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Minsky Meltdown ahead?
August 29, 2007 8:56 AM   Subscribe

Minsky Meltdown ahead? Named after Hyman Minsky, an economist who was known for his research concerning financial crises, specifically asset bubbles based on credit cycles. [much more inside]
posted by umop-apisdn (75 comments total) 15 users marked this as a favorite

 
Quoted from the WSJ:
When times are good, investors take on risk; the longer times stay good, the more risk they take on, until they've taken on too much. Eventually, they reach a point where the cash generated by their assets no longer is sufficient to pay off the mountains of debt they took on to acquire them. Losses on such speculative assets prompt lenders to call in their loans. "This is likely to lead to a collapse of asset values," Mr. Minsky wrote.

When investors are forced to sell even their less-speculative positions to make good on their loans, markets spiral lower and create a severe demand for cash. At that point, the Minsky moment has arrived.

The basis for the good times was the real estate market, leading to risky lending stratagies such as ARMs (adjustable rate mortgages) mf and later even riskier NINJAs (no income no job no assets).
Risky loans were made assuming an appreciation of real estate, the debt could later be repaid with a mortgage on the increased value of the property. This worked most of the time. [Wikipedia: the housing bubble in the
US and -although a bit different-
UK]

The 'severe demand for cash' culminated a few weeks ago on August 15th as the Federal Reserve lent $7 billion, the Bank of Japan lent $10.5 billion and the European Central Bank lent 48 Billion Euros to other banks.

On Thursday August 30th, it is expected that for the first time since federal housing records began 1950, median house prices will have fallen nationally in the United States [see e.g. Forbes].

Preivously on MF: Foreclosure-Radar, the $7 billion put option from hell that expires Sept. 22nd (BTW the Federal Reserve has its next meeting Sept. 18th), A world of Casey Serins, Damnit Jim, I'm a doctor not a stock broker!.
posted by umop-apisdn at 9:02 AM on August 29, 2007


So, if you had recently liquidated a position, does this mean that cash should be a good thing to have? I haven't really seen banks pushing up their return rates for money market accounts. In fact the return on most CDs seems to have fallen since last month.
posted by a robot made out of meat at 9:13 AM on August 29, 2007


Yeah, this is a lot of reading material for me to go through over the next few days. Hell of a post, thanks.
posted by shmegegge at 9:18 AM on August 29, 2007


We should have gone into a horrific recession after the stock market bubble popped in 2000. The size of that bubble was far bigger than the one in 1929, so the consequences should have been even more severe... something on the order of severity of the Great Depression, although I think a 1970s-style stagflation writ large was the likeliest outcome.

What happened instead is that the Fed panicked and hit the liquidity button, flooding the system with incredibly cheap money. New money chases inflation, and causes more of it, so it went into housing, and then people started leveraging themselves up into massive debt to buy more of it.

Bubbles have been called the fiscal equivalent of a nuclear weapon; the only way to avoid the fallout is by not having one in the first place. The stock market bubble was a huge deal, though probably survivable.

But the Fed, which set off the original bubble with easy money, tried to fix the fallout with more of the same medicine that got us sick in the first place. To stop the fallout from one atomic bomb, they set off two fusion weapons instead.... and we didn't even dodge the fallout from the first bomb, we just delayed it. The explosion of the other two bombs just sent the fallout into orbit, but it's still up there, and we're still gonna eat every rad.

At the very least, we're going to have a full generation of very hard times, tougher than anything in living memory. I think we will be exceptionally fortunate if the United States continues to exist as the same legal entity.

In terms of likely outcome, my operating theory is that we'll go into a short-term deflationary crunch, but the Fed will open the floodgates and send us into an inflationary death spiral. Not just nasty horrible stagflation for two decades like we would have had from the Y2K pop, but an actual hyperinflationary death spiral for the dollar.

With fiat currency, I just don't think a true deflationary collapse is possible... although with the unbelievably massive leverage in the derivative positions, I suppose it could happen. Money could be destroyed from debt default faster than the Fed can lend new dollars into circulation.

There's one name you should remember in the coming crisis: Greenspan. This is all his doing. His refusal to ever allow a recession, ever, led us directly into this mess. He never met a problem he couldn't cover up with liquid paper.

Clinton is also highly culpable; his strong dollar policy destroyed our manufacturing sector, which is how we would have dug back out of the crisis.

As much as I despise Bush, I don't think his team has any clue what's going on with the economy; they're so into the free market religion that they probably don't even realize the whole system has gone rotten under the floorboards.
posted by Malor at 9:20 AM on August 29, 2007 [16 favorites]


robot: in deflation, cash is king. In inflation, anything BUT cash is king. Pick yer poison. :)

Oh, one thing I should add: they may be able to hold things together this time. But each time they put it off, they make it worse.

Reality is knocking at our door, and we're desperately piling furniture in front; it'll be back, with a sledgehammer, a bulldozer, a tank, or a freaking meteor from orbit if it has to. The longer we wait to open the door, the more thorough the destruction will be.
posted by Malor at 9:26 AM on August 29, 2007


Malor, your posts in economics threads rock.

just fyi.
posted by duende at 9:27 AM on August 29, 2007


You know, when I read predictions like Malor's (without judging their probability, I know nothing about that) I start thinking "shit, if that happens, I see a long dark period of violent fascism down the line for us, as we desperately give our votes to any charismatic psycho who promises to wrest wealth from neighboring nations for us."
posted by shmegegge at 9:28 AM on August 29, 2007


I normally am a hard-headed rationalist and not much given to listening to theories of upcoming Ragnarok from the fringier quartiers.

But there's something about this current stock market situation, with its attendant implications for the unsustainability of the current American lifestyle, that captivates me.

