way I see it, the problems are that the vacant houses (and houses in general) are really big - much bigger than is appropriate for an average family.
I have a two-pronged solution for this.
1: Eliminate laws on minimum lot and house sizes and gut the laws against how many people can live in a house (100 sq. ft. per person seems like a good legal limit).
2: Have the government buy up a small number of houses and convert them into apartments (perhaps half a dozen low income units can be made from a single 3,000 square foot house). Transfer a substantial amount of money to the local government to pay for the extra infrastructure needed (larger water lines, more power plants, more telephone lines, etc). Finally either rent them out directly to the public or have them go condo with the stipulation that no one can simultaneously own one of these condos and any other piece of real estate at the same time.
I think you will see better results in having a single-family own the home and rent out bedrooms - the traditional boarder model. Though rarely seen today, this model still exists to a small degree, and certainly a converted bedroom, gameroom, or such could include a kitchenette, and have a private entrance.
I know, having rental properties myself in "owned" neighborhoods, that the owner-homes are much better taken care of than rental homes by the tenant (and maintained by the owner versus the landlord). Aggressive HOAs will fight any plan to revise usage, but the bigger problem is perception. These sorts of properties would do fine in a campus-area of town, but nobody wants to be the first to try it in an upscale neighborhood.
There are still many duplexes, though, and even dividing a house in half would work for many smaller families or single people. I'm encouraging my kids to buy duplexes as their first houses, and rent out the other half at a profit to reduce their expense. It's readily possible here, at least.
"There is over capacity in both housing and the financial industry."
I find this a very strange idea with respect to housing. The best sense I can make out of it is that you mean there is over capacity to support the current price of housing. But if you consider that the cost of housing is likely to return to its historic trend line (and below by way of over-correction) as I do, then the idea that capacity should be reduced to stabilize prices at an inflated level is rather wrong-headed. I suggest there is lack of recognition of just how much of a bubble we have in housing.
I mean there has been a misallocation of resources. Too many home builders and investment bankers, not energy production, not enough hi tech companies working on break through energy production technologies.
Perhaps we are in agreement on this point.
We do agree on many of the dynamics. You're way of stating misled me. What I see from my perspective is a shortage of housing. If it were not so I could be buying a house rather than building my own. As owner-builder, I suffer greviously from govenment regulations but see them as part of the vested commercial interest's way of increasing their profits. Government is merely their servant.
For quite some time now, the household size in the US has been getting smaller. This is one of the big drivers of demand for more housing. Fewer people in larger houses, the affluent suburban dream, is not consistent with peak oil. It's hard to imaging household size getting much smaller - rather, as economic times get tougher and more people choose to live with their family or friends for longer periods of time, it will take even longer to work through the excess housing inventory that sparked the credit crisis.
Go Memmel!
Pull the plug on the crooks!
Go for the throats of the fat thieves.
(see down-south's yestyerday excellent
review of Roosevelt's second term.)
Then return to our instinctive ?
compassionate care for the
unfortunate and suffering.
best hopes for a new paradigm!
sydney
The easiest way to create compassion is to localize.
The village idiot
The town drunk
These may sound like cruel phrases to us but actually these people who are losers if you will for one reason or another are still considered part of the community. If you localize you actually know these people as people and what there problems are and you can give them the right amount of tough love. Anonymity is the biggest problem.
Jesus said the poor will always be with you but the saddest part is now in the US you don't even know their names.
Memmel
Well said, here in NZ our state agencies are scarily Orwellian, we have WINZ (Work and Income NZ) which administers unemployment, sickness, disability etc benefits) and they have 'clients', named such that even though you are living on the benefice of the state you feel no personal obligation.
Even when dealing with the IRD (Inland Revenue) we are referred to as 'clients', which I object to, I am a citizen and a taxpayer, and as part of society these are my obligations, I am not a 'client' which would imply free choice.
Neven
Look, any economic system that is based on interest-based debt is destined to fall. Its because in a pure interest-based debt that is one without bankruptcy protection for the borrower the capital never decrease it always increase regardless of increase or decrease in economy. This result in concentration of wealth in a few hands and illiquidity of money. That is what caused Great Depression.
Rosevelt, Keynes etc delayed the fall of interest-based economic system after the Great Depression by these four methods:
1) Paper currency without gold backing which allowed govts to print money on will which result in eating up people's saving that is recirculation of wealth and decreasing the speed the wealth was concentratin in a few hands.
2) A growing economy especially during and after wwii, the growth in economy ofcourse cannot happen without an increase in net energy consumption by economy.
3) A larger role of govt in economy through higher taxes and more govt expenditures especially in defense, research, space programs etc.
4) The bankruptcy law that allow borrower to default on his liabilites hence saving himself from pressures of lenders and after reaching point zero may start again.
Due to decline in net energy consumption since 2005 the 2nd method is no longer working. The net energy consumption of society is decreasing because while amount of fossil fuel used in economy is at plateau the energy cost of extraction of the fossil fuels is increasing. Imagine what will happen when the energy production itself start decreasing.
When net energy available for society decrease economic activities decrease which result in contraction of economy. This means the growth that was providing the interests on debts is no longer available. Now the business have to actually cut their working capital to pay the interests. Ofcourse cut in working capital result in less goods and services produced by economy that compound the contraction of economy.
The 3rd method of larger role of govt can also no longer be effectively implemented because the govt of usa itself is technically bankrupt. Remember the technical definition of bankruptcy is when you are unable to provide for your liabilities without taking further debts.
The 4rth method is implemented and is the result of banks becoming bankrupt. This lock and reduce the amount of capital in economy. Many new business can't be started because the capital from banks is no longer available.
This leaves the america to the 1st method. The only method available for usa govt. Just print money to increase liquidity in economy. This ofcourse through inflation eat the savings and hence redistribute wealth and reduce the concentration of wealth. The issue is that this method by increasing inflation make dollar as valueable as toilet paper which enforce arabs, chinese and japanese to fire-sale their dollars and stop lending to usa govt. In addition with affects to economy this policy will bankrupt the usa govt, it would not be able to continue supporting such a hugh army and wars. That is a dangerous policy for usa when it has created so many enemies.
If you look at the bottom of this you can find that the root cause of the financial crisis is the interest-based debt. When you lend 100 dollars to someone and demand 105 dollars in return regardless of profit or loss and regardless of rate of profit you are robbing and taking what is not yours. The right way is to invest in business and share both the profit and the loss and your profit rate must be in proportion to the profit rate of the business. It means if you lend 100 dollars to someone and profit is of 2 dollars you can take 1 dollar of the profit if you and the borrower had agreed to share equally in profit. If there is a loss of say 2 dollars then your that is the lender's capital reduce along with the reduction of capital with the economy.
How will you treat a person in a community that want to share in good but not want to share in bad. When there is a party in your house he come to eat but when you are in trouble he distance himself from you. Interest-eating lenders are even worse because they would still expect party dinner at the expense of the business which is going in lost.
So, if you want to save yourself from this and all financial crisis in future you have to adopt the policy of sharing both the good and bad.
Well said, WFP.
I Second Dragonfly41's sentiment. The more postings from those in other cultures/habitats-->the better to hopefully promote Asimov's Foundations + Optimal Overshoot Decline. Seriously, Please post anytime WFP.
totneila,
Can you expand on what Asimovs Foundation has got to do with anything? I got hooked on Asimov through the Foundation series and I never really saw it as a realistic model for any sort of Earth bound political economy. I mean we don't really have a Second Foundation bunch of psycho-historians in the background manipulating us all towards some sort of pre-ordained Nirvana do we? (you may know more than me). I'm not sure how you are thinking but I am curious as to what you think the connection is?
In 1933 the M2 money supply in the US was $32.2 billion. Today it is $7,712.9 billion, a 239.5 times increase. All this money except for coins is bank debt (Federal Reserve notes, checking accounts, savings accounts, etc.). If you have doubts about this, look at the liability section of any bank's balance sheet and see what you find. Because production increased over this time frame, driven largely by available energy, prices did not increase as fast as the money supply, as these extra goods moderated prices as the supply/demand equation played itself out. Now that we are facing reduced energy supplies, production, as you say, will contract. This alone would cause prices to increase, but add on top of that continued increases in the money supply and the effect should be quite noticeable.
The majority of this money was created either by printing press or bookkeeping entry and loaned out at interest. The banks love the system because it results in a huge transfer of wealth out of the economy into their pockets. Governments love it because it provides a ready source of loans for them when they can't tax directly. The public loses because the increase in the supply of money causes prices to go up, and interest repayment requirements transfers wealth out of their pockets. I think that were we using honest money like gold which could not be easily inflated, then interest payments on loans would not be detrimental to the economy, since something of real value would have been exchanged and compensated for, but interest payments under the present system are detrimental.
This is not free market banking; there is rigged market banking, so don't blame this on the free market, as many tend to do. Some of government intervention in th economy is stupid, but well intentioned. This money system was deliberately implemented with the intent of granting privilege to the bankers, and had malevolent intent. Essentially it is just a slave system.
Where, and how, could there ever be this mythical "free market?" All markets would seem to be constrained by the will of the major participants in that market-- or is my concept of markets completely wrong?
Free markets are markets controlled by a balance between buyers and sellers acting without external force. Major participants get to become so generally because of government interference to give them advantage. There have been very limited examples in history where an industry has come to domination simply from competition, and when it has happened it has been beneficial. The domination of the aluminum industry was a classic example where the dominant force maintained its position by doing such a good job, without government granted privilege, that nobody could effectively compete.
Where you see a major participant or group dominating a market, look for the black hand of government.
"Major participants get to become so generally because of government interference to give them advantage. There have been very limited examples in history where an industry has come to domination simply from competition, and when it has happened it has been beneficial."
As I understand it, there are such things as "natural monopolies", that is, markets that are so small that more than one or a few (oligopolies) producers simply wouldn't be able to generate enough income to cover their costs. Alternatively, they may have such high barriers to entry that established companies can effectively prevent potential competitors from joining the mix. Furthermore, businesses don't want to be in competition with each other b/c it often cuts into their profit margin, so many companies routinely try to buy out or put their competitors out of business (e.g. hostile takeovers, bidding wars, consolidation, etc., often financed by easy credit). Companies *want* to be monpolies (or monopsonies, in the case of Walmart)! Please don't take it as antagonistic, but saying that all monopolies are the hand of government puts the cart before the horse (who do you think pays for the political campaigns?).
Finally, many markets have a distribution (often power-law) of players, with a very small number of very large companies, all the way through to a very large number of very small (possibly single-person) outfits. Mark Buchanan, in his book "The Social Atom", notes that this is the case for both size and duration-of-survival, so that, for example, the number of companies in a given industry of a given size/age falls off rapidly as a function of size/age. Power laws seem to be very common in both human and non-human systems. Another example is the size of rivers, streams, rivulets, etc. in a given watershed (very many small rivulets -> very few large rivers). In human systems, it would make sense that different rule-sets can alter this distribution curve, but I'm not sure to what extent as I haven't studied this enough yet. However, this is a far cry from saying that all monopolies are the product of evil government...
A free market is one in which buyers and sellers have no power to coerce each other to agree on some price(that includes sellers not colluding to fix prices and consumers not pressuring politicians to have price controls; subsidies...), allowing the price to settle towards the intersection between supply and demand.
There's nothing magical about them and they're certainly not perfect; but they are a good enough tool that people trust them with their life, every single day(e.g. most people are willing to live in a city without more than a few days secured access to food, trusting greedy profit-maximizing capitalists to keep bringing in a veritable mountain of food every single day at an affordable price).
The reason OPEC has repeatedly failed to control the oil price to its liking is that there were enough players in OPEC that any one player increasing their oil production would not have a huge impact on the price of oil; as a result the incentive to "cheat" and sell more oil became too strong(gaming the system with dodgy reserve numbers in this case) and the attempt to control the oil price eventually collapsed.
Come on. People have no choice. There is no way all the people now living in cities could live near farms, much less operate their own farms.
This is the meaning of "overshoot." We have too many people for the land to support. We have to trust the food system because it is the only way the vast majority of us can obtain food.
If people start to have small gardens, the situation will be improved, but not by very much.
One bright spot is that right now Americans eat way too much. On average, we can reduce our daily calories and wind up healthier than we are now.
That's not the issue here. Farms have all the labour they need to produce enough food for everyone using less land than 50 years ago in both the US and Europe even though people are eating way more grainfed meat and we have all this food-to-biofuel sillyness(a result of subsidies which distort the market).
It incurs almost no cost to keep a few weeks of dry food like pasta, baked beans, dried rice, frozen meat or potatoes just in case. This is food you'll eat anyway; you're just letting it sit on a shelf or in a freezer for a few more months before eating it, reducing it's nutritional value by a tiny amount. Very few people bother even with such a simple precaution, which to me is a strong indication that they're not concerned about food security.
People could say hey, free markets are fine for television sets and other toys, but this is life and death and I want the means of food production to be publically owned in a soviet style command economy.
A few thousand people could easily get toghether and share the cost of buying farmland, machinery, fertilizer, labour and share the resulting produce to have an ensured supply of food; but they don't.
People could call for the government to keep an emergency store of rice or grains in each city. They could call for far-reaching price-controls or other distortions in the free market.
Land isn't the limiting resource here at all. We can easily support the number of people we have with the land available; billions more if we stop wasting so much land on meat production and turning food into fuel.
The limiting resource is energy. Even in the case of phosphorus or other mineral resources; as long as you have the energy and technology to do so you can keep mining ever more marginal phosphorus ores and keep recycling phosphorus with ever greater efficiency.
If you have less energy available you're forced to economize on energy to the detriment of land and labour.
Well, it would cost you as much to transport 15 MJ of rice energy as it would to transport 1 MJ or cabbage energy. For price sensitive people that will mean cabbage(and carrots, lettuce, cucumber, tomatoes, broccoli, turnips...) are off the table unless you grow them.
People in cities have better access to railroads and ports.
This is very persuasive, WFP. Are you describing a "Koranic" financial system, in which interest is prohibited?
If so, it would seem like any lender would, in effect, become a "partner" in any business enterprise he lent money to. Under at least U.S. rules governing partnerships, the partners bear equal liability up to the limit of their entire assets, no matter how small their investment.
That would seem to be a major inhibitor to business in a non-corporate, non-interest financial system.
Yes I am describing the quranic (not koranic) financial system in which interest is strictly prohibited. Infact its warned in quran that if you still take interest on your debts get ready to have a war with God and his prophet. Since everything belongs to God when you fight with God you fight with everything including yourself. All interest based economic systems are characterized by continuous warfare and new, complex diseases (fighting with yourself).
If you give money to someone to start a business there are only two rightful ways in this matter. First ways is to not share in profit and loss and set some time when you want your money and all of your money back without any addition or subtraction, means you neither takes any interest nor share in loss. Second way is to become a partner in business in which case you are no more a lender but a sharer in both profit and loss, you may increase or decrease your money depending on business getting a profit or getting a loss.
Western (european and american) financial system do support the borrower in case of a huge loss when he is unable to pay back the debt and interest due to complete loss of business through bankruptcy law. If business has a loss and borrower is unable to submit installment of interest and debt the best strategy for lender is to give the borrower sometime to recover and then get the debt, the interest and the interest on the delayed interest back in this financial system.
Without going into much debt one can still see the drawbacks of the interest-based debt. The lender is only sharing in the good, the profit and shielding himself totally from the bad, the loss. The business is pressurized to not declare itself bankrupt because if it do so in addition of embarrassment it also get bad credit rating which eliminate any chance of borrowing further. Thats why all businesses try their hardest to not declare themselves bankrupt hence kept on feeding the vaults of the lender.
I've also read about this and actually this style of financial system was commong in Western Europe where interest was forbidden. Its one of the reasons that Jews engaged heavily in the banking system since it circumvented the Catholic Church. The Sultans in the east played a similar game.
The real power was of course the kings and merchants who could then use debt to expand by trade or conquest and when the house of cards came tumbling down as it must the wicked jewish bankers where driven out their gold confiscated and the process started anew.
Now that religion is not such a factor the names change but the process stays the same now instead of jews we have the wicked short sellers and energy speculators to blame for all our troubles and of course those dirty immigrants taking the high paying jobs cleaning toilets in McDonalds from the God fearing Americans.
I'm not writing this to be racist but to point out the parallels with today and the pompgrams of the past.
But yes the answer is of course for lending money to become part of the business cycle and you share in the upside and the downside. Then everything tends to work out. Certainly money can and has been injected if real growth is happening.
Thanks Pakistan--
Personanlly, I can only agree with the system you describe, but of course, it is not adapted very well to taking over an entire continent, eradicating the native population, and turning the rivers, the forests and the land itself into money. To do that in any kind of human timescale you need to use the leverage of compound interest.
The proof of that is fairly obvious -- Native Americans lived here for 25,000 years or more, and the Columbia River was teeming with fish and the forests were majestic. Two hundred years later, the place is becoming a slum.
Quranic law would seem to create partnerships to do business deals. There are, of course, partership business models in the U.S., but the serious problem problem of liability
No one, even in Pakistan, lends money for free. They may not receive 'monetary' interest, but do get repaid via social contracts, reciprocal altruism, status etc. It is a cultural phenomenon, and probably one much better suited to finite energy than the fiat monetary interest system we have in the West, but don't kid yourself into thinking the money-lenders provide others with loans out of the goodness of their hearts...
The discussion here is not about lending for nothing or in some mere hope of some altruistic return. It's just the difference between raising money by taking out a loan or by selling stock. Loans are generally at fixed interest - the lender doesn't usually share in the risk. Whereas the return to stockholders is not at all fixed - the stockholders share in the risk of the enterprise.
It's really not embarrassing, especially if it's as a result of a failed business rather than going bankrupt as an individual due to profligate personal spending, and the credit rating effects are also quite minor. This is because banks recognise that businesses often fail and are working on the basis that some proportion will fail. A much bigger problem is if a person's history suggests they're a useless businessman rather than a technical credit score.
To my mind there's advantages and disadvantages to interest bearing loans vs "having partners". If I have an interest bearing loan that represents essentially the time-value of money plus profit, then I just have to pay back the money on time, I don't have to give someone a percentage of a business or let some capital providing idiot partner interfere with the running of the business. The disadvantage is, as you say, the loan requires repaying regardless of if the businesses underperforms.
