It’s Hard Being a Bear (Part Five): Res­cued?

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I’m happy to admit that I underestimated how strongly governments would respond to this financial crisis. Dramatic reductions in interest rates, huge fiscal stimuli and—in the USA and UK—expansion of government-created money, have all had a positive impact on the economy and asset markets (both shares and houses).

In his recent essay, Aus­tralian Prime Min­is­ter Kevin Rudd esti­mated that the res­cues were the equiv­a­lent of roughly 18 per­cent of global GDP over a 3 year period, which is an unprece­dented level of expen­di­ture by gov­ern­ments.

Eichen­green and O’Rourke’s com­par­i­son of today to the Great Depres­sion gives the most bal­anced assess­ment of how effec­tive these poli­cies have been at the global level.

They have clearly turned around stock mar­kets. Six months ago, world stock mar­kets were 50% below their peak, a far worse per­for­mance than dur­ing the Great Depres­sion when, at the same time after the peak, they had only fallen 10%. By the begin­ning of Sep­tem­ber, mar­kets had recov­ered to be only a cou­ple of per­cent below the com­pa­ra­ble 1930 posi­tion of a 30% fall.

Indus­trial out­put has also turned around. Six months ago this was 13% below the peak level, worse than the 1930s posi­tion of an 11% decline. Since then it has risen to be only 10% below, while at the equiv­a­lent time in the 1930s, indus­trial out­put had fallen 20% from its 1929 high.

So has the gov­ern­ment cav­alry rid­den to the res­cue? If the cri­sis were one sim­ply of liq­uid­ity, the answer would be yes. A gov­ern­ment stim­u­lus can over­whelm the impact of a credit crunch, and the innate dynamic of a pro­duc­tive econ­omy can re-assert itself after such a cri­sis, lead­ing to renewed growth.

But this not merely a cri­sis of liq­uid­ity. It is one of exces­sive pri­vate debt, on a scale that is also unprece­dented: the USA is car­ry­ing US$41.5 tril­lion in debt on the back of a US$14 tril­lion econ­omy, pro­por­tion­ately 70 per­cent more debt than it had at the start of the Great Depres­sion. In Decem­ber 2007, the pri­vate sec­tor swung from ramp­ing up debt lev­els as it chased spec­u­la­tive gains on asset mar­kets, to retreat­ing from debt as the asset bub­bles burst.

In the space of a year, pri­vate debt went from adding US$4 tril­lion to aggre­gate demand, to sub­tract­ing US$165 bil­lion from it. Pri­vate debt had ceased being the economy’s tur­bocharger and had instead become its flooded engine.

While eco­nomic out­siders like myself, Michael Hud­son, Niall Fer­gu­son and Nas­sim Taleb argue that the only way to restart the eco­nomic engine is to clear it of debt, the gov­ern­ment response, has been to attempt to replace the now defunct pri­vate debt eco­nomic tur­bocharger with a pub­lic one.

In the imme­di­ate term, the stu­pen­dous size of the stim­u­lus has worked, so that debt in total is still boost­ing aggre­gate demand. But what will hap­pen when the gov­ern­ment stops tur­bocharg­ing the econ­omy, and waits anx­iously for the pri­vate sys­tem to once again splut­ter into life?

I am afraid that all it will do is splut­ter.

This is espe­cially so since, fol­low­ing the advice of neo­clas­si­cal econ­o­mists, Obama has got not a bang but a whim­per out of the many bucks he has thrown at the finan­cial sys­tem.

In explain­ing his recov­ery pro­gram in April, Pres­i­dent Obama noted that:

there are a lot of Amer­i­cans who under­stand­ably think that gov­ern­ment money would be bet­ter spent going directly to fam­i­lies and busi­nesses instead of banks – ‘where’s our bailout?,’ they ask”.

He jus­ti­fied giv­ing the money to the lenders, rather than to the debtors, on the basis of “the mul­ti­plier effect” from bank lend­ing:

the truth is that a dol­lar of cap­i­tal in a bank can actu­ally result in eight or ten dol­lars of loans to fam­i­lies and busi­nesses, a mul­ti­plier effect that can ulti­mately lead to a faster pace of eco­nomic growth. (page 3 of the speech)

This argu­ment comes straight out of the neo­clas­si­cal eco­nom­ics text­book. For­tu­nately, due to the clear man­ner in which Obama enun­ci­ates it, the flaw in this text­book argu­ment is vividly appar­ent in his speech.

This “mul­ti­plier effect” will only work if Amer­i­can fam­i­lies and busi­nesses are will­ing to take on yet more debt: “a dol­lar of cap­i­tal in a bank can actu­ally result in eight or ten dol­lars of loans”.