I don't really believe that I'll be eating out of a tin can around a campfire in the ashes of Seattle-That-Was five months from now, but for some reason I love hearing about it.

So spin your yarns, Muse! Tell us another tale of the fall of the American Capitalist System!
posted by gurple at 9:28 AM on August 29, 2007 [4 favorites]


When I read things like this I keep thinking about Kevin Kelly and the 'Long Boom'....
posted by lodurr at 9:29 AM on August 29, 2007


also, I am NEVER having kids. There's no way I'm going to be able to raise anyone to survive what's coming, or be able to tell them what jobs will keep them safe. or pay for their food and clothing.
posted by shmegegge at 9:30 AM on August 29, 2007


I don't really believe that I'll be eating out of a tin can around a campfire in the ashes of Seattle-That-Was five months from now, but for some reason I love hearing about it.

We do love tales of hard times. But is it schadenfreude, or just a hunger for adventure?
posted by lodurr at 9:33 AM on August 29, 2007


shmegegge: the charismatic dictator is exactly what I fear most out of the coming crisis.
posted by Malor at 9:35 AM on August 29, 2007


Malor, your posts in economics threads rock scare the shit out of me.

Corrected by the invisible hand of the mark up.
posted by sparkletone at 9:43 AM on August 29, 2007 [2 favorites]


An in-depth look at the causes of the current uncertainty from the Economists' Forum at the Financial Times. The article and commentary are well worth reading for a good explanation of what's been happening.

Boringly, I still think this will end up as a financial crisis rather than one with repercussions for the real economy, but the jury is still out on that.
posted by patricio at 9:47 AM on August 29, 2007


First, great post. There is a lot to learn from this perspective.


In looking at the ARMs and NINJAs that banks and institutions served out to customers, why are they not being penalized? I would think they need to close, divest their assets and be punished for stupid loan policies.

There were risky loans, they knew that and were happy to collect the monthly fees in good times. Well, tough times are here. Something that strips the companies would be the downside to the risk - bailouts don't seem to do that for me.

I ask - I am curious.
posted by fluffycreature at 9:47 AM on August 29, 2007


But there's something about this current stock market situation, with its attendant implications for the unsustainability of the current American lifestyle, that captivates me.
My big fear is that we are about to witness some sort of wholesale scavenging of the economy by the wealthy in order to protect their asses when it all crashes down, while the rest of us are left to wonder where the hell our jobs and retirement savings went.

I mean, more than they are scavenging already, of course.
posted by Thorzdad at 9:52 AM on August 29, 2007


And I wonder... what in world should I be doing with monies locked in a 401-K?

I mean, I can move it around, but -- even if I were inclined -- hiding it under the mattress isn't an option. Is there such a thing as a "safe" place to put a retirement nest egg?
posted by deCadmus at 9:53 AM on August 29, 2007


fluffycreature: where are the bailouts to the mortgage lenders? A large chunk of the more egregious lenders have indeed gone bust.
posted by patricio at 9:54 AM on August 29, 2007


fluffycreature - In looking at the ARMs and NINJAs that banks and institutions served out to customers, why are they not being penalized? I would think they need to close, divest their assets and be punished for stupid loan policies.

If you're a US voter, you'll want to be voting for Obama, then.
posted by gurple at 9:56 AM on August 29, 2007


I think the risk of a complete meltdown is way overblown. Nothing here seems to be as bad as the LTCM panic of a few years ago.
posted by empath at 10:09 AM on August 29, 2007


Who profits from the scare of the big collapse? Just curious...
posted by HuronBob at 10:28 AM on August 29, 2007 [1 favorite]


Obama's solution seems to me to be more of a vote getting propaganda piece, than an actual solution. While I'm not really on the side of the banks that made bad loans, penalizing them at this point, would just make things worse. If all the banks that made bad loans end up closing, things are going to suck for everybody, whether their mortgage is covered or not.

Really, the time to address this would have been several years ago, when it wouldn't have been a politically popular stand to take.
posted by doctor_negative at 10:35 AM on August 29, 2007


Really, the time to address this would have been several years ago, when it wouldn't have been a politically popular stand to take.

I like Obama in general, but I'm with you there, dr_n. These companies were doing atrocious things in terms of the public good, but they weren't doing things that were illegal, or even regulated.

As Obama points out, the fault lies with the government for failing to impose tighter regulatory restrictions. Seems to me that the logical thing to do is to impose those restrictions now. How can you go back and penalize companies for doing things they weren't told not to do?
posted by gurple at 10:41 AM on August 29, 2007


Is there such a thing as a "safe" place to put a retirement nest egg?

Gold and silver, though keeping it physically safe might be a problem. Or you can try Euros as a hedge, though a collapse will probably take down most currencies with it.
posted by rolypolyman at 10:50 AM on August 29, 2007


Who profits from the scare of the big collapse? Just curious...

These folks, for starters.
posted by rolypolyman at 10:52 AM on August 29, 2007


How can you go back and penalize companies for doing things they weren't told not to do?

If the Obama article is accurate, the lenders lobbied the government to lessen the restrictions, which in turn lead to this fiasco.
posted by drezdn at 10:53 AM on August 29, 2007


The size of that bubble was far bigger than the one in 1929, so the consequences should have been even more severe

I find it hard to take Malor's quantitative predictions seriously when he says things like this. There were institutional changes implemented as a response to the Great Depression, such as deposit insurance, to prevent runs on banks, and the Fed has learned to deal with panics, well, like they do, and not like Malor thinks they should. The clamping down on liquidity by the Hoover Fed is arguably what made the depression Great, not like the more short-lived panics that we had previously.

And the theory that recessions/depressions are a necessary consequence of the boom that came before, is, um, not universally held.