I think the bigger issue with monetary interest is that there's no inherent limit in the financial system to the amount of "expected future money/productivity" I can "move" into the present, but resource depletion suggests there'll probably be a tightly limited amount of future productivity.
Good stuff, Wis. Keep posting. The idea of debt-forgiveness jubilees and Islamic-style interest-free lending are beginning to get some notice in the West now, as the current financial-plus-resources disaster screws up Western-style BAU, probably for good. These wiser ways of handling debt have proved workable in many places in the past. Probably the old railings against lending at interest, when that began to take over, were right, from the start.
A balance in the karma of all things, including lending money, brilliant.
I recognize the proposed method of financing as that used by the merchants in the Middle Ages, and earlier, when undertaking risky and distant journeys by land or sea. the Prophet Mohammad incorporated it into the Koran holy book, I am given to understand. His wife was a very rich and successful trader and so he must have known all about this method of financing risky ventures.
Undoubtedly this method of finance has a lot to be said for it - especially because of its simplicity. Indeed, venture capital is often quite similar in structure.
However, the various Italian merchants/bankers (Genovese, Venetian and Florentine) of the Middle Ages went ahead with more advanced forms of financing trade and that is partly why they did so well - until the Portuguese managed to bypass the Middle East and circumnavigate Africa.
In the same way that physical capital can accumulate - the number or ships, camels, bridges, factories etc. - interest on loans can also accumulate. I have no problem with that. You can even borrow gold and repay it with interest (in gold). It has always been so. Obviously, the interest rate in this case is much lower than would be the case with paper money. Mines that have yet to produce gold frequently borrow gold from banks on the understanding that the gold will be repaid with interest once the project is producing gold. These mines sell the gold to buy machinery and labour.
There is no uniquely correct way of financing investments - all of them can coexist. Obviously, gearing your capital by 30-60 times as so many prominent banks have been doing (and are still doing) is not a smart way of doing things.
European banking on borrowed time
Just a week or two ago, I got my hands in a piece of research that says that the 70-30 split you talk about is in reallity near 90-10. It was printed, but on a widely circulated brazilian magazine (Veja).
If by cheap they mean "low nominal price", than yes. But that doesn't make it affordable. So, while I agree with you, the people who say that oil'll get cheap will be able to say that they are right...
Exactly in line with the efects of peak oil, but it may not even have happened yet! We seem to be in a bigest economical overshot than I was thinking (or peak oil already hitted because of EROEI and we don't know it?).
I think that's correct. We are on a plateau of oil production, but we know EROEI is declining. I'm convinced net energy peaked in 2005, or maybe even a bit before. Some of it is being masked by "stealing" energy from natural gas, but some of it is hitting home. All the while, people are looking at raw production numbers and saying, "Look! We pumped 52 barrels more than in 2005, so we're not at peak!"
Per capita we probably peaked on net energy way back in 1980 the inflation of fiat currencies has succesfully hidden this for almost 30 years which is very impressive in and of itself.
Technical advances also helped hide this. But I forgot where I read it but not one Airline has ever been profitable long term not one in 100 years of flight. Zero zip nada.
And believe it or not even high tech companies such as Microsoft look to fall into the same fate eventually becoming unprofitable and failing even as the original founders of the company are still alive. Its not clear that any software company or compute hardware company will actually survive longer then the people that created them.
This may sound crazy and people my object but lets see how the next ten years plays out I suspect you will find out I'm right. I'd be really surprised to see Microsoft post a profit in ten years.
So overall a lot of our high tech has not really accomplished a whole lot and has yet to find its stable point if you will.
I'm not saying it does not exist but I think people will be surprised in twenty years at the role that technology plays in our future in a lot of ways it will be less than today but also in some ways more I suspect its use will be focused on where it adds real value and not the reckless investment in technology that we have seen to date that offers no sustainable gains.
So probably once the US became a net importer of oil this vast flow of energy in to a fiat based misallocation of resource resulted in decling global per capita energy usage and wealth concentration. I think Nates posted some of these graphs.
http://www.futurescenarios.org/content/view/51/73/
What happened in 2005 is that the total decline in net energy finally reached the point that it effected the wealthy nations who simply started paying more for energy. Physical peak of the underlying natural resources dramatically aggravated the decline and made it visible to the rich.
Look, any economic system that is based on interest-based debt is destined to fall. Its because in a pure interest-based debt that is one without bankruptcy protection for the borrower the capital never decrease it always increase regardless of increase or decrease in economy. This result in concentration of wealth in a few hands and illiquidity of money. That is what caused Great Depression.
Rosevelt, Keynes etc delayed the fall of interest-based economic system after the Great Depression by these four methods:
1) Paper currency without gold backing which allowed govts to print money on will which result in eating up people's saving that is recirculation of wealth and decreasing the speed the wealth was concentratin in a few hands.
2) A growing economy especially during and after wwii, the growth in economy ofcourse cannot happen without an increase in net energy consumption by economy.
3) A larger role of govt in economy through higher taxes and more govt expenditures especially in defense, research, space programs etc.
4) The bankruptcy law that allow borrower to default on his liabilites hence saving himself from pressures of lenders and after reaching point zero may start again.
Due to decline in net energy consumption since 2005 the 2nd method is no longer working. The net energy consumption of society is decreasing because while amount of fossil fuel used in economy is at plateau the energy cost of extraction of the fossil fuels is increasing. Imagine what will happen when the energy production itself start decreasing.
When net energy available for society decrease economic activities decrease which result in contraction of economy. This means the growth that was providing the interests on debts is no longer available. Now the business have to actually cut their working capital to pay the interests. Ofcourse cut in working capital result in less goods and services produced by economy that compound the contraction of economy.
The 3rd method of larger role of govt can also no longer be effectively implemented because the govt of usa itself is technically bankrupt. Remember the technical definition of bankruptcy is when you are unable to provide for your liabilities without taking further debts.
The 4rth method is implemented and is the result of banks becoming bankrupt. This lock and reduce the amount of capital in economy. Many new business can't be started because the capital from banks is no longer available.
This leaves the america to the 1st method. The only method available for usa govt. Just print money to increase liquidity in economy. This ofcourse through inflation eat the savings and hence redistribute wealth and reduce the concentration of wealth. The issue is that this method by increasing inflation make dollar as valueable as toilet paper which enforce arabs, chinese and japanese to fire-sale their dollars and stop lending to usa govt. In addition with affects to economy this policy will bankrupt the usa govt, it would not be able to continue supporting such a hugh army and wars. That is a dangerous policy for usa when it has created so many enemies.
If you look at the bottom of this you can find that the root cause of the financial crisis is the interest-based debt. When you lend 100 dollars to someone and demand 105 dollars in return regardless of profit or loss and regardless of rate of profit you are robbing and taking what is not yours. The right way is to invest in business and share both the profit and the loss and your profit rate must be in proportion to the profit rate of the business. It means if you lend 100 dollars to someone and profit is of 2 dollars you can take 1 dollar of the profit if you and the borrower had agreed to share equally in profit. If there is a loss of say 2 dollars then your that is the lender's capital reduce along with the reduction of capital with the economy.
How will you treat a person in a community that want to share in good but not want to share in bad. When there is a party in your house he come to eat but when you are in trouble he distance himself from you. Interest-eating lenders are even worse because they would still expect party dinner at the expense of the business which is going in lost.
So, if you want to save yourself from this and all financial crisis in future you have to adopt the policy of sharing both the good and bad.
"When you lend 100 dollars to someone and demand 105 dollars in return regardless of profit or loss and regardless of rate of profit you are robbing and taking what is not yours".
I say bullshit.........
Is there any interest on your money placed in a bank?
Are there any stock markets?
Who finances research and development?
Where does charity go in your ideal world?
Are all forms of gambling disallowed?
Could I lend money to a person requiring an urgent medical procedure, or do people in urgent need, beg for charity?
If you think that financiers do not participate in risk, why are they now going bankrupt?
You have so much wisdom, I wish you were around to design the financial system which took us into the twentieth century.
So do I.
Why should there be? Why should you get money for nothing? Even so, if there were, why can't the interest be paid by the money being invested in companies or stock rather than fractional lending?
Do they require fractional lending? No. They can be run as simple exchanges where stocks are bought and sold, period.
Why does that require usury?
See above. Why can't charity be giving work? Providing a meal? Like it used to...
To repeat...
Why does lending require interest?
Cheers
You are one dumb turkey.
Memmel said - "The debt economy will be blown out well before then but so what?"
The problem as I see it is that the "debt economy" and those loosely affiliated with it employs a vast amount of people. A huge percent of computer tech, soft and hard, only exists in support of the debt economy.
Indeed the surplus energy that is dwindling away supports huge numbers of relatively useless jobs.
I suspect that massive unemployment is going to be a much bigger problem that anyone is accounting for.
Unemployed people can't pay a mortgage so you get a jump in forclosures.
And around and around it swirls around the bowl
around the bowl!
Hey Soup. Yep. Overlap into the 'real' world is a biggie. I believe our fearless leaders just got a short course from Hank and the Fed. on just what that implies for our prospects going forward. Interesting that when asked about voting for the rescue plan even Johnny Mac gave a crisp "sure" last night in the debate.
The prospect of an impending 'sovereign downgrade' for all financing US in the not too distant future means , I think, a case of when you have them by the short hairs their hearts and minds will follow even it it means political suicide.
W/o the debt economy the taxes fail and Washington is left w/o a hell of a lot to administer. Somebody maybe informed the presidential prospects just what 'winning' an election under those conditions might be like.
Whether the Chinese lend more to our banks or buy more Federal debt may not matter much in prolonging the swirling action's eventual outcome. But it may get it passed Nov. 4. I think Congress is pushing hard now to get a 'hanshake agreement' before the Asian markets open tomorrow to forestall that downgrade and all it entails.
Ah ha...now I know why Obama and McCain were giving such wimpy answers last night. They want the other guy to win. Neither one can just quit outright and save any face, so they are both trying to look incompetent so the other wins. Ingenious plan, except they both know what the other is doing and will require sequentially more insanely stupid moves and statements. Good luck and may the best man lose.
LOL! Recall the Matt Simmons interview where he said, "I would start crying if I found out that I was President in 2009."
hmmm,
so that's why Palin was selected as VP candidate?
Best of luck,
Seppo
"I believe our fearless leaders just got a short course from Hank and the Fed. on just what that implies for our prospects going forward."
I wonder if the expression "Going Backward" will ever come to be applied with regard to our future prospects?
I think the problem is that there are a lot of tie-ins between the real world and the financial world.
For example, the some of the oil industry uses debt to finance payroll. If they lose this ability to obtain additional debt, they cannot hire the oil workers. This is probably not the oil majors--it is more like the many servicing companies that are involved in the process. But the problem is that even taking out some of the servicing contractors could mess up oil production. On the API call yesterday, this problem with debt was one of the issues Red Cavaney highlighted.
Another example is in the electricity. Most electric utilities buy at least some of their electricity from other countries using the grid. If these electric utilities do not have adequate credit, they will have to depend on what they can generate themselves. I would expect that some of them also use credit to buy fuel such as natural gas and coal. If their credit lines get cut off, they may not be able to purchase fuel.
"I think the problem is that there are a lot of tie-ins between the real world and the financial world."
It's everywhere!
See Totonielas post on food production and finance.
McDonalds getting cut off. Corporate America comes to a screamming halt without rolling over debt.
How did we get to the point where nothing functions without debt?
I have been involved in dozens of startups, many were killed by the finance element or VC's, many were able to succeed only because they stuck with friends and family funding. Yes it means a slower build but the fun stayed in the project much longer and everybody involved profits.
What none of the articles and editorials about interbank lending mention is how the interbank lending mechanism actually works. Consequently, people can't formulate any idea about solutions ... to what are basically three problems.
Let's look at the easiest, first:
When banks lend to each other it is not a 'plain vanilla' transaction, where 'Bank A' lends $50 (million) dollars to 'Bank B' for six days or six months. Instead, the cash flows of banks - as well as those of large corporations - are sliced and diced and recombined. Parts of commercial paper, floating rates of deposits in checking accounts, fixed returns from corporate bonds ... etc. etc. are de- constructed then reformed into Frankenstein securities. These are then exchanged. These transactions can be all lumped together under the rubric of 'interest rate swaps'.
Banks and companies use these swaps for many reasons; to gain some cumulative yield in a poor environment for returns on money, to manage risk by 'innoculating' swaps by including bits and pieces of government guaranteed instruments, such as FDIC insured bank deposits, hedging currency fluctuations, as well as to avoid the taxman or national capital controls.
There is an immediate similarity to the same kinds of derivatives of mortgages, with the same kinds of problems, with a twist. Many swaps have fixed rate components while the counterparty swap may have a Libor component. The floating rate these days doesn't float so much as plunge up and down; a good swap today could turn into a disastrous nightmare overnight. The 'spread risk' itself is reflected in the spreads as they widen, which reinforces the likelihood of more swaps going bad ... all this in a vicious, self- reinforcing cycle. It is not surprising that there is no interbank lending, even if the banks themselves are good banks with excellent capitalization and prudent management, the interbank market ITSELF is broken and nobody will trust it.
The second problem is related to the first; the market is driving the participants rather than the other way 'round. Part of this problem revolves around the issue of risk management by banks; the idea is to get the Federal Government to stand behind all participants, thereby managing the risk component. Since risk is an expense against yield, managing risk by any means can add some yield to a transaction. The slicing and dicing machine works hard to make sure all interbank lending includes bits and pieces of Federally guaranteed deposits. This is one reason the Treasury is in Congress with hat in hand. The exposure to the 'bad' parts of interbank lending have enmeshed the 'good' parts. As the systemic 'furball' continues, more banks will fail ... and the Federal Government will have to come up with more and more money. The $700 billion dollars can be paid through the 'front door' by the Treasury or through the back door by the FDIC. As part of the 'Creeping Sovietization of the US Banking System' the government is up to its neck in this mess and has been for quite awhile. Consequently, the market isn't managing investment, but wagering on what the government will do next.
Instead of being the 'lender of last resort' the central bank is becoming the lender of first resort. The creeping giganitsm and concentration of economic power in fewer and fewer hands has its own set of dangers that themselves can take the place of any of the problems being discussed here ...
The third and greatest problem that underlies all the economic problems of today ... is the long term decline of yields - the poor on non- existant return on investment. People think of the interest costs of loans to borrowers without thinking for a second about the hidden - and not so hidden - costs of a low return on money to lenders. The biggest cost of low yield is the disincentive to save. The other cost is that low yields make otherwise sane money managers into risk- taking riverboat gamblers. They must embrace risk, otherwise, there is no return on money. Gambling has become the substitute for investment.
Solutions: First is to get rid of the current interbank lending system and return to 'plain vanilla' lending. The current system is broken, the Fed can declare a holiday and unwind existing positions. Congress can do something useful and draft a 'Simplicity and Transparecy in Interbank Lending Act'. This would not cost the taxpayer a dime and would calm the money markets, that depend on interbank lending.
Second is for the government to erect some firewalls between the various markets so the meltdown in one won't destroy all. One connecting thread is the 'implied backing' of all kinds of securities that contain some bit or piece of government- backed security. The Treasury should announce that its guarantee only exists to a security as a whole, to the institute or individual that originated it.
Third, the Fed should raise the discount snd funds rate a lousy- stinking, single, measly point. (One) This would do several things; help rationalize real estate prices (lower and lower still, but that the way it will go anyway); it will diminish moral hazard, it will also demonstrate the Fed has a longer and broader conceptual horizon than the immediate. Raising the rates a point would give the Fed some credibility ... which it lost about this time last year. Slighly higher rates with a slightly stronger dollar would give the Fed more ammunition than would the Paulson Treasury plan, which just prints some more cheap money and throws it at the problem ... willy nilly.
Raising rates a point would also begin the process by which the gamblers and speculators are driven from the markets.
For those who would say that doing so would trigger another Great(er) Depression, I would point out that this is not 1930; our country relies on foreign investors and foreign fuel, it has no savings (the savings rate during the Depression was 12-15%) and many of our productive enterprises have decamped for China and Mexico.
I generally agree with your description of the complexity of the transactions we see these days in the financial markets. The problem is that the vanilla transactions themselves are no longer happening right now. And they are still needed.
One aspect of this situation is the 'regulators' - a concept that is ezpanded to include the financial press - only looks at what it wants to look at. The Libor and the 'Ted spread' only show what they show ... current interbank lending that takes place within a certain ambit.
There would be much non- derivative lending if only that between corresponding banks. There would have to be since without it, the interbanking spreads would be off the charts. Part of the problem is the assumption of an 'ideal' spread, which might have existed before this crisis for a short period, but it may be that a higher interbank lending rate than has been seen over the past ten years is 'normal'.
As for anecdotes from 'persons with interests' (Such as from the Wall Street Journal and the FT) about the lack of lending ... consider the source and what they want; they are the mouthpieces of the markets and the large players.
I agree that the regulators have been asleep while all this nonsense has grown. Part has been ideology and part is that an innovation such as that represented by these securities cannot be put into any context, it's too new. The 'derivatives concept' as it has developed has never really been tested under market conditions before this crisis althought the Long Term Capital Management collapse was a foretaste of the effect of derivatives on both the market participants and the markets themselves.
There have been two recent articles about the derivatives:
http://www.nytimes.com/2008/09/27/business/27charts.html?partner=MOREOVE...
http://www.nytimes.com/2008/09/28/business/28melt.html?hp
I think the hardest recent blow was the collapse of Lehman. It's lending schemes' failure disrupted the short term commercial paper and money markets terribly and caused a run on money funds. This gave Bernanke and Paulson nightmares about everyone that could rushing to close their retirement and money market accounts. If the panic spread from there, the exposure to the losses would be trillions and trillions ... plus all the more derivatives losses.
(BTW, the people are closing their accounts and using the cash to buy gas and pay debts ... :)
One aspect of this crisis that greatly exacerbates the problem is the delay in addressing it. That a crisis lay in the future was apparent several years ago to anyone observing the housing market, the nature of the transactions taking place, and the lack of due diligence on the part of all players - especially on the part of the regulators who should have stepped in long, long ago.
I agree with what you have written and would add that the next stage of this crisis will come when foreign lenders seek a higher risk premium due to a lack of confidence in the US economy. The one point rise would help prevent a transition to this second stage crisis but I don't think there will be such a rise, or any realistic attempt to address and resolve the underlying factors.