So the only way the roughly US$1 tril­lion of money that the Fed­eral Reserve has injected into the banks will result in addi­tional spend­ing is if Amer­i­can fam­i­lies and busi­nesses take out another US$8–10 tril­lion in loans.

What are the odds that this will hap­pen, when they already owe more than they have ever owed in the his­tory of Amer­ica? The next chart inverts the usual por­trayal of America’s debt to GDP ratio by invert­ing it: the top of the graph rep­re­sents zero debt, the bot­tom, a debt to GDP ratio of 300 percent—which is just shy of the cur­rent ratio of 292 per­cent.

If the money mul­ti­plier was going to “ride to the res­cue”, pri­vate debt would need to rise from its cur­rent level of US$41.5 tril­lion to about US$50 tril­lion, and this ratio would rise to about 375%—more than twice the level that ush­ered in the Great Depres­sion.

This is a res­cue? It’s a “hair of the dog” cure: hav­ing booze for break­fast to over­come the feel­ings of a hang­over from last night’s binge. It is the road to debt alco­holism, not the road to tee­to­tal­ism and recov­ery.

For­tu­nately, it’s a “cure” that is also highly unlikely to work, because the model of money cre­ation that Obama’s eco­nomic advis­ers have sold him was shown to be empir­i­cally false over three decades ago.

The first econ­o­mist to estab­lish this was the Amer­i­can Post Key­ne­sian econ­o­mist Basil Moore, but sim­i­lar results were found by two of the staunchest neo­clas­si­cal econ­o­mists, Nobel Prize win­ners Kyd­land and Prescott in a 1990 paper Real Facts and a Mon­e­tary Myth.

Look­ing at the tim­ing of eco­nomic vari­ables, they found that credit money was cre­ated about 4 peri­ods before gov­ern­ment money. How­ever, the “money mul­ti­plier” model argues that gov­ern­ment money is cre­ated first to bol­ster bank reserves, and then credit money is cre­ated after­wards by the process of banks lend­ing out their increased reserves.

Kyd­land and Prescott observed at the end of their paper that:

Intro­duc­ing money and credit into growth the­ory in a way that accounts for the cycli­cal behav­ior of mon­e­tary as well as real aggre­gates is an impor­tant open prob­lem in eco­nom­ics.

I couldn’t agree more, but unfor­tu­nately they—and neo­clas­si­cal econ­o­mists in general—did bug­ger all about it. On the other hand, the Post Key­ne­sian group, of whom I am one, have con­tin­ued to try to con­struct mod­els of the econ­omy in which credit plays an essen­tial role.

I’ve recently devel­oped a gen­uinely mon­e­tary, credit-dri­ven model of the econ­omy, and one of its first insights is that Obama has been sold a pup on the right way to stim­u­late the econ­omy: he would have got far more bang for his buck by giv­ing the stim­u­lus to the debtors rather than the cred­i­tors.
The fol­low­ing fig­ure shows three sim­u­la­tions of this model in which a change in the will­ing­ness of lenders to lend and bor­row­ers to bor­row causes a “credit crunch” in year 25. In year 26, the gov­ern­ment injects $100 bil­lion into the economy—which at that stage has out­put of about $1,000 bil­lion, so it’s a pretty huge injec­tion, in two dif­fer­ent ways: it injects $100 bil­lion into bank reserves, or it puts $100 bil­lion into the bank accounts of firms, who are the debtors in this model.

The model shows that you get far more “bang for your buck” by giv­ing the money to firms, rather than banks. Unem­ploy­ment falls in both case below the level that would have applied in the absence of the stim­u­lus, but the reduc­tion in unem­ploy­ment is far greater when the firms get the stim­u­lus, not the banks: unem­ploy­ment peaks at over 18 per­cent with­out the stim­u­lus, just over 13 per­cent with the stim­u­lus going to the banks, but under 11 per­cent with the stim­u­lus being given to the firms.

The time path of the reces­sion is also greatly altered. The reces­sion is shorter with the stim­u­lus, but there’s actu­ally a mini-boom in the mid­dle of it with the firm-directed stim­u­lus, ver­sus a sim­ply lower peak to unem­ploy­ment with the bank-directed stim­u­lus.

Why does this model show that it’s bet­ter to give the money to the debtors than the lenders, in con­trast to the case that Obama was sold, that it’s bet­ter to give it to the bankers?

Because the “money mul­ti­plier” model is effec­tively a mechan­i­cal, sta­tic, equi­lib­rium model of the econ­omy. Give the banks excess reserves, and they will lend them to the pub­lic, which will hap­pily take on the debt. Once the reserves are fully lent out, the econ­omy is back to equi­lib­rium again.