I agree that there is a storm coming, more than the markets are anticipating, but I don't buy the idea that it will be a decade or a generation long. Based, that is, on what we've seen so far. If China wants to start an economic war against us, all bets are off.
posted by anewc2 at 10:55 AM on August 29, 2007 [4 favorites]


I dunno, but as I've grown older it's become obvious to me that any opinion on predictive macroeconomics is automatically wrong.

It's sort of a "this statement is false" kind of thing. Doesn't matter what the opinion is, or who's saying it. Wrong.
posted by aramaic at 10:56 AM on August 29, 2007


There are always people, like Malor, who predict the end of the world as we know it. Just as there are always people who predict that the current boom is unprecedented in history in that it will never turn into a bust.

Neither of those views is ever correct.

We're in for some rough times, but the economy isn't going to implode. You're not going to be eating dog food. You're not going to be eating eachother. Not in the bad way, anyway. Don't do stupid things like buy worthless dot-com stock in or take out huge mortgages with no money down and no income, or run up tens of thousands in credit card debt and, even if its painful for a while, you'll get by.
posted by Justinian at 11:00 AM on August 29, 2007 [1 favorite]


Short Justinian - what anewc2 said.
posted by Justinian at 11:01 AM on August 29, 2007


who predict that the current boom is unprecedented in history in that it will never turn into a bust.

Neither of those views is ever correct.


So, in other words, nothing new ever happens.
posted by Malor at 11:03 AM on August 29, 2007 [1 favorite]


Generally, the people hyping impending doom are bond traders and gold speculators.
posted by empath at 11:06 AM on August 29, 2007


New things happen all the time. Things don't go on being bad forever, nor do they go on being good forever. And they very, very rarely ever go as badly or as well as the doomsayers and cheerleaders predict.
posted by Justinian at 11:08 AM on August 29, 2007


Stock valuations (S&P 500 index P/E) are currently at an 11-1/2 year LOW, which suggests it's a great time to get into the stock market.
posted by ZenMasterThis at 11:10 AM on August 29, 2007


unless they go even lower.
posted by shmegegge at 11:11 AM on August 29, 2007


You have to be committed to the longer-term, shmegegge, like 5-7 years at least.
posted by ZenMasterThis at 11:13 AM on August 29, 2007


ZenMaster - and people piled in today.
posted by patricio at 11:29 AM on August 29, 2007


It's funny hear about predictions of the end of the world on a day when the Dow is up 134 pts and the Nasdaq and S&P are both up over a percent.

The world will never end because the world today is set up differently than the one in 2000, 1998, 1990, 1987, and 1929. With each new disaster, the underlying problem is identified, fixed, and that problem does not come back. some new problem might come up, but not the old ones. In other words, the reason housing is so bad for the first time in living memory is because our living memory instructs us how to avoid problems with dotcom bubbles, program trading fiascos, insanely overleveraged hedge funds etc. At the end of this, housing prices will in line with the long term 20-30 year trend. Some people rich and poor will get burned, just like some people rich and poor got burned on dotcoms in 2000.

What the smart money is doing while we all panic over the housing collapse is trying to figure out what the next booming asset class will be. Commodities? Emerging markets? China stocks?
posted by Pastabagel at 11:29 AM on August 29, 2007


Who profits from the scare of the big collapse? Just curious...

The Morlocks, for starters.
posted by Joey Michaels at 11:33 AM on August 29, 2007 [1 favorite]


I predict the next booming asset class will be Franklin Mint Collectible Plates. I've sunk my life savings into 'em in anticipation.
posted by Justinian at 11:36 AM on August 29, 2007 [1 favorite]


empath: Generally, the people hyping impending doom are bond traders and gold speculators.

I don't know about bond traders but people that decide to invest in gold come to that conclusion for a reason.

Would it not seem plausible that people that prefer investing in gold have concluded that other venues of investment are a combination of more risky and less rewarding?

If a person had little trust in the present market as a whole, but wanted to secure his wealth in something, what would he pick?

Certainly not a currency, since all markets are tightly coupled. Certainly not any market based on manufactured goods since their turnover depends on the overall health of the economy. Certainly not real-estate in the US (or the UK) since that market is sorely overpriced due to exuberant ponzi scheme like speculation.

What's left? Basic raw commodities that will always be needed and have lasting value, i.e. storage is cheap.
This excludes energy and the means to produce energy, since, in a way energy and the means to produce energy cannot really be stored without loss or maintenance costs.

What's left? Basic raw commodities that last: precious metals, preferably metals that will also always be needed in the electronics industry (e.g. silver, don't know about gold).

If I had to buy today, I would buy silver and gold certificates and hold for about a year. (FYI, I don't have any (yet)).
Then I would go to the next in the list: I would buy stock in wind energy companies (Nordex and Vestas). (FYI, I don't have any here (yet) either).
posted by umop-apisdn at 11:52 AM on August 29, 2007


Malor:
who predict that the current boom is unprecedented in history in that it will never turn into a bust.

Neither of those views is ever correct.


So, in other words, nothing new ever happens.
The impression I get from the favourites and the approving comments, is that people think Malor is expressing fairly reasonable, mainstream economic thinking.

However, if you're predicting something completely new and unprecedented in the history of capitalism you need pretty strong evidence for it.

Bubbles and their bursting have happened pretty frequently for the last couple of centuries, only rarely leading to 30s or 70s style problems, and nothing much worse than those crises.
What happened instead is that the Fed panicked and hit the liquidity button, flooding the system with incredibly cheap money. New money chases inflation, and causes more of it, so it went into housing, and then people started leveraging themselves up into massive debt to buy more of it.
If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see a correspondingly huge increase in inflation.