Bush has repeatedly spoken of the arab world by way of analogy to the Munich Crisis of 1938. I think he is incorrect in his interpretation and use of the analogy in that framework. But I think it would not be incorrect to say that in regard to the current economic crisis all of the US leaders are trying hard to play the role of Chamberlain. The outcome will not be pretty.
Steve,
Interesting analysis.
Is it necessary that the Fed and Congress intervene in the over night lending process? As the pain from a shut down complex over night market increases, wouldn't banks themselves seek straight vanilla deals from one another out of necessity? Perhaps freezing in the headlights is just an initial reaction, to be followed by self corrected behavior.
Memmel, is this what you are talking about?
Yes its real goods in services I'm not sure what your index is but I suspect its the same as what I'm talking about.
A simple example is producing and selling tomatoes is creating a real good. As you can see real goods have a lot to do with energy quality concepts sunlight and oil are converted to food.
Selling insurance to the farmer in case of a bad crop is not the real economy and as you can see it exists on the surplus of the real economy. The insurance salesman depends on the farmer having more good years than bad. And worse he substitutes for the farmer simply having prudent savings and planning ahead to weather the bad years. Generally this is because he does not have the extra income to save because he borrowed money to buy land to maximize profits.
This of course leads to the ready availability of debt. It does two things it siphons off the real profits and makes people leverage themselves and it as you see creates a large number of jobs that serve no actual useful function.
If the farm had simply saved money then we do not need the insurances sales guy or the banker or the accountant to manager the debt etc etc.
You could go on and on with these type of scenario the key point is that managing money or more correctly debt does not create anything. It looks like it does because it looks at first that the farmer and the banker and the insurance sales guys all have a lot of money on the surface instead what has really happened is a lot of debt has been created and managed. Instead of having a simple savings account.
In nature there is no debt. You can't borrow from future. You can only use what you saved in past. You can't eat the crops not grown yet. You can't slaughter the goats not borned yet. Therefore an economic system based on debt where majority of business is done on debt money is not natural even if the debt is interest free.
If you free the debt from interest there would not be any considerable number of lenders available. The businesses would be done with the businessmen's own money, not the borrowed money. This enable the marginal businesses to keep running too that are making only enough income to keep working and not generating any profit because the load of paying interest would no longer be there. Therefore in times of trouble you would not have that many businesses shutting down. Another benefit is that when a profit is made it would be invested in increasing the business unlike an interest-based debt system where a huge part of business profit go to the vault of lenders who may or may not lend it to business again and may use it in non-productive game of speculation in commodities and precious metals bringing the whole system down.
The core economy is the goods producers, the farms and the factories. We need trade to increase productivity of farms and factories through work specialization but the amount of trade needed is little. In my opinion in any sustainable economic system the trade part would be less than or equal to 20% of the economy.
We need another kind of services too, the public jobs. We need an army and its related weapon building factories and research laboratories but it not need be very large. A 5% economy diverted here is enough unless you are fighting at your borders. We also need services in form of health care and education which should ideally be provided by government. This also not need to be large. A 5% of economy diverted here should be enough. Altogether the govt intervention in a sustainable economy should be like 10% to 12.5%.
With a reduced and natural number of traders and a reduced and more affordable number of govt jobs about two third or more of the economic efforts should be in actually producing something, some good not service, some tangible solid material thing.
If you think about it closely you can find out that to have a good living standard you need more goods and less services, not the other way round. You really don't need that much of marketing stuff going around to convince you to buy a good if the good itself has some quality. You not need people who make a living trying to convince you to buy insurance. You not need that much of lawyers, doctors, nurses etc. You certainly not need bankers in any case.
The sustainable economy should have atleast 70% goods production and atmost 30% services production, not the other way round.
You are certainly correct that the elimination of interest is not a sufficient condition for creating a sustainable economy. In fact one can make a good argument that a properly designed economic system without interest would grow even faster that one that employs interest. If the price of innovation includes paying for rich people's yachts and ski condos then innovation is less likely to occur than if this price were not exacted. The only path to sustainable economic production lies through voluntary simplicity and mutual support. Monetary policy alone cannot fix the problems of our society.
However, it seems to me that claiming that debt has no role to play in a sustainable system of economic production is incorrect. Any time production resources are invested for which the payback time is longer than the time period of the investment, debt is being incurred. If I live in a hunting society and I spend a substantial period of time training a horse I am incurring a debt for which the future productivity of the horse will pay. In complex economies our economic support is provided not only by the output of the current year but also by the output of past years in the form of lasting infrastructure. Unless any new debt (i.e. investments of production resources with long payoff times) assumed in the current year is balanced out by economic services provided by old investments, then the new debt will make us relatively poorer in the current year. However, this true statement is not the same thing as saying that the economic concept of debt has no physical counterpart. The problem that our current economic system is faced with is not the concept of debt, but the belief in everlasting increases in total productivity. It is true that without composite growth private, interest based private lending will not work, and the total amount of debt that society can afford to incur in a given year will be far less than in a growing economy. Debt will shrink as a fraction of the total volume of economic transactions. Nevertheless the concept of debt as investments of production resources with long term payback times will continue to exist in any economic system which whose technology rises above that of neolithic villages.
When the lender is getting only his money back after some time duration, not any addition in it then most of the lenders would stop lending. Therefore very tiny part of business money would be coming from debt. Almost all of the business money would be coming from partners.
If you are living in a hunting society and you are training a horse to use for future hunting you are saving. Once the horse is trained you are using this saving that you had accumulated in past. In no way in nature you can borrow from future. If you could have borrow from future then you would be able to use a horse now and give back a trained horse later in return to your lender once you finish training your pony. Very little number of lenders would be able to lend you a trained horse now to get a similar horse in future, not two or three horses. The lenders would think "what do we get from this?, why not we use our trained horse now ourselves or become partner with a hunter who have the skills of hunting but lack a horse, this way some agreed parts of the increased numbers of hunts can be taken from the hunter".
In a sustainable economic system the capital should decrease with the same rate the economy is decreasing. In a debt-based no-interest economic system the debt remains the system while the economy contracts, this decrease the working capital available to business as they pay back the debt, the decrease in working capital of business further decrease the economy. This feed back loop result in disaster. In a debt-based economic system that do take interest on debt the debt and interest increase while economy contracts, this result in far more decrease in working capital available to business than in a non-interest debt system, since the decrease in working capital of business is higher in a interest-based economic system therefore decrease in economy due to decrease in amount of goods and services produced is also higher.
Problem with interest-based economy is not only that you need perpetual everlasting growth impossible on a finite possible but also that the govt has to increase inflation regularly to decrease wealth concentration in a few hands and illiquidity. Therefore, even if economy is growing and growing fast you still need inflation, this inflation which is simply currency printing give enormous power in govt hand which encourage govt to destroy wealth in non-productive expenditures such as warfare, space programs etc, there is no guarantee that govt will redistribute the wealth it get in its hands by inflation at the right place, that is the businesses. Even if govt is redistributing wealth it get through inflation at right place it only reduce wealth concentration, not stop it, the difference between rich and poor keep on increasing, after every few years you get a financial crisis even before peak net energy.
You do not seem to have understood anything that I said. I agreed in my previous post that private, interest based lending will not work without growth, so why are you explaining this to me again? You are using standard economics jargon and not paying attention the actual content of what I wrote. Personally, I have never been able to make any progress in understanding economics by means of monetary theory. What little understanding that I have of economics comes from thinking in terms of actual material modes of production. Debt has an actual physical meaning which has nothing to do with borrowing from the future (a physical impossibility). Debt means borrowing economic output from the present in return for future economic productivity. Anytime long term infrastructure is created, debt of this physical type is also created. Anytime a factory gets built economic output in the present is consumed and somebody is expecting a future return from this investment. My feeling is that it should be the community who finances large scale investments. Partnerships could easily turn into wealth concentrating mechanisms just as much private lending.
Maybe we are arguing about semantics and I am calling something debt which you do not call debt. Think up a different name for it then, but I assure that some form of borrowing from the present in return for future productivity will survive the fossil fuel age.
Both debt and investment is borrowing from past, that is savings.
Non-interest debt would be scarce because of absence of increase of capital of the lender. This leaves investment as the only practical and sustainable source of capital.
Ofcourse there would be wealth concentration in investment too but this would not continue forever because the investors would be sharing the loss too.
Roger,
I was following Pakistan's line of reasoning and did not get a sense he is not reading what you wrote.
In fact I found his reasoning quite lucid and insightful.
Even with your example, obviously there is a difference between "borrowing" from assets you have right now (like investing labor and energy into training a horse), as opposed to borrowing from future assets (getting a fully trained horse without making any kind of investement, except for a promise to return the horse with interest added in the future).
So, we could say that what you describe as debt, could more accurately be called "saving" or "investing".
When you invest or save, you are using assets you already own in the hopes of future benefits.
When you borrow, you are not using any current assets. You get something for free in the present, only because you promised to pay it back with interest in the future.
The difference between investing / borrowing is when do you pay.
Investing: payment now and benefit in the future.
Debt: benefit now and payment in the future.
Clearly there is a difference here.
With debt, there is no natural limit, except for the amount of risk lenders and borrowers are willing to take. The current credit crisis is clearly a result of debt (or leverage) going beyond reasonable limits.
With investing there is a natural limit, when your net-value equals 0 you can't go any deeper.
I am not sure what distinction you are trying to make. I regard the building of a house as an investment in physical and psychological comfort. The minute it is built and I move in I get benefit from it right way. But if two weeks later a tornado destroys the house, the full value of the production resources invested in the house will never be recovered. A real physical default on a real physical debt has occurred. Even if I had managed to save up enough money to pay for the house in cold cash, someone is going to pay for this debt (probably the insurance company/policy holders). Of course, buying a house that is much larger than I really need and which requires long distance commuting, under the assumption that our current economic productivity and our current transportation are going to last into the indefinite future is probably a foolish choice and greatly increases the risk of default. But even building a small house in a walkable neighborhood involves the creation of a physical debt.
Admittedly consumer credit card debt assumed for the purpose of buying toys is an incredibly frivolous form of borrowing (as is the building of toy factories in an era of increasing human pressure on natural resources). However, if this is the only form of debt that you recognize, then you are using an economics terminology that is very strange to me.
No one ever borrows from the future. Such borrowing is a physical impossibility. All that we can do is invest production resources in the present. You are making a distinction between investment and borrowing, but I think that this is a false distinction. Suppose that a new solar panel factory is built. No matter how this factory is financed, whether in cold cash by a partnership, by state tax money, by a bank loan, or by selling shares of common stock, the real physical cost of the factory is the production resources consumed. If, for some reason, the factory never performs its intended function and never produces anything of value, a real physical default on a real physical debt has occurred.
You might say that we can avoid this situation by using only savings to build new factories, but this another distinction without a difference. Real physical savings are simply economic output that is not used immediately. Somebody has to produce the bricks, the steel, the copper, the concrete, etc which make up the components of a factory. Merely letting these outputs sit around in warehouses for a few years before the factory is built does not change the fact that if the factory burns down before it can be used somebody’s labor goes unrewarded.
The debts we incur in any given year (in the sense of investments of production resources which we expect to pay for themselves in the future) must be compensated for by the income from past investments or we will become poorer. This is just as true in a steady state economy as in a growing economy. In a growing economy our past investments have been very successful, and we are willing to incur large debts in the current year because our income from past investments is large and we because trust that this track record of increasing productivity will continue. If for some reason current productivity declines (because of increasing energy costs for example) then the large current debt that we have assumed gets us into big trouble. I agree absolutely that we should stop assuming ongoing large increases in productivity and should therefore stop incurring large debts for creating new infrastructure to produce inessential economic goods. The only debts (Or investments in the future. They are not really different.) that we should be assuming at present should be for the creation of sustainable infrastructure for vital services: e.g. Energy efficient housing; Energy efficient, water efficient, soil efficient, nutrient efficient food production; Energy efficient transportation systems, etc.
I think what wisdom is saying (he can correct if I get it wrong), is that while debt/interest in moderation is not necessarily wrong there is a sort of attitudinal moral hazard, that we have seen play out. That hazard is that while some moderate level of interest bearing lending is helpful to the economy, and society in general, it is all too easy to move from moderation into excess. The framer of the Quranic system, thought this hazard was so severe, that it was worth the efficiency cost of outlawing interest to eliminate it. The important question IMO is how to maintain moderation in all things.
The thing that has been increasingly missing in US society, has been moderation in borrowing, and the attitude of getting something for nothing. The coming hard knocks may well change these entrenched attitudes for the better, but the cost will be high.
Hello Memmel,
Good points! The farm financing problem compounds rapidly when input costs rise far faster than the farmers' profits and savings. In one growing season some types of I-NPK have nearly doubled in cost, not to mention rising costs for fuel, seeds, pesticides, etc.
A US farmer, depending upon his acreage, maybe looking at a substantial cash outlay to just get the crop in the ground. $100,000 to $300,000 seems likely to me. If he has to now prepay much earlier to guarantee subsequent timely input delivery: that only further stresses the farmer's cashflow situation.
Now adding the bankers' refusal to extend credit is tantamount to throwing the farmer under his tractor's multi-disc harrow.
Thanks Memmel, that graph above was lifted from Wikipedia "The Great Depression" - USA - I don't have much time right now, but on this one you say:
Selling insurance to the farmer in case of a bad crop is not the real economy and as you can see it exists on the surplus of the real economy.
As do libraries and public education exist on the surplus of the economy. In a cooperative society rather than a competitive one both insurance and debt would be unnecessary.
Debt and insurance are the ways this society imitates a truly cooperative one and without them, at our present stage of human development, we would plumb the depths of survival of the fiercest:)
Imagine how things were when there was only society, no money no debt. Actually there was debt but it was interpersonal debt, the kind where each member contributes to the others well being, an American example of this might be a barn raising. As society became larger and less integrated these interpersonal debts needed some other form and we developed money debt. Not bad in itself but subject to abuse, as we are seeing.
The reason I posted that graph was that I felt you seemed to be downplaying what the effects of he credit collapse could be - I doubt that was your intention though. My feeling is that the 'Great Depression' might eventually be looked on as 'those good old days'. About oil, to paraphrase a villain: Peak oil is always and everywhere a deflationary phenomenon.
I am not sure I understand the question. Is it why a destruction of the lending economy will cause demand destruction? Or is is why demand destruction will bring cheap oil?
First I am not at ease with this concept of a disconnect between "debt economy" and "real economy". Finance is part of the economy. There is nothing wrong with advancing money to someone that needs to raise capital for his project, less we are ready to let lot's of projects being not done by lack of funding. What happened is the finance people tried to overdo it with odd derivatives products and speculation excesses instead of sticking to the basics. It is the part of the economy that was built on those derivatives that needs to be deflated.
The demand destruction will reduce the price. It is a simple matter of supply and demand. Whether this price reduction means cheap oil depends on your definition of cheap. My understanding is demand destruction will reduce excessive prices to a level the market will bear. But the lower prices will not trigger an economic recovery for such event would increase demand again and bring back the higher prices. In that sense, demand destruction won't bring back cheap oil.
What constitutes a price the market will bear is dependent on demographics. Looking at household incomes in the US we see more than half the households earn less than 50K and about a quarter of households that earns more than 100K. This is suggestive that until oil production is so low that it can supply only the top 25% of the population, a price the market will bear has to be relatively affordable. It also means that once the oil is no longer affordable to the masses, you probably don't have enough of an economy to sustain the pay of the richer people. The oil industry may also have issues with maintaining enough volume of production to operate its infrastructures profitably.
My belief is that the linkage between finance and the real economy is because of the wealth effect as follows:
People who feel richer tend to spend more. If people start valuing their assets optimistically, they're more likely to spend and less likely to save or pay down debt. If companies start valuing their assets optimistically, they're more likely to spend more (dividends, salaries, and investment) and save less (pay down debt or accumulate cash).
As sales increase, prices will start to rise. When people see that the price of their assets are rising, they attribute this to profit and not to inflation. Their logical response to these rising prices is to buy more - often on credit. A portion will be in more of the asset that is rising (fueling a bubble). Another portion will be in other goods, which will lead to growth in other sectors of the economy.
Rising prices also make credit very easy to get. Lots of spending means lots of money coming in for those who sell stuff (mainly businesses) and the overall good economic atmosphere means that the money will be lent loosely and in large amounts.
If there were no friction in the economy and there was always full employment, then this bubble would cause no increase in real production and would manifest itself totally as inflation. In practice, the good opinion of the future that people hold tends to reduce economic friction and push production closer to the maximum possible. Another issue to contend with is that inflation indices are far from perfect (and some contend that they are purposefully manipulated). Any gauge that relies on the currency as an arbiter of value (such as GDP) will be vulnerable to this flaw.
Bubbles as such can happen without active government involvement, but governments can have quite an effect in either direction through propaganda/education, and through monetary and fiscal policy.
If governments encouraged people to show thrift, it would reduce their tendency to join into bubbles. In terms of economic stability, a dollar saved is better than a dollar earned.
Governments can also directly inflate or deflate a bubble by printing or destroying money. Counter-cyclical monetary policy, where money is destroyed when prices rise and created when prices drop, will quickly prick any bubble if applied strongly enough. Governments can also inflate bubbles to dangerous proportions by engaging in pro-cyclical monetary policy.
It is my belief that the government engaging in strongly pro-cyclical monetary policy during 2001-2006 is why the bubble grew to such massive proportions.
Think back to the charts in the Hall series about how the energy sector of the economy has to grow substantially at lower EROI. Energy is demanding a larger section of the pie across the board. But everything is claimed, like a game of musical chairs. Hence defaults and freeze-up everywhere.
It's not just the bankers being taken out, memmel. As the legislation in Congress shows, they are taking everyone out with them. Everything the rest of us will want to do to circumvent the burdens the rich are laying on us will be illegal. That will turn violent because people will have no other alternative and the state will have lost its political legitimacy.