In con­trast, my model is a dynamic, non-equi­lib­rium one, where the “cir­cu­lar flow” of money and goods is prop­erly accounted for. In this sys­tem, you can think of the dif­fer­ent bank accounts in the sys­tem as like dams with pipes con­nect­ing them of vastly dif­fer­ent diam­e­ters.

When a credit crunch strikes, the pipes pump­ing the bank reserves to the firms shrink dra­mat­i­cally, while the pipe going in the oppo­site direc­tion expands, and all other pipes remain the same size.

If you then fill up the bank reserves reservoir—by the gov­ern­ment pump­ing the extra $100 bil­lion into it—that money will only trickle into the econ­omy slowly. If how­ever you put that money into the firms’ bank accounts, it would flow at an unchanged rate to the rest of the economy—the workers—while flow­ing more quickly to the banks as well, reduc­ing debt lev­els.

So giv­ing the stim­u­lus to the debtors is a more potent way of reduc­ing the impact of a credit crunch—the oppo­site of the advice given to Obama by his neo­clas­si­cal advis­ers.

This could also be one rea­son that the Aus­tralian expe­ri­ence has been bet­ter than the USA’s: the stim­u­lus in Aus­tralia has empha­sized fund­ing the pub­lic rather than the banks (and the model shows the same impact from giv­ing money to the work­ers as from giv­ing it to the firms—and for the same rea­son, that work­ers have to spend, so that the money injected into the econ­omy cir­cu­lates more rapidly.

This model can explain some aspects of the cur­rent US data that are inex­plic­a­ble from the con­ven­tional, neo­clas­si­cal point of view—the key para­dox being that while base money (“M0”) has been increased dra­mat­i­cally, there has been almost no move­ment in broader mea­sures of money (“M1” and “M2”). If the money mul­ti­plier argu­ment were cor­rect, the increases in M1 and M2 would have been mul­ti­ples of the increase in M0, as Obama was led to expect.

In fact, the expan­sion in M0 has been met by a fall in the credit-gen­er­ated com­po­nent of the money sup­ply: since M2 includes all of M1 and M1 includes all of M0, this is clearer when we sub­stract the dou­ble-count­ing out. M1 has actu­ally con­tracted almost as much as M0 has expanded, while the expan­sion in M2 has been less than a third the size of the growth in M0.

The “money mul­ti­plier” has also collapsed—a mys­tery from a neo­clas­si­cal point of view, but entirely pre­dictable from the “endoge­nous money” per­spec­tive.

Obama has been sold a pup by neo­clas­si­cal eco­nom­ics: not only did neo­clas­si­cal the­ory help cause the cri­sis, by cham­pi­oning the growth of pri­vate debt and the asset bub­bles it financed; it also is under­min­ing efforts to reduce the sever­ity of the cri­sis.

This is unfor­tu­nately the good news: the bad news is that this model only con­sid­ers an econ­omy under­go­ing a “credit crunch”, and not also one suf­fer­ing from a seri­ous debt over­hang that only a direct reduc­tion in debt can tackle. That is our actual prob­lem, and while a stim­u­lus will work for a while, the drag from debt-delever­ag­ing is still present. The econ­omy will there­fore lapse back into reces­sion soon after the stim­u­lus is removed.

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  • MMitchell

    - Sorry sec­ond line should be “do NOT really believe in effi­cient mar­kets”

  • MMitchell

    Some­thing else to make one more enam­oured with our low­est-price, exter­nalise costs cap­i­tal­ist sys­tem, even the most envi­ron­men­tally friendly nations seem to be involved in this trav­esty:

  • soho44

    Hi from the States,

    A ques­tion for all Aus­tralian posters here. How do you feel about your MSM’s eco­nomic cov­er­age? Here, you have the “stan­dard” sources:


    Now, aside from Bloomberg, since all the rest are cor­po­rate owned, nat­u­rally the var­i­ous board of direc­tors don’t want the on-air staff to tell the truth about the mar­ket. This forces me to go abroad for accu­rate information/perspectives.

    Do you feel like you’re get­ting accu­rate infor­ma­tion? At times I still see/hear/read the cor­po­rate line about eco­nomic recov­ery. But over­all, it’s worth it to spend the time doing it (to make up for the pro­pa­ganda that the MSM puts out here.

    So far the only decent busi­ness show seems to be SBS’s “Date­line.” Can’t remem­ber the presenter’s name, though.