That hasn't happened. Which suggests that the increase in liquidity wasn't that great. Big enough to cause a property bubble, yes. But not big enough to cause a "hyperinflationary death spiral." If you're going to panic about inflation, you really ought to be able to point at historically high inflation levels.

If anyone's interested, VoxEU had a couple of interesting FAQs on the Fed's intervention: Part 1, Part 2.
posted by TheophileEscargot at 11:57 AM on August 29, 2007 [1 favorite]


aramaic: It's sort of a "this statement is false" kind of thing. Doesn't matter what the opinion is, or who's saying it. Wrong.

Justinian: There are always people, like Malor, who predict the end of the world as we know it. Just as there are always people who predict that the current boom is unprecedented in history in that it will never turn into a bust.

Neither of those views is ever correct.


I think there are two different things going on here:
  1. Observer effects will tend to negate or substantially alter the outcome for anything that matters as much to as many people. So if the Malors of the world predict doom, some folks are going to act to avert that doom. Some of those folks will have an effect.
  2. Some people are just plain wrong.
posted by lodurr at 12:02 PM on August 29, 2007


If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see a correspondingly huge increase in inflation.

That hasn't happened.


That hasn't happened for two primary reasons.

A) The government inflation figures are bogus. I've posted at some length about this before; you can look up my past history if you want more info. The recent financial threads have had great contributions on that score from other posters as well. Check Heywood Mogroot's contributions, he had some really good stuff on that score. Government inflation numbers are ridiculous fantasy.

B) China and Japan are 'importing' our inflation by keeping their currencies artificially weak against the dollar to improve their exports. They print their currency to buy ours, which artificially overstimulates their own economies. That's the reason Japan has come out of the doldrums from THEIR real estate bubble; they've been suffering for way more than a decade, and they still would be if their central bank wasn't being reckless. They refuse to let the zombie companies die, so their economy never recovers. And Chine is growing at something like 15%/year, which is wildly destructive... growth that fast results in terrible maladjustments.

There's an ancillary reason as well: the advent of globalization is the most powerful deflationary force ever. When you can pay Chinese workers a strand of ramen a day, that makes for remarkably cheap goods. If you track the prices of things that have to be produced locally, like housing and health care and education, the prices are going parabolic.
posted by Malor at 12:08 PM on August 29, 2007 [4 favorites]


If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see a correspondingly huge increase in inflation

We have seen just that. However, with interest rates driven to the floor (here) and through the floor (in Japan), the currency didn't inflate, because leverage was so cheap.

Look at stock prices. Look at commodity prices. Look at real estate. Calculate the core consumer inflation rate using the 1990 or 1995 baskets, not the carefully changed baskets used every year, and the inflation is as clear as day. Better yet, use CPI, which reflects those strange people who actually eat food and use energy, and it's even worse.

Compound that with the horribly skewed income inflation -- if you're a C*O, your income has inflated right along with prices (the rest of us? Fucked.)

We've been living in an inflationary economy -- somewhere between 3 and 7%, for the last eight years. The Feds have tried to hide it, but the data is there. Calculate M3, and it's shows clear as day.

However, this one's been different. Before, inflation would be met with high interest rates, which would drive people to savings. This time, we've done the exact opposite, and not only are people *not* saving, they've spent down their savings. That drove the inflated economy further -- instead of saving, people kept spending.
posted by eriko at 12:31 PM on August 29, 2007 [1 favorite]


Malor:
That hasn't happened for two primary reasons.

A) The government inflation figures are bogus. I've posted at some length about this before; you can look up my past history if you want more info. The recent financial threads have had great contributions on that score from other posters as well. Check Heywood Mogroot's contributions, he had some really good stuff on that score. Government inflation numbers are ridiculous fantasy.
Well, I've just gone through the last two pages of your comments searcing for "inflation" and can't find any hard evidence of you've cited of this fantasy. Remember that anyone can take a basket of goods and monitor how the prices change over time, so it doesn't take a government to monitor inflation. If real inflation is very much higher than official figures, this should be very obvious and very easy to prove. Since I can't see such proof, I don't believe you.
B) China and Japan are 'importing' our inflation by keeping their currencies artificially weak against the dollar to improve their exports. They print their currency to buy ours, which artificially overstimulates their own economies. That's the reason Japan has come out of the doldrums from THEIR real estate bubble; they've been suffering for way more than a decade, and they still would be if their central bank wasn't being reckless. They refuse to let the zombie companies die, so their economy never recovers. And Chine is growing at something like 15%/year, which is wildly destructive... growth that fast results in terrible maladjustments.

There's an ancillary reason as well: the advent of globalization is the most powerful deflationary force ever. When you can pay Chinese workers a strand of ramen a day, that makes for remarkably cheap goods. If you track the prices of things that have to be produced locally, like housing and health care and education, the prices are going parabolic.
China's growth rate is 8.5%, which is impressive, but not unprecedented for a "catch-up" economy.

Overall, there are inflationary pressures and deflationary pressures. The balance between them determines inflation.

You've just cited some deflationary pressures. However, you're arguing that the crisis will be an inflationary death spiral. The only way that these are going to lead to inflation is if two conditions both apply:
1. These deflationary pressures suddenly cease to exist
2. The Fed and US government do not use fiscal or monetary policy to reign in the subsequent inflation.