$700B for the bankers, $700B for the military (not including Iraq and black budget). Double it for reality and you're up to a third of our real economy. Before you double the energy sector. Damn, I guess we'll have to mandate everyone buy health insurance at point of a gun else we'll have to bail out the disease care industry too. [Or maybe for peanuts we'll get some sort of nationalized health care out of that. Dream on.] Maybe it's not 100->105 but 105->75. I'd not ignore the possibility of the powers-that-be reaching into the checking and savings accounts to devalue them across the board too.
cfm in Gray, ME
My analogy is that the debt buildup was analogous a dry forest, with knee-high underbrush, and then someone triggers a firestorm by dropping a lit match, in high wind conditions, and instead of aerial tankers dropping fire retardant, they are dropping napalm. I think that higher energy prices--and thus higher food prices--acted as the trigger and accelerant for the financial firestorm.
WT, excellent analogy!
This may be a signal to all...if a bank can not see another bank as creditworthy...Never ever though I would see that.
I think that many will take the route I took.
Keep a account.Keep whatever I can in a sock.Bank has nothing to do with my savings any more since Paulson can use them for a credit for loans.
A doctor friend of mine has...and missed the wamu fiasco..we are at the beginning of a long term period of instability.Best to keep the money in a sock,and the account to pay bills.I do not like the anyone having the ability to keep what little I have saved.
Sorry, I have a sneaking suspicion that dollars are just about to become worthless. See Zimbabwe as an example... Ok, certainly not as bad as there, but I suggest you convert at least part of any income into something which is easily tradeable for dollars, but which is by nature limited in supply.
e.g. Gold, silver, other currencies.
The US is about to begin monetisation and hyperinflation. Savings will become worthless. Put your money into commodities that are needed or hold value. Gold and Silver are the easiest option. I would recommend taking physical possession of actual metal. The fundamentals support them going up not down. Right now you can't even get silver easily, there is up to a ten week waiting period. Go ask any gold bullion dealer and they will tell you that they have never been so busy. So soon everyone is going to realise that the US dollar is toast (as are pretty much all fiat currencies) and the rush into physical metals will be unprecedented. Get in now.
A good time for a refresher as to what money is, so that we can all make better decisions in the coming downturn and collapse.
Money is a symbol for the things or services you actually need or want. It abstractly represents the real estate, the tools, the food, the training for your skills, other peoples' services, the fuel, the finished products that you need or want.
Money is just another tool, invented by humans, to to allow for the mutual exchange of resources and energy in a society too complex for barter.
There is a scene from the 1953 classic, War of the Worlds, near the end of the movie where people are all trying to get on trucks to get out of the cities. One panicked businessman pleads, "I'll give you $1,000 to let me get on!" And the reply is, "Money isn't worth anything anymore!" The businessman gets clocked in the jaw and is left behind.
All the tools we have invented can break and become unusable. This is what tends to happen when the tool of money breaks, that it cannot be used for exchange.
The tool of money can break when:
1. The other party doesn't recognize your offering as "money". In the US, you can't buy food with Zimbabwean dollars at the local market.
2. There are no resources, services, or energy to buy. Stranded in the desert with a million dollars, yet there is no water for sale.
In The War of the Worlds, the person on the truck could have accepted the $1,000, except there is nothing to buy, and likely no-one else will accept it.
When money is treated as an end in and of itself it then becomes a powerful illusion. A mirage that is chased into the middle of the desert, where it's possible to end up with a lot of money and no food and no water and no shelter and no-one to buy them from.
Money is a tool, and the users who don't understand this tend to become tools themselves.
What should you put your money into?
* access to water
* food staples, seeds, and arable land
* clothing and shelter
* skills training and tools
* supplies
* community infrastructure and defense
* perhaps something to trade (alcohol, entheogens, cigarettes, precious metals)
* something you will enjoy (don't forget to smell the flowers along the road of life)
In other words, put your money into where you were going to eventually put your money anyway in order to get proper use out of it, before the tool breaks.
710, you don't post very often, but when you do, it's almost always a gem.
I was going to write a response to Crudedude similar to yours. I have argued against PMs for years. Although there might be a possibility that they might have value in certain circumstances, I doubt that they will in ordinary day to day business.
I'll use myself as an example: You want some of the food I've grown and you say, "Hey, Todd, I'll give you some gold for them thar potatoes." I will turn it down. Period. Why? First, the gold doesn't make my life easier or better in and of itself. Second, to be of value, I have to find someone else with stuff I want to accept the gold. The gold is valueless to me if all I can do is accumulate it.
What I would be more likely to say in response is, "I'll tell you what; you can have them if you put in two good work days cutting firewood."
Todd
Todd, Absolutely Excellent!
My example is a biosolar investor wheelbarrowing a bag of I-NPK out to a local farm to trade, while his Yerginite buddy is sweating profusely while hugging/lugging his big screen HDTV. Guess who comes back with bread, butter, eggs, and bacon?
I suppose now would be as good a time as any to make a still and start growing ganja. The liquor could be used for fuel as well as drink, while the weed could be used to make hemp, fashioned into clothing or otherwise traded (cough, cough) for food and/or labor. When times get hard, God knows folks are gonna be looking for something to numb themselves with when Vegas and Disney go belly up...
Dred
It always struck me as a shame -- all that good corn liquor going to waste running a car. Better to stuff some more oats into old dobbins, saddle up, and head on down to the the trading post to sell the liquor.
When you put effort into what matters:
* access to water
* food staples, seeds, and arable land
* clothing and shelter
* skills training and tools
* supplies
* community infrastructure and defense
* perhaps something to trade (alcohol, entheogens, cigarettes, precious metals)
* something you will enjoy (don't forget to smell the flowers along the road of life)
you discover that time and practice are more important than money.
Gold is a lifeboat that won't available for all.
I did some checking. The total Gold production has been estimated to be about 160,000 metric tons or about 5.6 billion ounces. Which sounds like a lot, but compared to the global economy with 6+billion people, it is a drop in the bucket. Your share is about less than 1 ounce. And when you include the amount that is used in jewelry and art and dentistry and electronics, the amount available for trade is much less.
The point is, a few can stick away money into gold, but if that happens, my gut feeling is that gold's value to soar much higher than $1000 and ounce.
Remember, your global share of gold is less than an ounce and if everyone wants it......
Also, I understand why the use of metal currency is useful in stabilizing the economy, but I don't really think that there is enough gold and silver to run the economy AND as a means of saving trillions of dollars. But if we were to return to these metals as a currency at the present prices, who would be able to afford them? Wouldn't it be like using a $100 bill to buy a McDonalds burger. People talk about having a nice safety deposit box with gold and silver, but how do we run an economy if the people that have precious metals have stashed them away? Furthermore, I'm sure that many of you know about the reason that silver and gold coins had milled edges in order to prevent "shaving". What happens when people start shaving the gold and silver coins to remove 10 dollars at the pass of a file? Coin shaving caused all sorts of problems in the late Roman Empire.
Finally, if we returned to a metal currency, where would it all roll? To China and Saudi Arabia. It would be a repeat of pre Opium War Britian where Chinese products were bleeding Europe of Silver, driving up the value of silver and creating tight money situations.
How tight will the money situation be if a few individuals and/or states are hoarding the gold and silver and how do think the rest will react?
Returning to the original point, metal can be a lifeboat for some individuals but WATCH OUT if we get to that point.
One thing about gold - it won't do you a lot of good if you live in a rural or exurban area without the ability to value and trade the gold for something equivalent. That is, one of the reasons I'm a little dubious about how *useful* gold will be to me is that I live in a tiny rural town, more than 20 miles from a large population center where I could sell gold. In my neighborhood, my neighbor might well take gold, say, in exchange for honey or firewood, but my ability to peg it to whatever its current official value is would be limited - the gold would be worth what it was worth to my neighbor, who might or might not be familiar with gold's present value, might or might not be planning a trip to sell it, might or might not have more urgent needs. And so trying to buy a cord of wood with an ounce of gold means that you may lose money even if the ostensible value of gold has risen.
At a minimum, I'd choose small denomination things, but that comes with another issue - convincing your neighbor that because your quarters are pre-196whatever they have silver in them, or that these earrings are really worth what you are trading them for. On the other hand, we've already got a pretty good "eggs for honey" barter economy, where smaller denomination goods have shifting, but fairly solid value. Personally, I suspect that will be more useful to me.
Sharon
Right about gold and this is what bugs me about all the financial folks recommending people buy gold/silver and other precious metals. In the end, they are just pretty rocks. We artificially assign value to these objects, but it's really just another means to store perceived value. It, along with other forms of currency, are based on trust of two parties "believing" in the value of the object being exchanged. If one of the parties does not have confidence in the stored value potential of the object, then it's worthless.
What is unique about today's economic panic? People are starting to question the "real" value of financial inventions, currency, and commodities. These were things we took for granted for so long and NEVER questioned. This crisis is about confidence in all facets of our present system, not just the banking sector.
Some years ago I shifted all my banking to a credit union. Thanks to the banks lobbying against them, the CUs have been forced to be very conservative (at least relative to banks). They are also insured by their own organization, not the FDIC. Now, I'm not saying every credit union is solvent, just that I think they are far more likely to be solvent than a commercial bank. I also think they are more deserving of our business, as they have generally not been greedy rapacious bastards.
Another solution that's relatively low risk and relatively low cost:
Capitalize banks by offering to regular citizens a 0% tax rate on any money deposited into FDIC insured checking and savings accounts, including interest accrued for up to 2 years, along with FDIC insured CDs, Treasury bills, and Treasury bonds. This will help bring capital back into the banking system AND offer consumers some direct benefit.
Christopher S. Penn
Producer, the Financial Aid Podcast
Free financial aid internet radio, no iPod required
http://www.FinancialAidPodcast.com
FDIC limits need to increase to a level high enough to cover business banking funds as well. $100K of protection just isn't enough for even a mid-size business to manage cash-flow.
I had trouble reading the charts so if your eyes are old like mine, try this site to get a better view:
http://www.bloomberg.com/apps/cbuilder?ticker1=.TEDSP%3AIND
And, here come the helicopters...
http://seekingalpha.com/article/97563-entering-the-endgame-for-monetary-...
e.g.
http://www.moneyreformparty.org.uk/
Personally I disagree with the increase in regulation that you are proposing.
It's government regulation that has caused this mess, more regulation won't help it will just make the problem worse. Specifically by leading to very high inflation. (Hyperinflation).
Icouldbewrong,
I don't want to press you on this, but I've heard this from a number of people, namely, that 'government regulation has caused this mess'; that is the greatest financial crisis since the Great Depression: I wonder, do you have any 'evidence' or sources for your statement? You are saying that it isn't the banks that are responible, but the government, that's a rather controversial claim. I find it difficult to understand your reasoning, because almost everyone agrees that's what's characterized the last thirty years has been a steady and inexorable move towards 'freeing-up' and deregulating the US financial markets.
How exactly will more regulation make things worse? Surely if ordinary taxpayers are being asked to give billions in handouts to support the banks and their shareholders, it's only reasonable that there is some 'control' introduced to check exactly how and where these billions are spent? It seems bizarre, unfair and offensive, that individuals receiving welfare payments are subject to stringent controls, yet banks receiving billions in handouts/gifts are exempt from the same kind of oversight?
"I don't want to press you on this"
No problem, thanks for your reply. Unfortunately it's difficult for me to address your questions briefly, please accept my apology for the length of my answer.
Having said that the main evidence I have comes from reading the following websites for a number of years.
http://financialsense.com
http://europac.com
http://321gold.com
http://mises.org
http://moneyandmarkets.com
Peter Schiff of europac has written a nice book caused 'Crash Proof' explaining how government regulation is responsible for the current crash. This book was written before the current crash and predicts many of the events that have occurred such as the demise of Fannie Mae and Freddie Mac.
"but I've heard this from a number of people, namely, that 'government regulation has caused this mess'; that is the greatest financial crisis since the Great Depression: I wonder, do you have any 'evidence' or sources for your statement? You are saying that it isn't the banks that are responible, but the government, that's a rather controversial claim. "
I do think the banks are responsible. Well not every bank, but many banks got greedy, and overly leveraged themselves. They have a certain amount of capital/reserves, operating under fractional reserve banking they lent many times that amount, e.g. to allow people to buy homes. But because they are so leveraged a small percentage of a bank loans turning bad has lead to many banks having their capital wiped out.
I guess we agree on this.
But the government is also responsible. Politicians have allowed and even encouraged the banks to take on this excessive leverage. For instance after the dot com crash in 2000, the Federal Reserve ('the Fed'), the central government bank reduced interest rates to very low levels, 1% IIRC. This era of easy credit allowed banks, corporations in general and individuals to borrow large amounts of money, while keeping interest payments relatively small.
The Fed and the government work together. How does the government pay for wars, welfare and there own salaries? Well sure some of it comes from taxpayers, but not so much anymore, mainly the government sells treasury bonds, increasingly to foreigners, like the Chinese, Saudis, and Japanese. The government/fed create the bonds and the Fed buys them. Essentially the government creates the bonds and the cash to buy them in a process known as monetizing the debt.
These treasury bonds then enter the banking system, as banking reserves. Under the process of fractional reserve banking an amount of credit is created equal to many times the amount of bonds the government originally created.
The government is happy because they get money to fund their programs and pay themselves, without having to raise taxes. The banks are happy because they get reserves they can use to make loans.
Now this process of credit expansion has consequences. It causes rising prices, first of all in 'good' asset classes like real estate and the stock market. As initially people take loans and buy these things (e.g. 2000-2007).
But there are other asset classes like commodities (e.g. food, energy, metals, ...). The boom in real estate and the stock market was really a misallocation or resources, due to the government tampering with interest rates and misguiding investors. Evidence of shortages in energy and food have become apparent in recent years as their prices have been rising quickly. There has been under investment in food and energy production and over investment in real estate, and the financial industry.
In the school of Austrian economics this is known as Malinvestment.
A similar thing happened from 1920-1929 after the Fed was created in 1913. After the roaring twenties there was a collapse in real estate and stock prices, a deflationary depression.
So do you see my point of view? The Government and the Banks have been working together, against the welfare of the people. First by creating inflation, and now deflation. This has been in violation of The Constitution which declares that fractional reserve banking is illegal (because only gold and silver can be legal tender, counterfeiting is illegal and is punishable by death).
Now the Government believes they have a way out of this mess. Just create more money, or more accurately sell more treasury bonds and invest in assets like banks and real estate with the proceeds.
This will cause what is know as a Crack up boom or hyperinflation in Austrian economics. Instead of the real estate and stock market bubbles reinflating the new money will flow through the system and bid up the prices of food and energy. This is because there has been an underinvestment in food and energy production and shortages are beginning to occur.
Worse yet purchases of treasury bonds, like the Chinese may turn into sellers as the purchasing power of there investment, future dollars declines. The dollar may collapse in value.
I realize all I've given you is a theory. I will do some research to find some links for you explaining this material further, but it will take some time.
Let me respectfully disagree, using your own arguments:
Encouraging leverage and lowering rates is not government regulating things, it's government abdicating its role and not regulating. It's not government action, it's governent inaction - by choice, more precisely by ideological choice - that of those that precisely think that "it's government's fault' and prevent it from acting when it should.
Inactive (or powerless) government comes from the ideology that goverment should not act. The problem is not government, it's how it's used - in that case, it's been "used" to let banks and corporations do whatever crazy things they wanted, with other people's money, ie government allowed the banking sctor to take the rest of the economy hostage.
I also agree that the Fed's low rate were a problem - but again, that was Greenspan NOT doing his job, and not regulating money supply when he should have.
The problem is not too much government action or intervention, it's too little. and it was thus by design.
"Encouraging leverage and lowering rates is not government regulating things, it's government abdicating its role and not regulating."
Technically you are correct it is not the government directly regulating, instead it is the Federal Reserve. Nevertheless the Federal Reserve was created by the government, by an act of Congress in 1913.
So in my opinion, saying the government is not regulating interest rates is like me hiring a hit man to kill someone and then pleading in court 'But your honor, I never touched the man, I simply hired a hit man and then abdicated my role in the entire affair'.
Clearly the Federal Reserve and the Government are working together.
In answer to writerman's request for evidence here are some links.
If you prefer video format Dr. Ron Paul on Federal Reserve, banking and economy http://youtube.com/watch?v=ji_G0MqAqq8
Basically Congessman Paul backs up what I previously wrote.
In audio format you could listen to Peter Schiff's weekly radio show (my previous link was wrong should have been europac.NET not europac.com):
http://www.europac.net/radioshow_archives.asp
His latest show starts off slow, but begins to pick up speed once the guests start calling in.
http://www.europac.net/media/PeterSchiff_09-24-2008.mp3
Peter Schiff often appears on financial news television/cable programs, he has some of the most hilarious video interviews.
Art Laffer vs Schiff - '8/28/2006-Ron Paul Advisor Peter Schiff On Kudlow & Company' http://youtube.com/watch?v=LfascZSTU4o
Another video series you might be interested in is 'America: From Freedom to Fascism' by Aaron Russo
http://youtube.com/watch?v=3ueEfRXZCVA
It's very long 11 parts, and a lot of this is about the Federal Income Tax, but it does also cover the Federal Reserve.
If you prefer text format I'm not sure were to begin, there are hundreds of authors writing about this stuff. Including lots on financialsense.com. I find Darryl Schoon quite readable http://financialsense.com/fsu/editorials/schoon/2008/0923.html
Well I was going to say what Jerome said, except in a milder form: the Fed’s actions (and Icouldbewr. makes some good points) were not regulation, not as it is usually conceived of. Whether laissez faire is in fact some kind of action, or inaction, we will leave to the semanticists.
The first point about regulations is that if one is to judge them they must be followed, and when money is concerned, this often means they must be enforced. In the present debacle, as I understand it, (I am no banker), they were bent, skirted around, ignored; and even outright fraudulent practice took place.
Ineffective regulations are worse than none at all, in a way. The perception of their presence encourages scammers, fraudsters, and criminals. (See for ex. the ‘mafia’ in Naples, though that might be a bit over the top.) But allowing the pretense of probity and legality...turning, so to speak, a blind eye...very bad.
I think I see now where I may be be failing to communicate effectively.
I believe Jerome is saying we need better regulation of the banks.
My concern is this is actually very difficult to do in practice. Obviously we haven't done a very good job recently.
Instead I see fractional reserve banking as really just being a form of counterfeiting. I don't see any benefit to society in allowing some banks to 'create money'. It's no more beneficial than allowing me to create money with photoshop and a good printer.
Perhaps the authors of the constitution felt the same way and this is why they declared that only gold and silver can be legal tender.
This is covered in the first Ron Paul video I linked to, especially at the end:
http://youtube.com/watch?v=ji_G0MqAqq8
Whose constitution are you reading?
"Perhaps the authors of the constitution felt the same way and this is why they declared that only gold and silver can be legal tender."
See Article 1, Section 8. of the Constitution of the United States.
That's where the powers of Congress relative to money is defined. It says nothing about gold or silver (or the death penalty).
http://www.constitution.org/constit_.htm#con1.10.1.5
Article 1 Section 10 Clause 5 [No Legal Tender but Gold, Silver]
"No State shall enter into any Treaty, Alliance, or Confederation; grant Letters of Marque and Reprisal; coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts..."
You are right the constitution itself doesn't mention the death penalty, instead "The original Coinage and Mint Act of 1792, which followed the Constitution, and was the statutory expression of the monetary system mandated by the Constitution, has a most fascinating penalty for those who counterfeited the coinage of the nation.
Since it has never been changed by a Constitutional amendment it still is part of the Supreme Law of the Land, and one that more of today’s politicians, elected representatives, and elite bankers should perhaps reread – if they have ever read it to begin with, as it does have dire consequences. It states:
Sec. 19. And be it further enacted, That if any of the gold or silver coins which shall be struck or coined at the said mint shall be debased or made worse as to the proportion of fine gold or fine silver therein contained, or shall be of less weight or value than the same ought to be pursuant to the directions of this act, through the default or with the connivance of any of the officers or persons who shall be employed at the said mint, for the purpose of profit or gain, or otherwise with a fraudulent intent, and if any of the said officers or persons shall embezzle any of the metals which shall at any time be committed to their charge for the purpose of being coined, or any of the coins which shall be struck or coined at the said mint, every such officer or person who shall commit any or either of the said offences, shall be deemed guilty of felony, and shall suffer death. [2]"
From: http://www.financialsense.com/fsu/editorials/gnazzo/2006/0918.html
I must admit if you want to be pedantic dollar notes aren't coins. So perhaps this doesn't apply to them. Perhaps dimes are a different matter.
"The composition and diameter of the dime have changed throughout its mintage. Initially the dime was 0.75 inch (19 millimeters) wide, but it was changed to its present size of 0.705 inch (17.91 millimeters) in 1828. The composition (initially 89.24 percent silver and 10.76 percent copper)"
http://en.wikipedia.org/wiki/Dime_(U.S._coin)
I still can't understand how Jerome can say that the Fed lowering interest rates to 1% isn't an example of regulation.
http://www.merriam-webster.com/dictionary/regulated
"1 a: to govern or direct according to rule b (1): to bring under the control of law or constituted authority (2): to make regulations for or concerning "
Sure fits this the Fed derives it power to set interest rates from Congress.
"2: to bring order, method, or uniformity to "
Yes they hold them constant between meeting.
"3: to fix or adjust the time, amount, degree, or rate of "
Exactly the Fed sets the "rate of" interest.
Can we not just say that gov't oversight of banking, management of the Fed, and lending policy were incompetently and ineptly managed, and that banks took unwise advantage of the leeway?
Too many too-big banks is a problem as well, as with FRM and FMC, and now the investment banks. We seem to have many that are "too big to fail" and that gives them unusual latitude to ignore risks.
If banks are 'too big to fail' then the rationale for private ownership fails. The essence of capitalism is too drive poor management out, and it has no superiority over state management where that is not the case.
Therefore these banks that are 'too big to fail' should indeed be put through bankruptcy with the State taking over.
Since like your self I am a believer in properly regulated private business, this would be with view to breaking them up into very much smaller entities at a latter stage for resale.
The credit of the US Government is ample to back these bankrupt institutions, providing is is not frittered away in a futile attempt to buy the assets at an enormous over-valuation to prop them up.
To get out of this mess requires tightening credit, not loosening no money down, no income, no assets easy money and endless bailouts expanding debt until the dollar becomes a washed out has been currency.
http://biz.yahoo.com/ap/080927/as_china_wef_credit_crisis.html
"Can we not just say that gov't oversight of banking, management of the Fed, and lending policy were incompetently and ineptly managed, and that banks took unwise advantage of the leeway?"
I agree with that.
Maybe we all agree that the govt kept interest rates too low. Jerome seems to consider this as an absence of regulation whereas I consider it to be poor regulation. But this is just quibbling over terminology.
My concern is that more govt bailouts/programs will require more treasury bonds to be sold. Because of fractional reserve banking issuing treasury bonds is inflationary, it causes an expansion of the money supply.
These bonds are sold into an open market. Try to sell too many and purchasers of long dated bonds may become concerned about their existing investments. They may worry that inflation will significantly diminish the purchasing power of their bond income. They may turn from bond buyers to bond sellers. That would raise the interest rate the govt must pay to sell bonds.
So far this hasn't happened, but if the bailouts are too big it will. Now US treasury bonds are considered risk-free investments. If the US govt has to pay say 20%, common mortgage/credit-card etc interest rates are going to be higher.
The key problem here is CDS's credit default swaps. This stuff took down AIG, it makes subprime look like small potatoes. Apparently there are over 50 trillion dollars of these things out there. If house prices continue to decline they could become worthless. Saving financial institutions with CDS's is going to require a ridiculously large bailout.
http://www.moneyandmarkets.com/Issues.aspx?I-Have-Seen-the-Enemy-and-He-...
Simplistic assertions:
1) The mortgage mess can't really be sorted out until home valuations are, on average, affordabe.
2) The finance market can't really be healthy until the mortgage mess gets sorted out.
Bailouts from the top-down seem destined to fail, as the trickle-down is slow to address (1).
Mass foreclosure is unpalatable and makes (2) really bad before it gets better.
Bailing out equity from some homeowners but not others is unfair, morally hazardous, and politically suicidal.
That leaves inflation - a tide to raise all boats (houseboats in this case!) -- or strong and continuing economic growth. The latter can't happen until 1 and 2 are taken care of, and in any case peak oil will likely eclipse any such progress.
Any bailout (top-down or bottom-up) is going to inject trillions into the economy. Any lack of bailout is going to require trillions in loose credit, to try to resurrect the resulting financial corpse from a massive deflation spiral.
Inflation here we come. I see no other way out other than maybe letting things grind to a halt completely. Does anybody else?
"Inflation here we come. I see no other way out other than maybe letting things grind to a halt completely. Does anybody else?"
Anyone?
Please correct me if I'm misunderstanding, but I was just reviewing my old economics textbook a few nights ago, and it isn't central bank sales of gov't bonds that causes increases in the money supply, but central bank *purchases*. That is to say, when the central bank sells bonds it accepts money which must then be taken off the books of commercial banks, reducing their reserves:loans ratio and requiring them to reduce the size of their loans. The reverse is when the central bank buys bonds on the open market; it issues a cheque that is deposited in a commercial bank, which redeems it with the central bank, increasing the commercial bank's assets/reserves and enabling it to create more loans. So, the issue of bonds is inflationary iff it is the central bank that buys them (i.e. monetizes the debt).
Your textbook is correct. But if I understand correctly it's not the central banks selling the treasury bonds it's the treasury department.
It took me awhile but I finally found the following excellent reference:
http://en.wikipedia.org/wiki/U.S._public_debt
"The mechanics of U.S. Government debt
When the expenses of the U.S. Government exceed the revenue collected, it issues new debt to cover the deficit. This debt typically takes the form of new issues of government bonds which are sold on the open market. However, the debt can also be monetized by which the Federal Reserve creates an entry on its books to credit the US Government for an amount equal to the dollar amount of the bonds the Federal Reserve is acquiring. The money created in this process not only includes the new dollars that came into existence just to purchase the bonds, but much more because this new money is now sitting in the form of checkbook money at the Federal Reserve. Under the practice of Fractional Reserve Banking this new checkbook money is treated as an asset to lend against. Economists estimate the expansion of the money supply as being many times the amount of the initial money created with the exact amount being a function of what percentage of deposits banks must set aside as "reserves".[15][16]
The ultimate consequence of monetizing U.S. debt is that it expands the money supply which will tend to dilute the value of dollars already in circulation. Thus, expanding the pool of money puts downward pressure on the dollar, downward pressure on short-term interest rates (the banks have more to lend) and upward pressure on inflation. Typically this causes an inflationary boom that ends in a deflationary bust to complete the business cycle. Note that money supply expansion is not the only force at work in inflation or interest rates. United States Dollars are essentially a commodity on the world market and the value of the dollar at any given time is subject to the law of supply and demand. In recent years, the debt has soared and inflation has stayed relatively low in part because China has been willing to accumulate reserves denominated in U.S. Dollars. Currently, China holds over $1 trillion in dollar denominated assets (of which $330 billion are U.S. Treasury notes). In comparison, $1.4 trillion represents M1 or the "tight money supply" of U.S. Dollars which suggests that the value of the U.S. Dollar could change dramatically should China ever choose to divest itself of a large portion of those reserves."
What I meant was the central bank selling bonds they had previously purchased. Their buying and selling of bonds on the open market is one way they control the interest rate.
"What I meant was the central bank selling bonds they had previously purchased."
I think I see what you mean, maybe. Are saying China selling treasury bonds would be deflationary because they would be selling bonds for dollars, hence taking dollars out of the system?
I guess that's true. But the expectation is that the they would fully divest themselves of dollars. So after selling their bonds they would then exchange their dollars (for say oil or gold or some other foreign currency or something else). So ultimately they wouldn't take any dollars out of the system, and reserve:loan ratio would not be affected.
(Although on the other hand if they sell bonds, bond prices would go down, and interest rates up. I guess that would have some deflationary effect, Something for me to think more about).
A concerted decades long effort by hordes of lobbyists. Many, many millions of dollars. Think tanks and media work. Buying Congress. Bying academia. There was nothing incompetent in the efforts by the financial industry to become America's biggest "industry". Go back to the 1971 Powell memo. It's really quite a testimony to the tenacity of American business.
No, we cannot just say it was incompetent.
cfm in Gray, ME
Jerome, let me agree and disagree with you. Yes "it was thus by design". Greenspan WAS doing his job.
It's a huge mistake to think that this mess is a mistake; that suggests we can leave it to those who made the mistake to learn from the mistake and fix it the way we'd like it fixed. What we are seeing is a fiscal equivalent of 9/11; it is intentional. Let them fix it and it won't be fixed the way we'd like it fixed. What will they do if the regulation doesn't work? Eliminate the regulation!
The role of the "market state" [vs the "nation state"] is to maximize opportunity. That typically means abdication of everything to the market and a view of the state's role as encouraging the market - not supporting individuals or communities. A rather bleak future for humanity it seems to me.
You say it was Greenspan's job to regulate the money supply; I suggest he did his job very, very well.
cfm in Gray, ME
IMO, it is not a matter of was there or wasn't there enough regulation. Any fractional reserve banking system is bound to fail in a contracting economy. Government regulators can't forsee the future any better than the bankers themselves.
The real problem comes when people are able to shift the losses to others who never took the risk. I think what 'Icouldbewrong' is saying is that the entire system is set up to be backstopped by the "government" ie our tax dollars and the value of our currency. If it were a free market system (as it generally was before the Federal Reserve) then the bank stockholders and depositors would suffer the loss and people would quickly learn to stop placing their money in the hands of "expert" bankers. The problem now is that since the government claims to be regulating this cabal, we are supposedly on the hook to bail them out. Regulation is not the issue IMO, but rather educating people that there is no magic interest fairy who will give you a guaranteed 5% real return on your money just because it is in a bank vs. a stock vs. a private investment trust. The govt doesn't backstop any other investment vehicle and it is not fair or helpful for banks to have special priviledge. If people want guaranteed stability in their savings they simply have to learn to hold commodities as every peasant in the 3rd world knows.
Yes.
Just to play devil's advocate, here, I think it's important to acknowledge the argument *for* gov't insured bank deposits, however. In the 19th C., people *did* routinely keep their money in privately run banks without the existence of central banks; (bank vaults presumably offered greater security than hiding it under the mattress where anyone could steal it... particularly gold). Unfortunately, the banking system routinely suffered "panics" generated by the rumor-mill and these rumors resulted in depositors rushing en masse to retrieve their savings. Even a bank with "sound fundamentals" could find itself in a bind without the ability to borrow short term from a lender of last resort to cover the temporary shortfall in reserves. Again, this all comes back to the fractional reserve system itself, which I think we are seriously going to have to address in the post-peak oil era.
How is Fed supervision any better? Shouldn't it be fixed somewhere in Congress, not in a semi-private agency?
There's a lot of real nonsense here but this takes the cake:
"This has been in violation of The Constitution which declares that fractional reserve banking is illegal (because only gold and silver can be legal tender, counterfeiting is illegal and is punishable by death)."
When this silliness is presented as factual it virtually negates taking seriouslyeverything else the author says.
I admit I somewhat regret including the punishable by death part. But please at least don't reward the Fed for their wrongdoing by giving them more power/money.
Even if the constitution declares only gold and silver coins can be legal tender (which still seems like the natural reading to me) this doesn't mean that the constitution declares fractional reserve banking to be illegal.
So yes I was wrong, at least on this point. Thanks for correcting me.
In general thanks for all the feedback on my comments. I'm glad I choose to make them here. In general I feel this is one of the most polite and clued up communities on the web.
I will do some more research on only gold and silver coins being legal tender, I'm not convinced I'm wrong on that yet.
"There's a lot of real nonsense here but this takes the cake:"
Have to agree.
I see nothing in the constitution that requires only gold or silver as legal tender. The only mention of gold and/or silver as "tender" is in Section 10, "Powers prohibited of States."
"No State shall enter into any Treaty, Alliance, or Confederation; grant Letters of Marque and Reprisal; coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts; pass any Bill of Attainder, ex post facto Law, or Law impairing the Obligation of Contracts, or grant any Title of Nobility."
Seems to clearly ban States from making paper money lawful tender for payment of debts but not the Federal government. Even if one argues that there is an implicit declaration that only gold and silver can be used as legal tender, then note that there is only reference to gold and silver coin, thus gold and silver backed notes would also be illegal. Better reinforce those pants pockets!
I don't know about US definitions, but in the UK "legal tender" means "stuff you can't refuse in payment", you can use anything you want if you can persuade the creditor to accept it. There are private Scottish banks that issue currency that's not legal tender in the sense that it needn't be accepted but which is accepted everywhere (even government debts).
I've done a bit more research on this issue. Here is some evidence to support my assertion that the constitution declares that only gold and silver can be legal tender:
Googling for "hamilton jefferson central bank gold and silver legal tender" provides several interesting hits such as:
http://www.financialsense.com/fsu/editorials/gnazzo/2004/part4.html
Here is a quote from page 86 of "Crash Proof" by Peter Schiff
"The Constitution denies the states the power to make anything other than gold and silver coins legal tender in payment of debts. The Constitution confers no power on the federal government to make anything legal tender, nor does it authorize the government to issue bills of credit, which was a term for paper money. In fact, in the original draft of the Constitution that power was included but it was struck down. So it was clear that the government doesn't have the power to print money. The government does not have the power to do anything but coin gold and silver, which the states can then declare to be legal tender in payment of debts.
And the reason the federal government wasn't given that power was because the framers didn't want it to have the power to create inflation. They had just experienced it first hand with the Continental dollar, which ended up being worth around 10 cents and gave rise to the expression 'not worth a Continental'.
So the founding fathers knew what they were doing. They knew inflation was a problem in the Greek city-states and in the Roman Empire and wanted a limited government without the power to issue paper money.
But the government over the years decided it wanted more power than the Constitution allowed, and the establishment of the Federal Reserve with its power to print money allowed the government to usurp power not authorized by the Constitution"
Yes, because greedy people don't exist. Nobody ever takes advantage of others.
"Nature", the journal which competes with "Science" as the world's premier science journal, has recently called for the next administration in the US to restore efforts to track the Earth's environment from space. This reminds me of how much we depend on America to do the things that a world government should do, except that there isn't one. So I'd really like America to effectively repudiate its foreign debt so that it can get back to leading the world -- hopefully it won't all be spent on military adventures.
America is keen for foreign investors to keep investing in the US. The main point of the bailout seems to be to stop foreigners suffering more losses on their poor investments, to preserve confidence. This would be a long fight that would fail in the end. I would urge America to start the printing presses now and reflate the economy in nominal terms. Instead of rolling over debt and forcing up interests rate, print money to pay off the debt as it falls due. Also where there are fire sales of productive stuff that will be needed to move to a non-carbon energy regime, then print the money to buy up those assets and particularly to preserve expertise in groups of people.
Inflation harms people holding cash. That's why it can get the machinery of commerce moving. It harms lenders, and that particularly is why it would transfer wealth from foreign investors to Americans. Obviously it helps borrowers who see their debts melt away, and most American families are in debt.
Of course it wouldn't actually work wonderfully well for all working families because wages would fall in real terms. However this is something that has to happen as Peak Oil makes us all poorer. It is just a lot easier to reduce wages in real terms while preserving or raising them in nominal terms, rather than having endless disputes about nominal wage cuts.
The only practical solution -
and one that has little chance of getting implemented.
That's what we need, an iron- fisted Secretary of the Treasury!
Shades of Andrew Mellon ... or Hjalmar Horace Greeley Schacht. Schacht was the Weimar Republic's Finance Minister, who was 'inherited' by Hitler after he took power. Schacht selectively repudiated the Weimar Republic's debt, cutting side deals with preferred lenders like J. P. Morgan. Schacht knew that Hitler was bent on war and any capital freed by his tactic would be directed towards armaments so he didn't worry about 'burning bridges' ...
But, some American Treasury Secretary might want to borrow ... or lend ... or buy from ... or sell to some foreign country in the future. That makes 'repudiation through inflation' unworkable. For the same reason, the Chinese and the Japanese don't want to 'dump' American securities, they need us to sell stuff to!
**********
I've seen all the different arguments in other places against fractional reserve lending and fiat money. First of all, there is validity in all these arguments; hard currencies have worked well but at some small level, they cannot provide the working capital that an industrial economy requires ... without the same sort of 'credit bubble blowing' that is part of fiat regimss. At bottom, ALL currency regimes are 'fiat', that is, the value of currency and an underlying 'basis' is fixed arbitrarily. In a gold regime, the value of gold to paper is fixed by the government, otherwise a gold/paper marketplace would simply be another commodity exchange. It is the imprimatur of the government that gives the gold/paper relationship the special characteristics that make it 'money'.