Both those things could happen. But I don't see a reason to think they will happen. If China sells all its dollars, their exports collapse, their currency appreciates, and they suffer immensely. For that combination to happen, both the US and the China governments both have to take deliberate decisions to commit economic suicide. That seems unlikely to me.
posted by TheophileEscargot at 12:35 PM on August 29, 2007


Malor, although I appreciate and understand (I think) your reasoning for near term events, I have to wonder about your longer term projections. Let's say for argument's sake that the world sinks into a second Great Depression, and that also coincides with real Peak Oil. Let's also throw a decent size flu epidemic in there, not on the scale of 1918 but sizable. If people don't do anything until after this begins, the whole mess combined will kill, say 1 billion people? Staple goods will rise in price, and vast stretches of the world will decline. Electricity will become a plaything of the rich, same as automobiles. Aircraft will be curiosities. Most people can no longer afford long distance travel. Sanitary standards decline, more will die as public services collapse. Communications refocus on packet services to conserve bandwidth. Welcome to 1907: what's so bad?
posted by StrikeTheViol at 12:48 PM on August 29, 2007


Monetarists and Keynesians disagree. Story at 11.
posted by sequential at 12:52 PM on August 29, 2007


eriko:
If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see correspondingly huge increase in inflation

We have seen just that. However, with interest rates driven to the floor (here) and through the floor (in Japan), the currency didn't inflate, because leverage was so cheap.
That doesn't make sense. We've seen inflation, but the currency didn't inflate?
Look at stock prices. Look at commodity prices. Look at real estate. Calculate the core consumer inflation rate using the 1990 or 1995 baskets, not the carefully changed baskets used every year, and the inflation is as clear as day. Better yet, use CPI, which reflects those strange people who actually eat food and use energy, and it's even worse.
A 1990 basket isn't going to give valid results today. If it doesn't have modern products like cellphones, it's not going to include the relevant price falls.

But OK, I can look at CPI: the data is right here. For the last few years the annual inflations have been:
2004: 2.7%
2005: 3.4%
2006: 3.2%

I don't see those as being historically high. In 1981 it was 13.5%, which was something to worry about. 3% or 4% isn't that much.
Compound that with the horribly skewed income inflation -- if you're a C*O, your income has inflated right along with prices (the rest of us? Fucked.)

We've been living in an inflationary economy -- somewhere between 3 and 7%, for the last eight years. The Feds have tried to hide it, but the data is there. Calculate M3, and it's shows clear as day.

However, this one's been different. Before, inflation would be met with high interest rates, which would drive people to savings. This time, we've done the exact opposite, and not only are people *not* saving, they've spent down their savings. That drove the inflated economy further -- instead of saving, people kept spending.
M3 I believe isn't published anymore. If you have figures for it, let me know. But the only figures that you've mentioned and I can check put inflation at around 3%.
posted by TheophileEscargot at 12:53 PM on August 29, 2007


There's tons of info in the thread associated with this comment.

Keywords to do your own searching on: hedonic adjustments, owner's equivalent rent. If you do your homework, you will find that the government inflation numbers are so divorced from the reality on the ground as to be useless.

The Fed stopped reporting M3 in 2005. That was not for your benefit.
posted by Malor at 12:59 PM on August 29, 2007 [1 favorite]


There's an ancillary reason as well: the advent of globalization is the most powerful deflationary force ever. When you can pay Chinese workers a strand of ramen a day, that makes for remarkably cheap goods.

The problem here is not with the logic, it's that there is an insanely huge quantity of interrelated data that no one is looking at.

True, Chinese goods are cheaper and that would be deflationary EXCEPT for the fact that Chinese industrial growth and development has led to an unprecedented surge in the price of commodity raw materials like copper, zinc, gold (an industrial metal), as well as the ever important oil. China was a net exporter of oil several years ago, now they are the number 2 largest importer of oil after the US.

But all of these commodities are globally traded and almost universally priced in dollars so while the labor component of cost is decreasing, the raw materials cost is increasing dramatically. The net result is that the price of the basket of goods is inflating at pretty much the historical average.

I didn't look at your posting history, but you are correct that inflation numbers have been massaged to get to a result. But the commodity prices are public, You can the the surge in copper and oil prices for yourself.

Likewise in the housing/banking meltdown story, is anyone paying attention to bond prices and the attendant smashed yields?

But ask yourself if this matters to you. Somebody upthread wants to buy gold, somebody else upthread talks about deflation. Both can't be right, as gold is a hedge against inflation. And if there's a rate cut, gold falls, because it's game on in the stock market.

There's a lot of talk in financial circles about a deflationary cycle, but that is limited to product prices, not food prices, not metals, and certainly not oil.

The big picture is huge here. One of the things I love about finance is that it is the biggest picture in the world. Example - oil prices surge due to demand growth and lack of supply growth & political uncertainty in the middle east - this encourages searches for alternative energy and fuels - ethanol emerges as a viable alternative to gas - ethanol is made from corn - the president announces subsidies for corn and support for ethanol fuel infrastructure - Brazil announces its intent to power it's economy 100% on ethanol - corn prices surge - the price of high fructose corn syrup, found in most foods, surges - countries rich with farmland grow more corn - Brazil clearcuts more rainforest to grow corn - global demand surges, and particularly Brazilian, for those big combine harvesters in order to harvest all the corn - John Deere purchases Chinese manufacturer of combine harvesters to become the world's largest full range producer of both low cost small and full-scale advanced combine harvesters (Deere takes advantage of product deflation on the cost side and food price inflation on the profit side) - on August 15, amidst market turmoil surrounding subprime mortgage and hedge fund shortfalls, John Deere, Inc announces record profits, beating street expectations by 20% on strong global demand for farm equipment. The stock has appreciated 12% since Aug. 14th.

That's the big picture for one quarter for one company in a very narrowly targeted sector. Now imagine all the linkages to other companies, other sectors: if more land is switched over to grow corn, what happens to the price of wheat, or rice? How do rising corn prices affect Kellogg's margins? Isn't chicken feed corn? What's the impact? Soda in the US uses corn syrup, the price of which is rising. But aluminum prices have been rising too. The typical retail price for soda is $0.25-0.30 per can. Did you know that the aluminum can alone is $0.04? If the corn syrup price is rising, that can only be bad for Coke's profits on a can of soda. Plastic bottles are getting more expensive with the increase in the price of oil (plastics are petroleum products).