What matters in any currency regime is price stability. A well managed fiat regime, that bases money/credit creation on real, productive growth will ensure price stability as well as any 'hard' currency.
The only true fiat regime today is the Chinese's; the other major currencies are actively traded and relative values are determined in currency markets. Can these be manipulated? To some degree, yes. Central banks trade reserves actively to ensure liquidity and try to manage interest rates. The Chinese currency does not trade, so its value is fixed by the Chinese government ... by fiat.
That the largest share of the the US economy is directed toward financial services is unfortunate and unwise. It is hard to see how growth in this industry could be restrained when the policy of the US government is to spend freely and tax inadequately making up the difference by borrowing. Managing the borrowing requires armies of speculators and ... low interest rates. Low rates mean low borrowing costs; when inflation is 'moderate' and rates are low, the money borrowed is effectively 'free'. That this is a problem for lenders is self-evident; the government compensates by providing services that cannot be found elsewhere, such as 'security' arrangements and an open market.
The low cost of borrowing also allows for people to live beyond their means. It is easier - as the Austrians would suggest - to APPEAR wealthy when money is cheap than otherwise. Unfortunately, the low return on lent money requires creativity to use money to make money. Since the average citizens have neither the opportunity or the means to gain returns on their savings, they spend all and hope for the best. Those with means become speculators ... in houses and condos, life insurance policies, stocks and bonds .... and derivatives. If they cannot earn money from money the easy and less risky way, they will go in the other direction.
I agree with all here who suggest a new kind of economy is in order. One problem is that all systems are grounded ... one foot in human nature. It is unlikely that an educated person would relish tilling the soil or laboring over the anvil when the chance exists to sit in a comfortable office and send emails to persons like him or herself. This is a preferred state and those achieving it will be emulated. This desire is what drives the economy, not the productive needs of the tillers and laborers. This work can be done by others, overseas if need be.
I don't know in the long term whether this truly is a preferred state, but obviously it is so in 2008!
The shift from financial services to 'something else' is taking place right now. In the short term, all phases including the productive phases will be affected. It isn't easy to separate out the 'productive' from the 'non- productive'. Nevertheless, what is happening is a market clearing event. All who speculate on margin - with borrowed capital - will be 'wiped out'. The banks, finance companies, 'investors' of all kinds without cash ... will gp out of business. How this helps the country remains to be seen, it appears arbitrary and does not give value to anything in the end but cash. ... A transition from a state where money has overarching value to a state where money has become the only value ...
Keep in mind that in 1932, the country was at the point of revolution, with armed bands in stalwart Iowa and stockbrokers given the day off once a week to sell apples on Wall Street. (From 'The Glory and the Dream' by William Manchester.)
Not something to look forward to ...
Some ways to increase the savings rate (besides increase the Fed's fund and discount rates) would include exempting from taxes all earnings of those who forego Social Security and Medicare, for as long as they do so.
Another would be give tax credits to banks who set savings rates higher than would be set by the normal relation of savings rate and the discount rate.
Another would be a new issue of US savings bonds that pays a high rate of return.
Another would be 'health insurance bonds' that would give the holder a specified access to health care. This would not only reward saving but also reward keeping healthy.
>>>>>>>
Of course banks don't trust each other. "Theres is no honor among thieves". On the topic of energy related,
of course its has energy relations in so much as savings accounts will be kept at a minimum if not closed , due entirely to economic reasons by the depositors (read you and me) at the banks.
Heck! Starbucks and Walmarts in the USA are closing stores. Does anyone think its not because of the high cost of energy? How many headlines must one read untill they "get it"?
Lets qoute a oft repeated headline currently the theme
in anyones local MSM rag...."The elderly must choose between heating their home or eating food" .... hmmm ... is that a correlation?
Note; I don't use words like "heck" in real life. I do it to sound folksy, like when McSame says "friends"
Gosh, I bet you all knew that already.
It's not a qustion of "no honor amongst thieves". It's the hard fact that banks have no money to lend to one another.
As I noted over on European Tribune:
And I found this in the meantime in the FT:
These clauses used to be part of the "boiler plate" legal documentation of financings, ie standard wording that was there 'just in case', but that nobody worried about because it was never used. It was drafted initially in response to doller funding difficulties during one of the oil crises in the 70s, and almost never used since, but now it's at the heart of what we have to deal with.
Hello Jerome,
This weblink below maybe pointing to the worst problem developing from the global credit crisis:
http://www.cnbc.com/id/26904496
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Lending Coming To A Halt?
Agricultural stocks are down on word that fertilizer demand has been down--why? Agricultural stocks are getting hit hard today: CF Industries [CF 91.78 -18.42 (-16.72%) ] down 18 percent, Agrium [AGU 64.00 -10.85 (-14.5%) ] down 12 percent, Terra Industries [TRA 30.42 -7.48 (-19.74%) ]down 20 percent, Mosaic[MOS 76.05 -8.54 (-10.1%) ] down 11 percent.
Citigroup downgraded the group on word that urea (a nitrogen product used in fertilizers) prices were down substantially on what appears to be weak demand.
Why is demand down? Traders have been speculating that the farm harvest now requires its largest seasonal financing requirements, and that FARMERS ARE HAVING TROUBLE GETTING FUNDING.
----------------------------------
With 80 million more mouths to feed every year-->the demand for food certainly doesn't go down, and grain reserves have been shrinking for years now.
This will just make more hungry kids incentivized to pick up an AK-47 plus extra bullet-clips in their pink bunny backpacks [photo]:
http://www.msnbc.com/news/1974473.jpg
Bob Shaw in Phx,Az Are Humans Smarter than YEast?
I think you are right. We don't think of the link to agriculture. There is also a link to oil production, and to electrical production. If there is a link to electrical production, there is also a link to the internet.
All of these things could cause a worst case crash to happen. It would not be pretty.
Hello Gail,
Thxs for responding, as I am always grateful when a TopTODer sees one of my postings as reply-worthy. I hope you, and all the other talented TODers, can bring more of the much admired data analysis to this worrisome farming finance topic.
Sunshine and gentle, regular rains 'push' to make the plants grow, but far distant I-NPK and local O-NPK must be 'pulled' by money/finance/lending for purchase, transport, then final topsoil application to drive towards Liebscher's Law of the Optimum and avoidance of Liebig's Law of the Minimum.
IMO, the global suicide rate of subsistence and richer farmers is already much too high, and the Third World rioting for I-NPK occurs much too often. The very last thing we need is farmers missing the optimal, seasonal sowing and fertilization timeslots as this reduces harvest yields or worse.
Subsidizing I-NPK is common in many poor countries, but this will inevitably crash and burn when govts fail and this finance 'pull' function collapses. The loss of crops, topsoil, and O-NPK composts in Haiti, Cuba, Myanmar, Philippines, TX/LA, etc, due to hurricane flooding combined with the storm surges sweeping these non-substitutable Elements offshore is not good news either. Lastly, the dire flooding from the dam rupture in Nepal, India, and Bangladesh has probably sent these areas into further Overshoot decline.
++++
We are evolved to sit in the dark, the problem is starvation.
Nobel Winner Borlaug: Without I-NPK, It's Over.
Bill Doyle, POT's TopDog: We need record harvests from here on out to avert famines.
UN FAO: one billion people now suffering from food insecurity.
Former Pres. Clinton: Close the landfills--Recycle the O-NPK and other vital Elements.
++++
Repost of my feeble analysis of the UN FAO Fertilizer Forecast [57 page PDF Warning]:
ftp://ftp.fao.org/agl/agll/docs/cwfto11.pdf
-----------------------------------
Current world fertilizer trends and outlook to 2011/12
[Page 14]...High oil prices could depress the use of oil-based fertilizers which have been behind much of the increase in farm production during the past half century.
[Page 15]...Freight rates have become a more important factor in agricultural markets than in the past. Increased fuel costs, stretched shipping capacity, port congestion, and longer trade routes due to altered trade patterns, have pushed up shipping costs...The impact of transport costs on fertilizer prices will grow as fertilizer is produced in fewer localities close to raw materials and ample energy availability.
[Page 15]...The decline in the United States dollar against most currencies since 2005 has made imports from the United States cheaper and lessens the true impact of the rise in world prices. This is a major reason behind the brisk world import demand that, in spite of high prices, shows little sign of retreat.
[Page 17]...Conversion of grain areas to vegetable and fruit production will translate into higher fertilizer demand as average application rates for the latter is about double those for grain crops.
[Page 20]...At the same time, concerns about the impact of nitrogen and phosphorous losses to the environment will call for increased recycling of organic nutrient sources.
[Page 29]...Nitrogen and phosphate production capacity exists in only 11 and 6 countries respectively. High transport costs in land locked countries contribute to prohibitively high fertilizer prices. An array of other factors which further limit input and output markets, severely constrain fertilizer use.
[Page 34]...Nitrogen use efficiency is declining as nitrogen fertilizer consumption increases faster than grain production.
Yields and nitrogen use efficiency should be increased simultaneously.
------------------------------
Bob Shaw in Phx,Az Are Humans Smarter than Yeast?
The link to agriculture was critical in the free silver and greenback movements and demands by the populists in the late 1800s. Unfortunately the silver interests and the Democrats made a deal with William Jennings Bryant to sell out his constituency. Imagine, the typical farm worker of the time being conversant in the details of hard coinage vs debt and fiat currencies and caring about such stuff in an election! For those interest, Goodwyn's "The Populist Moment" is a wonderful read. It's also part of the WILPF course on Corporate Personhood.
cfm in Gray, ME
Why would there be significant demand for fertilizer in Autumn in the northern hemisphere? Autumn is the time to harvest, not plant. The farmer needs money to buy fuel and pay workers to harvest.
The article concludes with:
We need to reduce our reliance on debt. Instead of paying obscene bonuses to executives, companies need to keep enough cash available to cover operating expenses. Change the business model or perish.
A lot of fall fertilization is done in the northern hemispere, synthetics like anhydrous ammonia take time in the soil to change to a form that plants can use. Natural fertilizers like finished compost could be applied right at the time of spring planting and be readily available for plant growth.
I believe you have this in reverse:
I-NPK is immediately available to plant roots, whereas O-NPK takes time to release.
The fall planting is for crops like winter wheat and other small grains, which are planted now and harvested late spring to early summer.
Synthetics are much like applying raw manure to soil, the soil must break it down before plants can make use of it. Compost is in a form where the breakdown has taken place and will provide benefit to the soil and plants right from the start and will also increase soil moisture retention. Compost tea is another soil pick me up that has benefits far beyond what one might think.
Hello BlueTwilight,
Your Quote: "Why would there be significant demand for fertilizer in Autumn in the northern hemisphere?"
Thxs for responding. Think of a Pull-supply chain network. Google fertilizer on allocation and prepayment of fertilizer. Countries/Govts that subsidize I-NPK for farmers negotiate with Canpotex, BelarusKali, etc, far in advance the amount and price. Buying a candy bar at a Quikee-Mart is Not Logistically the Same as buying 10,000,000 tons of high potency DAP, then getting it manufactured, then getting it finally dispersed across millions of acres of Indian land to meet an ideal planting timeslot.
The FT has brought out an interactive comparison chart of past bail-outs, such as the RTC and that in Sweden, to the Paulson proposals:
http://www.ft.com/cms/s/0/1908e2e6-8a4c-11dd-a76a-0000779fd18c.html
For a quick eye-ball, this site, using bubble!-o-graphy gives a short history of US Gvmt. bail-outs 1970 - present.
probpulica
Jerome,
I think that taking houses off the market can work together with insulating them and bringing them up to Architecture 2030 standards: http://www.architecture2030.org/ These are major retrofits and so require the level of labor we've been putting into building too many houses to begin with. I think also that the cost of aquiring the houses can be kept low by using eminent domain to seize foreclosed properties at 10 or 20 cents on the dollar.
Such a policy discourages foreclosures while ensuring that the assets the government acquires can be resold in a way that the upgrades are payed for. It is possible for the government to hold such assets for some time while banks pretty much have to unload foreclosed properties quickly, affecting the market negatively. Setting the (low) price at which foreclosed properties will all be purchased also gives a definite minimum value to the assets banks hold so that they will all know what they are worth at minimum. If they work with their customers to avoid foreclosures, they would be worth more. Finally, with a stock of much improved homes ready to come onto the market as contitions improve, we won't have builders continuing to build more homes than we need. That idles some equipment, but the labor still get used on the upgrades.
It seems to me that revoking the corporate charters of "to-big-to-fail" institutions because they are no longer in the public interest might be the most direct way resolve that problem.
Chris
Jerome,
In the UK we are juggling accounts in 5 banks - having juggled funds out of HBOS - heading for Lloyds - hastily diverted to Clydesdale. This is nothing short of a f*g joke.
The UK banks as yet are showing no sign of changing their habits nor showing the slightest understanding of the mayhem they have created.
I'd like to see the Boards of several banks rounded up and put in prison, their personal assets seized.
Most of our politicians are bereft of worthy cerebral activity. Buying a house in France still looks a good option to us right now.
In the UK, the government underwrites £35K in savings per person per bank - and I think the government has managed to work out that having one super bank would reduce their exposure dramatically.
Some principals need to be established in the media and in the political arena:
1. If you have borrowed money, that money must be repaid come hell or high water no matter the hardship it brings upon the individuals or families. Failing that, individuals declared bankrupt should be denied access to credit - for ever.
2. If you have paid too much for "assets" - tough - you shouldn't have been so greedy. Pay down the debt regardless of hardship. The hyper inflation that is heading our way will soon reflate the value of your house.
3. Savers need to be treated like Gods.
4. As already mentioned, bankers and financiers who have played poker with savers money need to be sent to prison - they are scum!
€
While I understand the sentiment behind your point #1, I think it is misguided. Unproductive debt drags down the economy. That is the purpose of bankruptcies and recessions -- to clear out the unproductive debt to make the eocnomy healthier. Now, there should be sufficient penalties to bankruptcy to make it undesirable except in extremis. However if you don't let people and businesses get a fresh start, they will forever be unproductive to the economy. I will also add that the abominable US bankruptcy act of 2005 (written, bought, and paid for by the banking industry) is an attempt to embody your point #1 in legislation. Repealing it and allowing some kind of humane bankruptcy protection is one of the prerequisites for ever getting out of the financial mess the US is in.
Your other points, I heartily agree with. #3 is especially important. The US economy in particular (but the UK and some others as well) need to retool from a borrow-and-spend economy to a save-and-invest economy. The Western central banks have been punishing savers for decades, so of course no one saves. Boosting savings is another pre-requisite for getting out of our current mess.
Certainly predatory bankruptcy laws are counterproductive -- I fully support self-responsibility, but that goes just a little more for an amoral business than a human individual, especially since a business when bankrupt will disappear and its people can coalesce into new businesses, while an individual cannot, but must lead a life nonetheless.
Therefore, the onus must rest more heavily upon businesses to not make poor loans than to expect individuals to avoid them. This doubly true of credit card companies, which can raise rates at a whim and force debtors into adverse situations.
Probably one aspect of a populist bailout that I would support would be to limit credit card rates to a few points over prime, limit late fees, and eliminate over-limit fees. Certainly a grantor can choose to eliminate a credit line, but the usury that results today is indefensible.
Not much chance of that if the Democrats win - Joe Biden is heavily involved in BOA's credit card operations, and his son is an executive there.
Just out of interest, we would not have to go to some radically different system to get a very different result, personal indebtedness and credit could be much constrained simply by regulation what information private companies were able to collect on people they wished to loan money to, as they do in France:
http://www.pbs.org/wgbh/pages/frontline/shows/credit/more/world.html
This leads to a far different pattern of indebtedness:
http://news.bbc.co.uk/1/hi/world/europe/7635327.stm
BBC NEWS | World | Europe | French hold out against credit crunch
French industry seems to have had no historic problems getting finance under this regime, indeed the lower availability of high rates of return due to real estate and other financial speculation may have concentrated minds on constructive investment.
Italy also has a very low level of personal indebtedness, although the profligacy of the Government there largely negates it's benefits.
shargash, you are undoubtedly correct that too severe retribution upon those who have withdrawn equity from property to buy a car and to have a holiday to discover now that they cannot repay, and since they have zero real equity in said property decide to simply walk away, would likely have long term negative impact upon the broader economy. Hence a need for balance will be required.
Right now in the UK the political debate does seem to be biased towards too much sympathy for those who have gotten into trouble in debt and too little regard for the anguish of savers. And since I also see inflation bearing down - savers will be dealt a triple blow of foregoing the pleasures of consumerism, anguish about security of savings be it cash or investments and seeing their assets dwindle in light of 10%+ annual inflation.
Getting the balance right between protecting savers and the broader economy will be a hard balancing act.
We need to return to the days of a 20 year mortgage at the end of which you own your property, that you maintain and with 5% per annum capital appreciation, become genuinely wealthy - the owner of a real heritable asset. Return to such frugal responsibility will I imagine leave the UK in recession for a number of years.
Welcome back! We missed you at ASPO-USA!
I am not sure that you can be so negative toward the borrowers. The model using huge debt doesn't work. A model using a lesser amount of debt might work with growth, but once the growth drops back, the defaults start.
If would have been fortunate if all of our MBA friends had had to learn a little science when they received their MBAs--the world is finite. All of their wonderful assumptions cannot be true for more than a short time-period. Then the whole system melts down.
hello Euan,
I'm completely with you in your "old-fashioned" approach/thinking about sending thieves to jail, making people stand behind their debts and ..... last but not least, moving to France. I'm here in the Cevennes already and I love it..... although my other home is in Lefter-Vermont ..... ( on the way to becoming the Second Vermont Republic { after secession } ).
It seems like being "old-fashioned" is deemed cruel, unusual and radical these days.
I say "they" should pull the plug on the $gang$ter$ and get the WPA back up and running ..... building Alan's electric RRs and livable communities in the USA.
Hope you decide to move to France.
sydney
Agreed on all points.
If they don't have a job to pay back their debts they can go and pick lettuce after the illegals are shipped out.