The interrelationships are staggering, and you need a fleet of analysts to maintain just superficial grasp of them all. So before we make weeping pronouncements about the death of the US economy or the resilience or lack thereof of the banking system, let's have a little respect for the complexity of the problem.

Sorry about the length.
posted by Pastabagel at 1:03 PM on August 29, 2007 [11 favorites]


What's left? Basic raw commodities that last: precious metals, preferably metals that will also always be needed in the electronics industry (e.g. silver, don't know about gold).

You forgot to mention bullets and sacks of rice.
posted by ZenMasterThis at 1:05 PM on August 29, 2007


Welcome to 1907: what's so bad?

Well, as long as you're not one of the billion people who die, it might be okay.

But I don't think we would regress to 1907 peacefully... there will be a lot of very, very angry people, and there will be charismatic dictators to explain away all their troubles. With the advent of mystical thinking in this country, the outright rejection of reason.... well, given your worst-case scenario, I think blood in the streets is absolutely inevitable.

My scenario so far has just been the inevitable fiscal collapse of the United States; there is simply no way we can pay our debts, public OR private, with real wealth. All we can do is print dollars, and eventually our creditors are going to wise up. It's possible that process may be happening now. That will leave us with a stark choice: either default on our debts, or else pay them with diluted currency. The first approach would be better; it would be much more immediately painful, but it would be over sooner and would preserve our status as the world's reserve currency.

Currency dilution will seem less painful, but the inevitable outcome will be the destruction of the dollar, the loss of reserve status, and the end of any pretense of empire.

That's pretty much all I've been focused on. The rest of the scnearios you suggest are things I know basically nothing about. This one area, at least, I have a bit of a clue on.

It is worth pointing out that my views are very divergent from the mainstream: I'm closest to being in the Austrian school, although I think Mr. Mises would have found me to be a rather slow and inept student. :)

The big picture is huge here. One of the things I love about finance is that it is the biggest picture in the world.

Yes, you are right about that, and about the complexity of the problem. My focus, however, is very simple: housing and debt are in gigantic bubbles. We can't possibly repay our creditors with real wealth, and the size of the positions will do immense damage while unwinding. I tend to think that it has to either inflate or deflate, that the middle ground will get narrower and narrower until we slip and fall off one way or the other.... but whatever happens, I'm damn, damn sure it's gonna suck.
posted by Malor at 1:19 PM on August 29, 2007


Malor:
There's tons of info in the thread associated with this comment.

Keywords to do your own searching on: hedonic adjustments, owner's equivalent rent. If you do your homework, you will find that the government inflation numbers are so divorced from the reality on the ground as to be useless.

The Fed stopped reporting M3 in 2005. That was not for your benefit.
All I can see in that thread are subjective assertions by you, shot down by other commenters. I'm not seeing any hard evidence.

I've already done a certain amount of homework, chasing up eriko's mythical M3, your comment history and that thread, locating the CPI figures, and what I've seen so far leads me to think there is no current inflation crisis, and no inflation conspiracy.

From now on, if you guys want to make assertions, I think it's up to you do to your own homework to back them up.
posted by TheophileEscargot at 1:26 PM on August 29, 2007


Malor,

But who does "our" refer to and who are "our creditors". The banks that own the mortgages? Or the banks that buy our bonds?

There is a bubble and there will be pain. We won't see the unemployment numbers from the laid off mtge company workers until a week or two weeks from now. But the huddle isn't huge. The houses are still in the ground.

But this is not a system crash scenario. There is real wealth being generated here. Hell, the example I gave is an American heavy equipment manufacturing company. Those guys are all supposed to be dead. This doesn't affect Apple, Google, Microsoft, Boeing, McDonald's, Procter & Gamble, etc. These are companies make huge money and are growing. This is a multi-trillion dollar economy. It won't grind to a halt because some people lose 20% on their housing investment.

The United States economy cannot collapse because we are the consumer of last resort. You'll know if we're going to collapse when you see Europe and Asia collapse a year earlier.

there is simply no way we can pay our debts, public OR private, with real wealth.

But what is "real wealth"? Gold? How is a block of metal any more a "real" store of value than a piece of paper that everybody is convinced is worth something? I can buy food with paper money. I cannot buy food anywhere I know of with gold. And what's special about gold? Because Kings and priests used to use it as money? That was before the semiconductor industry needed it to build things with.

Why not copper? Or palladium? Why not uranium, at least when people use that its supply is permanently decreased, unlike gold, so it's value is bound to increase. Why not oil?
posted by Pastabagel at 1:42 PM on August 29, 2007


If the only thing that will satisfy you is hard numbers, go read Doug Noland's "The Credit Bubble Bulletin" at www.prudentbear.com. He has a bad habit of using inappropriate caps, but he assembles more numbers and graphs about what's going on than pretty much anyone. The man is tireless.

He's been writing a weekly column for years, though: you could probably spend months reading his entire output. I think they have a 'best of' archives in there somewhere. If you don't see that, just read the last few of his Bulletins and you'll probably get the gist.... since so many different issues are coming to a head all at once, he covers a lot of ground these days.
posted by Malor at 1:44 PM on August 29, 2007


Malor: My ultimate point was, even if all three predictions came to pass, and most importantly, the US did well and truly destroy its currency, it still wouldn't be civilization-crushingly bad. We might see greater suffering, and either a dictatorial or (perhaps more likely) Balkanized future America, but a New Dark Ages from a currency meltdown? Nothing a few decades wouldn't resolve. I think some people would see the resulting society, in either direction, as a desirable outcome.
posted by StrikeTheViol at 1:51 PM on August 29, 2007


Malor: Please be very careful about taking what prudentbear says too seriously. They are a fund that shorts the market, and they are not only wrong but consistently opposite of the performance of the S&P.