Euan,
Come and see us over at TAE sometime ;)
We aren't headed for hyperinflation. It isn't possible to increase liquidity once a cash hoarding mentality has taken hold. Anything 'printed' (debt monetized) ends up disappearing into a giant black hole of credit destruction. Credit spreads show how little trust there is in the system, and this cash hoarding will only get worse. The effect on the velocity of money will be pernicious, and that will push many more institutions, companies and individuals over the edge in a downward spiral. Welcome to the liquidity trap.
Inflation divides the underlying real wealth pie into ever smaller pieces, each of which is worth less. In contrast, credit expansion creates multiple and mutually exclusive claims to the same pieces of pie. There is the appearance of great wealth, but it's a hollowed-out illusion. We've already lived through the expansion and are now facing the contraction phase where the excess claims will be extinguished en masse. In other words, this is the point where credit loses 'moneyness' (to use Doug Noland's turn of phrase). As credit represents the vast majority of the money supply, we are facing a great deflation as rapid credit destruction causes the money supply to collapse.
No amount of beggar-thy-neighbour currency devaluation will come close to equaling the effect of credit destruction on the money supply, either in terms of time or scale. We are very close to a cascade in the markets, the effect of which will be to increase the pace of credit destruction enormously. Without confidence there is no liquidity.
Stoneleigh - we have disagreed on this point for a fair while now - and whilst I lack your macro economic understanding I continue to allow my thoughts on this to be guided by what I see happening in real time and would make the following points:
1. Energy and food prices remain stubbornly high and I expect this to continue since they are fundamental needs where global demand continues to outstrip supply. Energy producers (OPEC and Russia) will cut supply to support price. The world population is still rising.
2. Discretionary spending is being squeezed big time in the UK - and Europe? Where recently individuals may have borrowed to fill a gap they are now expecting employers to do so. The large public sector in the UK is already rolling out strikes - this will get worse as pay demands spiral upwards.
3. OECD governments have got their check books out - I think we will see deficits and borrowing spiral to crazy heights whilst they try to prop up "the system".
4. The only solution for the OECD is high inflation - to inflate away all that debt - and hence I believe that is what we will get come hell or high water.
What you describe is essentially the end of capitalism, and whilst you stand a reasonable chance of being correct, I just don't think that the ECB, BOE, FED or BOJ will stand back and allow the system to collapse. Befoe long the global banking system will be in state ownership and those states will soon recognise a correlation between liquidity they provide and tax receipts.
In the UK, I think it is roughly 40% of homeowners own their homes outright and likely have savings. This underwrites a certain level of economic activity.
What appears to be happening is superficial and misleading. Like an iceberg, most of the substance is beneath the surface.
1. High energy and food prices are not inflation. Relative prices change all the time for many different reasons. Changes in the supply of money and credit are far more predictive of economic discontinuities.
2. Changes in wages and prices are not inflation, but merely a lagging effect of changes in the supply of money and credit, among other factors.
Pay demands won't be spiraling upwards. It's impossible to ignite a wage-price spiral when thousands of people are about to lose their jobs. Employees will have no bargaining power at all. I expect war in the labour markets, where public employees will probably find themselves locked out until they agree to wage and benefit cuts, or sacked en masse and invited to reapply for their former jobs at lower wages and no benefits. Sure they'll strike, but they'll be crushed.
3. Government spending will be limited by the bond market, which would impose punitive interest rates for profligacy. In debt-junkie economies that would be fatal, and it wouldn't even succeed in increasing liquidity in the absence of confidence. They could achieve the worst of both worlds - high long term interest rates and still no liquidity.
4. See #3 above. We could see inflation eventually, if the international debt financing system collapses, but we would already be pretty far gone by that point. We have to live through credit deflation first though, which means holding liquid assets now and converting into hard assets later.
5. A debt bubble implosion is unavoidable, whatever governments and central banks do. They do not have the power to stand against the forces that have been unleashed. Even a $700 billion bailout pales into insignificance in comparison with a derivatives bubble that is at least a thousand times larger. That market is composed of leveraged bets, but the casino is on fire.
6. Most people are very likely to lose their savings and investments due to bank failures and plummeting assets prices. Even those who own their own homes outright still have to pay bills on an on going basis. If they lose their jobs or retirement income that will be difficult. The houses they own will also be worth vastly less than they are now (my prediction is 90% less on average), and will be essentially unsaleable for a period of time. I don't see any kind of cushion underwriting a viable level of economic activity.
Does your 90% less estimate come from the level of leverage at the banks? How do you figure?
Thanks,
Chris
The loss of credit will hit purchasing power extremely hard. How many people would be buying houses, and at what price, if they had to pay cash for them at a time when cash was exceptionally scarce? There would be virtually no price support at all, either for finished homes or for the materials needed to build homes. During the Depression some of the best farms in the US were foreclosed on and auctioned off, but received no bids at all. No one was prepared to part with cash as cash was so valuable.
When there has been a huge upswing in prices without any added value, there follows an over-reaction to the downside. For a while I would expect houses to be worth less than the price of the building materials they are composed of, reflecting the fact that much of the recent over-build has been an exercise in negative added value.
Britain (along with Ireland, Spain, the Netherlands etc) have seen housing bubbles that make the situation in the US look tame in comparison. The pain they will cause as they implode will be almost unbelievable. I remember the property freeze-up of the early 1990s in the UK, and that was absolutely nothing compared to what's going to happen this time.
I know that farms could get it pretty bad though my grandparents did OK holding their farm and helping displaced people as they could. I wonder though how strong the effect of the Home Owners Loan Corp. was on stabilizing housing. It refinanced one-fifth of the nonfarm, owner-occupied, mortgaged homes in the US during three years starting in 1933. http://www.time.com/time/magazine/article/0,9171,792832,00.html
There was a call the re-establish it by Rep. Kirk of Illinois at the beginning of the year: http://www.house.gov/list/press/il10_kirk/HOLC_release.html
It would seem that homes might retain some value if the path were smoothed a bit.
Chris
"Even a $700 billion bailout pales into insignificance in comparison with a derivatives bubble that is at least a thousand times larger."
The notional amount outstanding of credit derivatives was $54.6 trillion at the end of June 2008. The gross credit exposure before netting is estimated to be $12.7 trillion and credit exposure after netting, but before collateral, is estimated to be $2.7 trillion.
So whilst still a huge number $2.7 trillion is not at least a thousand times larger.
IMHO we are living through a crisis seen only once in a lifetime.
Here is a summary of part of the crisis I found interesting:
http://www.telegraph.co.uk/finance/financetopics/financialcrisis/3087021...
Some criticized the bailout plan as it gives banks a tremendous boost, props up the incompetents who lost the money in the first place, and it leaves U.S. citizens with some low value-high risk properties and greater risk for inflation. There are too many vacancies and now the recession is hitting commercial properties as they overbuilt and business is in a recessionary cycle and may not be able to increase spending for office space. I heard there are 15 office buildings in Washington D.C. under construction or renovation and none of the space is preleased as the market has dried up.
I have almost zero debt, I should not call for easy credit to the slob who just lost all his billions. If they want to capitalize banks they should capitalize the best in the business, not the worse and get a piece of some good securities for tax payers.
Excellent idea! I hope the policy makers acknowledge this common sense statement.
Lehman Brothers had a debt of about $613 billion when they filed for bankruptcy 9/15. LEH was delisted. The assets as collateral behind their debt is not enough to pay their creditors. The creditors want to get their money back in order to be able to reimburse depositors who want their money back. The FDIC might have to bail out bank depositors.
There was a report early in the foreclosure crisis of a California strawberry picker who bought a lavish house only to default on payments. How did this happen? Was there any way to verify the statements he wrote on the loan application? Some loan originators were asking people to cheat. No income or asset verification can lead to trouble. Mortgage fraud was rampant.
If you take all the foreclosed properties off the market with a monetary expansion you are not solving the problems that loose credit led to. It is stupid to buy houses to keep them empty in order for banks to loan out mortgage money for people to go out and build new homes.
David Merkel makes some good points on valuing toxic debt here:
http://seekingalpha.com/article/97534-bailouts-are-painful-and-should-be...
Clearly the interests of Wall Street and the taxpayer are diametrically opposed.
Both Bernanke and Paulson are creatures of the banking system , and therefore they are unlikely to either make propositions or administer policies in a manner advantageous to the taxpayer.
The fundamental problem with America: sustainable, human-scaled home economics has been replaced by complex global market economics driven by cheap oil, cheaper credit and the unquestionable, unconditional and absolute faith that the false God Technology will provide something for nothing in perpetutity.
James Howard Kunstler's observation that the present generation of Americans have devolved into overfed, violent clowns is accurate. Collectively Americans have thrown all their energies into the accumulation of fiat money represented as shares in suburbia - an abstract cartoon fantasy which is rapidly approaching scrap value.
As a resident of one of the fastest growing counties in the United States, I have witnessed firsthand the careless destruction of vital natural resources, such as high quality soil, pasture and mature forest; to host the non-productive onslaught of McMansions within which the foreign made salad shooters, plastic wading pools, and Hi-Def video game consoles are consumed in decadent privacy. The Home Owners Associations have banned the productive and vital activities which once blessed the land now divided into five acre parcels: planting of orchards and gardens, the keeping of bees, chickens, goats and cattle. They have banned the deployment of solar arrays and wind generators. The local public schools have stopped teaching students the truly critical future skills: how to lay stone upon stone, weld metals, fabricate machine tools and breed livestock. These suburban residents will soon take measure of their true world status: lilies of the field - now a blight on the land.
At what point does "unsustainable" become "terminal"? The Peak Resource race continues, but strangely enough, the first exhausted contender wins the race: phosphorous, cheap oil, atmosphere, credit, antibiotics, et al. Regardless of the winner, the food math is clear: 1) Grocery stores empty within three days. 2) It takes sixty days to grow a radish. 3) Civilization is four missed meals away from anarchy.
I believe we are witnessing the final chapters of the American Experiment. The nation under One God - the Almightly Dollar, will soon demonstrate how overly complex systems which grow too fast approach a terminal state. In biology, we call this cancer.
Today we debate publicly, for the first time, whether we should cut out the cancer, or prescribe additional painkillers. It is clear the "fast and easy" pharmaceutically addicted culture will choose the pill.
At the end of this "treatment session", the US will awaken into its Greater Depression, followed by another war, very possibly a civil war. Within our lifetimes, human slavery may once again work the cotton fields as angry brother kills angry brother over scarce resource policy while great leaders emit powerful messages named for the city from which they are addressed. Please read Neal Brandvik's insightful essay Death of a Petro-Confederacy.
"Are Humans Smarter Than Yeast?" - Heinburg
http://www.npr.org/templates/story/story.php?storyId=95099470
The Week America's Economy Almost Died
Very enlightening story about at least one aspect of the crisis. I had no idea this was how business functioned. Amazing.
I am not sure, but I think the Fed and Treasury panic as much as individuals and businesses.
I can see why credit markets seize up due to fears of broad insolvency, but that still doesn't mean that buying the worst assets is the right answer. Why not loan against the best assets, and thus give commercial banks the liquidity they need for good-credit customers.
The first goal should not be to bail-out the worst banks or preserve the worst mortgages, but to keep the best healthy.
Obviously, however the best run banks are not the most politically powerful and connected banks. The most connected banks are in trouble because of rampant and reckless derivative speculation.There isn't anyone looking out for or managing the USA economy-all that exists is a number of competing special interests, and the connected banks are right at the top. Take a poll right now and ask the USA public if 700 billion (to start) should be transferred to rich investment bankers or alternatively, spent on nuclear, wind, solar and rail to prepare the country' future. The results would probably be like 93% to 7% in favor of energy investment-the "leaders" know this and couldn't care less about what the citizens want or what happens to the country IMO.
In a book i am currently reading, it states that the future walks in the present. This is in reference to those who can see the subtle signs of things to come in the near future as a educated guess, in other words. The sky is turning black, the wind is starting to pick up, and was that a rain drop i just felt? time to get ready for one heck of a storm...
Jerome, great insight. With the piggy banks dried up combined with the lack of trust this makes for some very interesting times. I think the TED spread speaks for itself and is a sure indicator of things to come. Whether it be a leading indicator or a lagging indictor, I’ll let you decide that. Before we start planning to make policy changes for the future I think it’s important that we need to recall that U.S. needs to face the harsh reality that with:
• its cumulative National Debt and current fiscal budget deficit levels;
• its loss in manufacturing jobs;
• an over-extended consumer base; and,
• its enormous and ‘each month growing’ trade deficits (which at the end of August stood at an approximate cumulative U.S.$6.9 trillion, increasing at a rate of approximately U.S.$60 billion each month) it is now, and will increasingly become, dependant on its trading partners. Further Reading
With a dependence on our trading partners policy changes become more difficult and make feel like a ball and chain. (think China early 90’s). What we can do, and very easily, is create awareness of our past mistakes. Ask them, learn from them and slowly examine your simple ideas at the end of your post, which really summarizes all to be done.
Cheers Jerome
Some relaxing music for these stressful days
http://it.youtube.com/watch?v=tZrBRQn6K0A
Enjoy :-)
Jerome,
Your ideas of
are all excellent. However, they are only partial steps along the way to the ultimate goal of an economic system with long term stability: the complete elimination of capital markets Capital markets require composite economic growth for proper functioning. This is not a controversial assertion. Read Adam Smith, whose advice was to make sure that you live during a period of continuous economic growth because otherwise you will be royally screwed. If anyone out there believes that they have discovered a new form of arithmetic which allows them to conclude that capital markets will work just fine in the absence of composite growth please don't bother explaining it to me. I have better things to do with my time than to get into arguments with the inventors of perpetual motion machines.
I know, of course, that many people believe that the end of economic growth is not near at hand and that some combination of investment in new energy sources and higher efficiency can comfortably drive many more decades of global economic growth. My best engineering judgment (for what it is worth) tells me that such people are wrong. But even if they are right, I do not see why keeping the pedal to the metal with respect to growth until physical necessity forces us to ease off is an intelligent policy. In a finite world sooner or later we have to shift our economic focus to maintaining human physical and psychological health (the only economic outputs worth producing) with a minimum amount of production and consumption. The sooner we begin this shift of focus the less likely we are run into problems of disastrous overshoot in our use of resources. Capital markets are a terrible tool for achieving this new kind of economic goal.
Of course, the minute you challenge the usefulness of capital markets as an economic tool people start raising the specter of the man-eating socialist monstrosity which any person with half a brain knows is the only alternative to capital markets. Perhaps I do not have even half a brain, but it seems to me that the financial universe has room for more ideas than those contained in the Wall Street investment bank and the Soviet five year plan. Jerome's suggestions point the way to an alternative; What about public finance? What if the extenders of credit were not investment banks, mutual fund managers, insurance fund managers, and so forth but public banks whose reserves consisted of tax monies. The purpose of these banks is not to increase shareholder value as rapidly as possible and line their own pockets in the process, but rather to make sure that vital forms of economic production are carried out in a continuous and uninterrupted manner and to make sure that necessary new enterprises (coal is going to disappear some day) get funded. If a business needs an infusion of cash they go to a appropriate bank and request a loan. The bankers evaluate the request in the light of the importance of the product being produced, the likelihood of eventual repayment of the loan and so forth. If they deem it in the public interest that credit should be extended to the business in question then they do so. Since this is a process of investment as a public service there is no need to charge interest. Such banks could also advance credit to startup enterprises which are deemed to represent a worthwhile risk. The bankers receive salaries for services rendered, and their income does not depend on the volume of loans that they float.
Such public banks could also turn down requests for credit on some other basis than the risk of short term loss. Suppose some entrepreneur comes to the banker with a proposal to manufacture some new form of home entertainment system with a wall filling screen and incredible 3D special effects unheard before in the video industry. "They will sell like hotcakes," the entrepreneur assures the banker. The public banker scratches his chin and says, "Yes, they may well sell like hotcakes over next several years, but given the long term resource situation, manufacturing such systems in probably not a wise choice. I am going to have to decline to extend you any credit for this project."
You may ask what will happen to private investors if public finance becomes the norm. The answer is that they will have to get used to making money the old fashioned way: by working for it. What a concept! I never cease to be amazed by the number of people who call themselves 'conservatives' who tout the virtues of hard work and self-reliance, and at the same time believe that the right of rich people to get richer without lifting a finger is the only basis for a moral society.
One objection to such a system of public finance is the claim that such public bankers will inevitably be dunderheaded bureaucrats who are incapable of recognizing a good investment opportunity even if it hit them over the head with a sledgehammer. Only ruthless, heartless bastards, who are trying to get rich quick can possibly make intelligent investment decisions. It is strange, though, how the ruthless bastards running Wall Street now do not seem to have shown much intelligence with respect to the long term health of our economic system. I am extremely skeptical that short term greed can be turned into long term intelligence simply by passing a bunch of rules and regulations. If you want someone who is making investment decisions to display long term economic and ecological intelligence, then you have to make such intelligence part of his or her job description. Even in the glory days of the post WWII economic expansion governed by the Bretton Woods system of monetary management, there was not an investment banker in the world who acted as a steward of the earth's resources.
If the idea of investment as public service is a laughable joke, and if human beings are incapable of foregoing any short term luxury for the sake of long term economic stability, then civilization as we now know it is doomed. In this case attempting to prop up capital markets for as long as possible in the hopes that some other set of poor bastards will be left holding the bag when resource overshoot brings the growth party crashing down has a certain cynical logic to it. You will have to pardon me, however, if I do not sign up as a working member of this school of 'thinking'.
I think what has to happen is that governments will use taxes for large projects of any type.
Or wealthy individuals will pool their savings for projects (like Lloyd's of London).
In general, you are saying what I have been saying for a long time. Debt makes no sense except in a growing economy. I can see a few instances where short term debt would make sense (financing goods being delivered by ship, for example). Most other forms of debt--government, business, or individual will be virtually impossible to pay back in a world with fewer resources.
I don't follow your logic.
If you have capital and are living in a world with negative growth, then holding onto it implies a stable store of money.
Fiat currency is unlikely to have this quality in this sort of world-wide condition - Japan was a special, not a general case, and monies from there could be invested abroad, albeit at a low effective rate of interest.
The investment problem then becomes one of minimising your losses year on year, rather than making money.
Someone still gets to hold the biggest pile of chips, even if the pot is smaller.