The only time they appear to have beaten the S&P is since the beginning of August, when the S&P returns are 1% lower than theirs. For every other time period, they are an unmitigated disaster.
posted by Pastabagel at 2:08 PM on August 29, 2007 [1 favorite]


Real wealth is stuff... things that are made, and the means of their production. Food, farms, and farm equipment... access to clean water, lumber, spices, luxuries....real stuff. That's wealth.

When our creditors send us a million dollars' worth of stuff, they expect the same actual value back, plus interest. If they sent us enough to build a factory, they want enough to build a slightly larger factory in return, over time. They're going to be most unhappy if we try to foist off a paperclip as repayment. We have mostly used the world's savings to buy and build consumption items and non-portable assets; houses can't be sent overseas, and DVD players are worthless a year after being made. We import two billion dollars a day in goods, on credit. How on earth are we going to reverse that to a 2 billion dollar a day surplus?

If we'd borrowed the money to build factories and power plants and the like, that would be okay. We SHOULD be making stuff in our factories that make the Japanese drop their jaws in envy; we should have the best products in virtually every category. But in reality, I can think of only one thing that's better from American factories than anywhere else in the world: the CPU. In every other major field I can think of, America is a second-rate purveyor of shoddy goods.

Instead of investing the world's savings, we've spent it in a frenzy of consumption.

Oh, and who are our creditors? Everyone. Anyone who holds a dollar is a creditor of the United States; that dollar, intrinsically worthless, is a undenominated claim on assets and future production. With a commodity, they can always choose to just keep the commodity and wait for the price to rise, but with dollars, that's generally not a winning proposition over any significant period of time. If you don't like what you can get for your dollar, holding it will usually make the problem worse.

And, of course, you have all the foreign holdings of stocks and securities, the latter of which is likely to continue to show hideous losses for quite some time. China alone is holding about $1.3 trillion in dollars and dollar-denominated securities, and Japan isn't that far behind. They sent us real wealth to get those dollars, they're going to want real wealth when they trade them back in.

As far as Prudent Bear goes: Doug Noland is kind of an outside commentator for them. I've been reading him, off and on, for six or seven years now. I don't think he's related in any way to the actual management of the fund. (which, no, hasn't done very well... but for exactly the reasons I've been talking about.) Presumably they pay him, and I assume because he's a bearish voice, but that guy provides a hurricane of data to back himself up every week.

Sheesh, and I haven't even touched derivatives or the GSE's involvement in liquidity creation... all the money-ish stuff that's treated like liquidity but doesn't show up in M3. This whole thing is, as you say, phenomenally complex, but the more digging you do, the worse things look.

StriketheViol: well, I dunno about you, but overall I really love this country, and it just fucking infuriates me that it's been treated so carelessly.
posted by Malor at 2:26 PM on August 29, 2007


If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see a correspondingly huge increase in inflation.

If the cash goes into specific asset classes, then you don't see the inflation in the general economy until people start selling out of those asset classes. Now, which asset class has rocketed upwards in the last decade or so? Clue: US house prices, UK house prices,

posted by pharm at 2:54 PM on August 29, 2007


I do too, Malor. I also share your indignation, to some extent. But there are people who'd be downright happy to see the government fall to its knees, whether they'd want a libertarian confederation, a communist state, or a theocratic dominion. I apologize for moving the discussion away from numbers, it just feels like something a large minority of America, disparate to be sure, would have its fingers crossed for.
posted by StrikeTheViol at 2:59 PM on August 29, 2007


Based on Malor's thread, I think a lot of the concern here revolves around fears of the trade deficit. When I buy a Chinese DVD player, I do not owe China anything, I paid an individual in China with dollars. I got a DVD player (which I wanted), they got dollars (which they wanted).

No matter what they do with the dollars, the US does not owe China, the Chinese Company or anyone else anything. Also it should be noted that since everyone took part in the transaction willingly, by definition everyone and both countries are better off for it having taken place.

Also this is ridiculous statement:

Oh, and who are our creditors? Everyone. Anyone who holds a dollar is a creditor of the United States; that dollar, intrinsically worthless, is a undenominated claim on assets and future production. With a commodity, they can always choose to just keep the commodity and wait for the price to rise, but with dollars, that's generally not a winning proposition over any significant period of time. If you don't like what you can get for your dollar, holding it will usually make the problem worse.

Please read this article or one like it to see why a trade imbalance is irrelevant.
(And actually a sign of a working economy)
posted by 2bucksplus at 3:37 PM on August 29, 2007


We might see greater suffering, and either a dictatorial or (perhaps more likely) Balkanized future America, but a New Dark Ages from a currency meltdown? Nothing a few decades wouldn't resolve.

The Holocaust: "Eh... it's nothing a few decades won't resolve."
posted by stammer at 7:32 PM on August 29, 2007


Are you stating what you believe to be a fact, or making a terrible joke?
posted by StrikeTheViol at 9:04 PM on August 29, 2007


A great book on the subject of bubbles:

http://www.amazon.com/Manias-Panics-Crashes-Financial-Investment/dp/0471389455
posted by OldReliable at 9:38 PM on August 29, 2007


pharm:
If there was a really huge increase in liquidity, beyond the bounds of the normal economic cycle, we would expect to see a correspondingly huge increase in inflation.

If the cash goes into specific asset classes, then you don't see the inflation in the general economy until people start selling out of those asset classes. Now, which asset class has rocketed upwards in the last decade or so? Clue: US house prices, UK house prices,
Housing assets are not very liquid at all.