Perhaps it is even possible to argue that the reason for the lack of investment in infrastructure such as energy production, distribution and transport is due to the artificially high return rates available from asset bubbles in real estate and finance, certainly this underinvestment has been most pronounced in the bubble economies.
According to this line of thinking the collapse of those bubbles would perhaps result in more of the admittedly reduced resources available for investment going towards real productive assets.
About the only other places they can put their money is into agricultural land and commodities - and rising oil prices would increase the return on other energy investments.
BTW, there have been times when the economy was contracting, seemingly without destroying the pattern of lending at interest, although precise figures are difficult to come by as the economy was less sophisticated.
14th century Europe springs to mind, after the Black Death, when falling population his the economy hard.
It should be noted though that in England, for instance, they rapidly switched to a less labour intensive economy based on sheep.
When put to their shifts people are pretty inventive in keeping things going, regardless of theoretical concerns over resource limits.
You might still find it worthwhile to pool your money with other fat-catters to create something like Lloyds. After all, other peoples' losses can become your gain. Or you might set up a corporation to sell tulips, some investments in a far remote colony like Peru, Hudson's Bay or Massachusetts Bay, or to build a toll road. Negative growth doesn't mean one can't still extract a profit at other's expense - especially if the state backs you with its power and force. That sort of arrangement is why corporations were for a long time not allowed in the US - private profits and socialized costs.
Large corporations are going to have an increasingly difficult time post-peak. We focus here at TOD on how much energy individuals use, but industry uses a huge amount more.
cfm in Gray, ME
I just have to play the devil's advocate here. Without debt there is little possibility of growth. Borrowers can not fund good ideas that the market is willing to pay for and savers can not get the the maximum return because of it. They both suffer because of a misallocation of resources to less productive uses.
As for debt being paid back, that is a bizarre goal IMO especially for governments, corporations and other entities which do not die but live for all practical purposes in perptuity.
It was the prospect that the Clinton administration might balance the budget that nearly panicked Allan Greenspan and Wall Street. They knew that without a constant supply of new debt they would not be able to manage the economy in the Fed's case and be out of business in Wall Street's case.
We know that when debt is paid off the money goes to money heaven in our system and it is born again when it is relent. Paying off debt supposes that a fiat money system can exist without it which is clearly false.
Going to gold has been tried in previous centuries with dismal results. The money supply is limited to the supply of gold and there is little prospect of redistributing it. The result is mercantilism and poverty on a large scale. The poverty of the early industrial revolution is well documented.
Even for individuals there is little to be gained in paying off debt provided that the interest rate is not usurious. All that matters is that the interest and principal payments are within budget.
Since individual interest payments are usually of a higher rate than savings, the regular making of payments offers greater return than interest on savings in the bank. And it happens automatically without making decisions like should I buy this 2.96% CD or not.
Not only that, but when debt is paid off the inflation protection of it is lost. This is no small consideration in a fiat monetary system.
Debt carefully taken on at reasonable interest rates to buy productive assets or those likely to increase in value over time is a good thing. I have paid off debt a couple of times. Big mistake.
Innovation toward efficiency may well replace energy-fed growth. For any given process, as energy becomes more expensive, increased operational efficiency will offer a competitive advantage. The entire meaning of ROI will have to be re-thought in a system where debt is no longer the primary driver.
This statement is too strong. Any time a piece of infrastructure is built that does not immediately pay for itself somebody incurs a debt. Yes, there will be a lot less infrastructure building in steady state economy than in a growing economy, but if we never build anything that does not immediately pay for itself we will be heading all the way back to neolithic villages. What does not make sense in an atomized, every nuclear family for itself cultural environment is private debt. If I have earned the right for my family to consume economic output, I am not going to loan it to you and risk losing it without some kind of compensation. Therefore we need community financing and community assumption of debts. This kind of financing can coexist with private enterprise. If a local farmer with a track record as a productive food producer suffers damage to his buildings and equipment due to some sort of natural disaster, it would make sense for the community to provide the financing to get him back on his feet. In some cases it might make sense for the farmer to eventually pay back the debt, and in other cases the meat and produce that he provides on an ongoing basis would be the only repayment. In a steady state economy the real return on investment is maintenance of a given level of goods and services produced and not excess economic production.
It may also be helpful to get your head out of the US-UK info-space.
There is no major financial crisis on the Continent, although folks are worried about declining demand for exports.
Here's a round up of German opinion (in English): http://www.spiegel.de/international/germany/0,1518,580709,00.html.
Here's an FT article that looks at the view from Beijing: Prudence guides China's outlook.
The European system is certainly not in the clear - the capital ratios of European banks make the US banks seem conservative:
http://www.ft.com/cms/s/0/41960e1c-8972-11dd-8371-0000779fd18c.html
FT.com / Comment & analysis / Comment - European banking on borrowed time
AIG was instrumental in assisting European banks in evading their regulations for capital ratios:
China also has vast amounts of hard-earned capital sunk in investments in the US which are looking worse by the day, so much in fact that if they refuse further finance they are likely to cause a crash and loose the lot.
Both Europe and China are also seeing a major trade partner likely to have much reduced demand.
The epicentre might be in the Angle-Saxon countries, but the fallout will be worldwide.
However, if you consider a shared equity scheme, where the Government offers to fund part of the equity in a house, up to say 30%, then the money could go a lot further. e.g. $140,000 spread over 5 million houses.
To me this is far more preferable than the Government buying worthless junk financial instruments.
Great article by the way.
The government can apparently make a persuasive (to congress people) case that the economy will really falter if something is not done. Suppose they mean that houses will lose 80% of their 2006 value among other effects. In that case, it is justifiable to buy up foreclosed houses (seize through eminent domain) at 20% of their 2006 value to avoid this coming to pass. This policy would set a definite floor to the value of mortgage backed securities so that such things will become liquid again. This should keep quite a lot of houses either off the market in government hands or off the market because no foreclosure occurs. So long as we don't keep on building more houses, housing prices should stabilize and the drain that is letting all the value out of the system would be plugged.
I would go further, I would licence the technology to produce windows with R15 described here: http://greenbuildingelements.com/2008/03/17/super-insulating-vacuum-glass/ and add these windows along with more standard insulation to all the homes while they are sitting off the market. Other energy efficiency upgrades are also possible.
Chris
The U.S. needs to return to sane lending practices. Your plan holds houses off the market to artificially inflate the cost of real estate keeping them unaffordable and encouraging a return to irresponsible lending practices. There are three choices:
1. Real estate devalues until it is affordable with old fashioned lending practices, such as, a 20% down payment and the loan less than 3 times the borrower's annual income.
2. Incomes rise while real estate stagnates to make it affordable.
3. Inflation that makes the U.S. dollar worthless while real estate effectively devalues.
I say option 1 is the best solution contrary to my financial interest since I own real estate without debt.
As to those R15 windows, last time I researched the subject low-E coatings had a warranty, and presumably a lifetime, of 10 years after which the R-value deteriorates. Double paned windows with argon in between are notorious for leaking reducing their R-value to the level of an air gap. Will a vacuum remain between the panes for the 100 year lifetime of a house, or are these windows just another scam to sell expensive windows with temporary low thermal conductivity?
Actually, I am thinking that we are artificailly deflating the cost of homes having built too many of them. I should have mentioned that holding the improved home in reserve could discourage building since the price of homes won't start to rise again. I am presuming that the price of houses will continue to fall for a while as the program takes effect.
You are correct that the durability of the windows needs to be checked. I suspect that in a vacuum, coatings last longer. To maintain vacuum in solar thermal systems getters are introduced. This is a technology that is also used for vacuum tubes: http://en.wikipedia.org/wiki/Getter My stereo is still working and it is probably 30 years old with the original vacuum tubes. I think the main claim here is that the windows can be manufactures at a price that could work.
Since the idea is to upgrade existing homes, using 50 year windows might be just fine if the houses that are already 50 years old. And, surely, the windows in a 90 year old house could be replaced if they paid for themselves in 5 years.
Chris
In the U.S., and likely in other countries, we seem to be unable to come to grips with two simple facts.
1. Stock prices can go down, way down.
2. Housing prices are not guaranteed to go up or stay level.
Investing is like playing musical chairs. The music will stop and some people will be left standing. They do not deserve to be given a seat at the expense of others. Every homeowner and shareholder made a personal decision to spend their money as they saw fit. No one forced them to buy a house or buy stocks.
No one is "entitled" to make money without risk. The applies to everyone from wall street CEO's to the homeowner who gambled they could buy a house with no money down and sell it for a substantial profit in a year or two. If you decide to invest money, you decide to take the risk.
Let's not overcomplicate this problem. Complexity is what got us into it.
If we can't agree on the financial basics each person must understand and take responsibility for, there is no hope we can come to grips with the much larger problem of personal responsibility for energy and global warming. This latest financial "crisis" is just a rehearsal for what is to come. In fact, it might be the best wake up call we could have hoped for. Pain forces people to change. Enabling people, via a 700 billion dollar bailout, means BAU.
There will be no 700 billion barrel oil bailout or 7 inch sea level reduction bailout.
PriorityX
Right on the mark my friend.
THIS should be repeated over and over like a mantra as it is what supposedly the system was all about, responsibility for your actions. If this was followed through then decision maker would be forced to think harder. No immediate gratification !!!!
Bail out says there is no responsibility and passes the buck to the ones that can not defend themselves. If you do not have information or understanding of what is going on then it is hard to defend oneself. D.C. and Wall Street likes that.
Actually, in the US, yes someone did.
The Federal government tax laws are such that you are forced to buy a house in order to get the mortgage deduction.
Since companies no longer give employees pensions and instead force them to accept a 401K plan, employees are forced to buy stocks (directly or through mutual funds).
________________________
Nice try.
Nice lie.
But the truth is other,
If closer to look you bother.
This morning in WSJ, there was a story about a Texas hedge fund manager who made an investment in a bank earlier this year, in response to that bank's search for new capital. Amount was, I think, $1.3 billion. On Thursday, his investment was wiped out by US gov. The bank was WaMu. Will any investor make a new capital investment in any other US bank now? Investors may have been stupid in what was going on before, but not so stupid as to throw capital into a raging government sponsored tornado.
So, we can be sure that 'the market' will not start working again until all the $700 billion has been spent and all the banks have been seized (excepting, maybe, the last one).
If you are referring to TPG Capital (formerly Texas Pacific Group) (TPG's Bank Bet Goes Awry as WaMu Costs $1.3 Billion, Bloomberg, Sept. 26, 2008), there appears to be something going on behind the scenes. On Sept. 20, 2008, Bloomberg reported in WaMu's Four Bidders Have $110 Billion More to Spend After Rally:
TPG waived its right to $1.5 billion on a sale it knew was being arranged and then loses its entire investment in WaMu shares. Anyone paying attention to the details knows that TPG allowed this loss to happen to themselves. We can only speculate what TPG got to avoid being prosecuted for gross mismanagement.
According to Denninger, the capital structure in the US is being dismantled in favor of the "favored" few (GS and JPM etc) who are being allowed to "steal" from the others (WaMu, Wachovia etc.). The Gov esentianlly raided WaMu and handed its assets over the JPM for pennies on the dollar while wiping everyone (creditors and shareholders) out with no recourse to a bankruptcy court and without following the prior rules of the capital structure. Under the prior "rules" of capital structure, regular shareholders would be wiped out first, then preferred shareholders and lastly creditors at differing levels of risk. What the Fed does now is simply strip the assets with no recourse and had them over to the favored banks. In the process, the Fed takes over the liability for the "toxic" MBS etc. The bailout will lead to further asset stripping and will likely discourage investors from investing in any financial institution that is not GS or JPM or MS or any other of the "favored" banks. Further consolidation in the financial markets and the US Gov; the roots of corporate fascism are taking hold.
http://market-ticker.denninger.net/archives/594-MAKE-THIS-VIRAL-STOP-THE-BAILOUT!-SAVE-AMERICA!.html
I just heard on MSM a commentary on a soccer match:
"And the players are going down like Wall Street Banks at the moment"
Was cruising articles on Mortgage Implode-O-Meter and saw this article that makes too much sense and may explain the Fed's recent panic-mode to push the extreme bail-out program:
London Banker's comments about Brad Setser: Extraordinary Times
This is pretty much what Jerome's earlier post on the subject was saying. But it also seems to me to be what Congress wanted done in the initial response. http://europe.theoildrum.com/node/4563#comment-413582
Chris
Need we ask why Wall Street and the government treat us like idiots?
As an argument FOR the trillion dollar bailout they say "It won't really cost that much because we're gonna use the dough to jack house prices right back into infinity and beyond and sell them back to you at prices even more absurdly inflated than they used to be! That way, the money comes back, see?"
Jeesh!
If that's a 'Hail Mary' solution then I've got a new prayer: "Hail Mary pray for us marks; now, before, during and after the bell, Oh Well."
And while I'm on the subject, where's all the hyper-partisan internecine combativeness in Congress now when we need it? They can't agree on carbon emissions in two decades but they can buddy up on saving the high priests of greed in two weeks?
Yeah yeah yeah. They talk talk talk about how it violates their capitalistic free market principles and all (not to mention how it violates what their constituents are screaming at them to do) but don't watch their lips, watch the money. Gone in 60 seconds.
Ah, well. Thanks for listening. Now I'm going back to my garden (which, by the way, is still producing tomatoes, cukes, eggplant, broccoli, kale, and sweet potatoes like crazy in this last week of September in Hamburg, Illinois!)
It worked out ok in full scale in Sweden in the early 1990:s. We avoided sizing up our economy even more and thus less productivity were lost, the terms were fairly harsh motivating banks to prioritize private/market money before government money and our government got bank equity(??? ovnership) to a large degree backed by crashed real estate and the real estate recovered its value within a decade. But most of the crashing real estate were urban real estate, not suburban and during this period we have had strong urbanization in our larger towns and this trend continues.
If your government buys ownership of suburbia and it does not recover its value due to high MPG cars, plug-in hybrids, investments in energy efficiency, etc, you wont get the value back to the government budget in 2-3 presidential terms and much worse the sunk investment will be lost. You only get brownie points for "creative destruction" if the resources get used for something new.
It will be intresting to follow this development and learing a little about economy!
You are probably aware that the USA is far more similar to Mexico in almost every way than Sweden. Listen to the financialsense broadcast this weekend-a former GS employee who worked with Paulson has the opinion that Paulson is clearly aware that his bailout plan as structured could not possibly benefit the USA or address this problem.
Jerome
What happens when France (or even Italy or Germany) gets to stage that US is at now? Will the Eurozone act in concert or will parties look to their own? I haven't looked in detail at the roadblocks but my gut feel says Euro won't survive if credit unwind continues on this pace...What then?
.
I agree. I think the internal pressures will be too great and the euro will either fail entirely or will be left to a much smaller group of countries. I say that sadly as a fan of European integration.
Nate, we are close to the US situation in many ways, e.g. over the weekend the largest Belgian bank Fortis had to be rescued with a partial nationalisation. The interesting thing here is that Fortis is widely used in Belgium (half the population, including me with no deposit protection:-(, Netherlands and Luxembourg and all three Benelux countries took part in the Fail-out plus ECB and other EU interested parties. So that should partly answer your first question, at least for Benelux, we have yet to see any other cross border government support and there is no mechanism for this.
Here in the UK the Bradford & Bingley bank (ex building society/mutual) failed and was nationalised with some assets being quickly sold to Spanish bank Santander. Yet another bank afflicted by the need to gamble in order to make higher returns taking on huge deals with GMAC for toxic loans. All of the ex building societies have now either been bought by banks or failed. Unfortunately they just didn't understand the risks they were getting into.
In Germany, Hypo Real Estate has been handed €35bn of credit guarantees by the German government and other banks. They had already made substantial writedowns because of its subprime exposure but the latest problem was the reluctance of other banks to lend to them.
In Icelandic, the government has nationalised Glitnir, the island’s third largest bank. Again the problem is dependence on wholesale funding.
"my gut feel says Euro won't survive if credit unwind continues on this pace"
As i wrote last week, the big immediate problem is that the market has frozen and nobody is wanting to lend much further than overnight. The situation has deteriorated in the last two weeks. Also previously acceptable collateral is no longer acceptable and some banks are only accepting US, German and Swiss govt bonds. If the credit unwind continues at this pace then business will start being more and more impacted to the point that large companies reliant on multiple currency financing will grind to a halt. This is why the Paulson deal was IMHO a done deal for who would wanjt to be responsible for that and i said start the printing presses, sure there are some tweaks as i expected. Yes, it sucks, but right here and now i don't think we have any other choice.
Watch this space for more Fail-outs, mergers, liquidations and desperate measures.
"Unfortunately they just didn't understand the risks they were getting into."
Didn't understand? Or were deliberately mislead / defrauded?
"Also previously acceptable collateral is no longer acceptable and some banks are only accepting US, German and Swiss govt bonds."
Ironic isn't it, that three of the nations most dependant on imported energy are thoguht to have safe bonds (???) Go figure...
RC
In Strahan's book: The Last Oil Shock (pp 116-122), one learns that the standard model for economic growth of the neoclassical economists is the Solow model which under estimates the importance of energy by a factor of 10 to 14 (according to Robert Ayers et al).
Being at peak energy thus means we are headed towards negative economic growth. The only investments that can mitigate the negative economic growth are those in energy production or energy efficiency. In my opinion, the latter will have a higher return because we currently waste so much energy and it is becoming more and more difficult to produce energy. I think it too late to avoid a major world wide economic downturn.
Bailout rejected, whilst the global finance system will now collapse pronto,
YOU DIDN'T LOSE ANY FREEDOMS OR POLITICAL POWER YANKEES, the government voted with the people.
Miracles do happen, confetti and party hats all round.
The people won round 1-this one is just starting-the evildoers definitely have the money to buy 12 votes (they get it from the taxpayers).
And so I hope people will not relax. Keep hitting them with either 1. no bailout of any kind or 2. something along the lines of Denninger's plan that focuses on reform, not baling idiots out.
Cheers
Yeah that's right, they are going to go round the block and have another go at the drive by hit on democracy.
Hope Mish and Denninger et al are still on the case.
Anyway, the global stock market is a sea of green at the moment so who needs a bailout anyway, just a bit of theatre so the neo-cons can screw up what's left of USA's already fragile grip on "freedom".