Maybe the sell-off will be rapid enough to increase liquidity eventually. But there's no sign of it yet, and the reason the Fed are intervening is that they believe there isn't enough liquidity at the moment.

There seems to be a certain amount of having it both ways with these kind of arguments. Because there's not enough liquidity at the moment and they're trying to inject some, you regard that as evidence they'll overdo it and create an excessive liquidity crisis. But if there was too much liquidity at the moment, that would also be evidence of an excessive liquidity crisis.

Malor:
Real wealth is stuff... things that are made, and the means of their production. Food, farms, and farm equipment... access to clean water, lumber, spices, luxuries....real stuff. That's wealth.
Actually, solid goods are only about 20% of the wealth of rich nations, according to the World Bank. Education, knowledge, skills, institutions: that's wealth.
posted by TheophileEscargot at 10:03 PM on August 29, 2007


TheophileEscargot: we are (between us) confusing two different definitions of liquidity I think. I'm talking about the easy availability of cheap credit (sometimes only for the purchase of particular asset classes), you're talking about the ease with which a given asset can be converted into cash (this definition usually includes the caveat that one can sell the asset without significantly affecting the market price).

You can't really talk about having an 'excess' of the latter sort of liquidity. For any given asset, the more liquid it is the better! However, the former definition, which is perhaps confused but nevertheless one in current use as a quick perusal of the markets section of any major newspaper will reveal, an excess of easy credit is usually regarded as a bad thing in that it encourages poor investment & speculative behaviour by borrowers, which decouples the market price of the asset in question from the underlying fundamentals. It's this sort of 'liquidity' that some economists view as creating inflation; the ease of conversion of an asset into other assets should never be responsible for inflation (I hope? There's probably an economist out there with a theory to prove this wrong...). It's this definition that I had assumed was being used upthread.

On the 'real wealth' question; I'd extend Malor's definition of real wealth to owning (for generous interpretations of 'own') anything which can generate income, or which you personally would be willing to pay for.

Patents are wealth, if people wish to licence them; having copyrights in written works counts as wealth (if people are willing to pay for copies of the works in question); one could reasonably regard the possession of certain skills as wealth, if others are willing to pay more for your labour if you acquire them, or if they give you an ability to do something which you would otherwise have to pay others to do on your behalf. And so on.

Speculatively buying houses in the belief that some greater fool will take them off your hands for a tidy profit in the future is not building wealth however.
posted by pharm at 5:44 AM on August 30, 2007


the question everyone ought to be asking is "what happens when china goes into a recession?" - what happens when the 8.5% growth stops for a year or two?
posted by pyramid termite at 7:31 AM on August 30, 2007


Welcome to 1907: what's so bad?

Well, the technology of 1907 was not up to supporting 6 billion people. You've already killed off 1 billion in your scenario, leaving 5. Lets say the technology of the 1907 world would support 3 billion (actual world population of the time seems to be 1.5 billion). The rest die of starvation. Will they do it peacefully? I rather doubt it.

And how many people in the western world are prepared and knowledgeable enough to go back to a pre-industrial lifestyle and survive even the first winter without money, grocery stores or heat? Very few I think.
posted by DarkForest at 9:34 AM on August 30, 2007



And how many people in the western world are prepared and knowledgeable enough to go back to a pre-industrial lifestyle and survive even the first winter without money, grocery stores or heat? Very few I think.


1907 is pre-industrial? Are you smoking crack?
posted by nasreddin at 11:39 AM on August 30, 2007


1907 is pre-industrial? Are you smoking crack?

Well, sure, if we just transported back to nice peaceful old 1907, a lot of people would be fine. But since our current civilization and standards is not supportable by 1907 technology, and people mostly don't have the sort of skills needed for the 1907 world, things would not devolve in a nice peaceful way. Ever try to conduct business in the middle of a riot? It may not be exactly pre-industrial, but it wouldn't be like the world of 1907 either. p.s. it'd be a lot worse
posted by DarkForest at 1:47 PM on August 30, 2007


My real point is that if today's 6 billion people were forced back into a 1907 world, the ensuing chaos (starvation and war) would take us (the average person) farther backward than 1907, though of course, it would be quite unlike any actual period of history.
posted by DarkForest at 1:55 PM on August 30, 2007


See, my ultimate point was it really wouldn't be as bad as that (leaving out meteors, nukes, etc.) just a "worst it could get" that leaves out a few other factors, mainly because I can't really find decently plausible numbers for a more rigorous example. (Still don't see how it would destroy civilization as we know it.) Alternate history writers, anybody, anybody?
posted by StrikeTheViol at 4:17 PM on August 30, 2007


Ever try to conduct business in the middle of a riot?

i worked as a motel desk clerk on new years eve a few times - that was close ...
posted by pyramid termite at 8:29 PM on August 30, 2007


Alternate history writers, anybody, anybody?

A lot of cyberpunk has the decline of American civilization as a theme, but it's not really central so you don't typically see citations of specific causal events. In Gibson's "sprawl" stories, there's the clear implication of a very wide separation of haves/have-nots, such that America, at least, has separated into a bunch of city-states with vast technologically-retarded wastelands in between. That's his version (and I think in fair terms a "cyberpunk vision") of "collapse": Things get messy, but technology continues to be made and civilization doesn't go away.

Post-cyberpunk, you see more specifics. Again, I don't recall anything germane to this thread, but think about Gibson's "bridge trilogy" (and the related "NoCal/SoCal" stories), Snow Crash, lots of Sterling stuff, and pushing into more recent territory, almost anything by Paolo Bacigalupi. I'm just tossing these out to maybe jog people's memories, because there must be something in there, scenario-wise.
posted by lodurr at 7:09 AM on August 31, 2007


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