  • pjbink

    Well the evi­dence is there are a lot of ben­e­fits with free mar­kets, MMitchell. Where would you rather live — North Korea or South Korea? West Ger­many or the old East Ger­many? The heav­ily reg­u­lated and unionised sytems we had in the 1960’s and 70’s (par­tic­ualy here and the UK) lead to a lot of prob­lems also — namely stagfla­tion. Ie low growth, high unem­ploy­ment and high infla­tion. The trick seems to be to man­age mar­kets, but do so in a way that is effec­tive and that the ordi­nary peo­ple ben­e­fit.

  • MMitchell

    Sorry, you seem to have mis-under­stood me. I agree with free mar­kets whole­heart­edly, it is just that it seems that neo-clas­si­cals talk-the-talk but don’t walk-the-walk in rela­tion to free mar­kets. I agree that the ordi­nary peo­ple should ben­e­fit also, but they don’t with for exam­ple (I used this ear­lier) monop­oly elec­tric­ity sup­pli­ers but com­pet­ing pri­va­tised retail­ing of those sup­plies. My ear­lier ques­tion was how can hav­ing three admin­is­tra­tions, three times the mar­ket­ing and three armies of door-to-door sales peo­ple for an essen­tially monop­o­lised, state reg­u­lated resource, be effi­cient? It was to this ques­tion that Ak sent his reply.

  • MMitchell

    Sorry — I mis­un­der­stood that you were refer­ing to my com­ments on the Mon­biot post. I don’t believe in big global pri­vate cor­po­ra­tions. I believe free mar­kets only work when you have true com­pe­ti­tion, i.e lots of small com­pet­ing firms. Fur­ther­more, indus­try should be localised whereever pos­si­ble. Large organ­i­sa­tions, par­tic­u­larly those with heavy or crit­i­cal respon­si­bil­i­ties such as toxic waste dis­posal should be either pub­lic, or heav­ily super­vised pri­vate orgs. Given the fact that any large org gains polit­i­cal power (threats of mass sack­ings, large dona­tions etc) I pre­fer pub­lic in these cases.

  • It’s a bit more com­pli­cated pjbink.

    The major inter­ven­tion in the econ­omy was made by the Fed­eral Reserve in res­cu­ing the finan­cial sys­tem from its own fol­lies from ’87 on. Neo­clas­si­cal econ­o­mists dom­i­nate that insti­tu­tion and its equiv­a­lents overseas–including Aus­tralia. The actual the­o­ries are a mess, but they have largely been fol­low­ing the argu­ment that there is a nat­ural rate of inter­est, and their role is to keep the econ­omy from being over­heated by their fis­cal brethren that can”t be so well con­tained.

    With this mind­set, they have tried to reduce the government’s fis­cal input to the econ­omy while simul­ta­ne­ously believ­ing that their the­o­ries gave them a sim­ple tool to restrain infla­tion.

    On top of that there have of course been the pork bar­rels you note–but all the way the politi­cians have been fol­low­ing the lead of neo­clas­si­cal econ­o­mists. This applied with the dereg­u­la­tion of finance and the Sav­ings and Loans fiasco for instance. So while what the gov­ern­ment has done has to some extent gone against a “hands off” approach to mar­kets, the gen­eral tenor of pol­icy has been dri­ven by neo­clas­si­cal the­ory.

  • Philip


    But it is not just econ­o­mists, what about gov­ern­ments and pol­icy mak­ers, per­haps the econ­o­mists can delude them­selves, but why would gov­ern­ments sup­port these poli­cies and watch jobs and indus­tries dis­ap­pear, national sov­er­eignty being eroded and their tax base under­mined?”

    Unfor­tu­nately, reg­u­la­tors, politi­cians, busi­ness­peo­ple, entre­pre­neurs, and the com­mon per­son have either been taught GET or rely upon the ‘exper­tise’ of per­sons edu­cated in GET.

    Politi­cians cer­tainly do not like jobs being out­sourced and indus­tries dis­ap­pear­ing. How­ever, this is seen as the ‘inevitable’ out­come of ‘effi­ciently’ func­tion­ing mar­kets as GET pre­dicts.

    As to why ‘gov­ern­ments sup­port these poli­cies’, impor­tant deci­sions over invest­ment and busi­ness oper­a­tions are largely deter­mined by con­cen­trated pri­vate cap­i­tal, with deci­sions made by unelected and unac­count­able cor­po­rate cen­tral plan­ners for their own ben­e­fit. Politi­cians only have so much con­trol over the econ­omy.

    What we have is essen­tially cor­po­rate mer­can­til­ism with huge cen­tral­ized com­mand economies (cor­po­ra­tions) inte­grated with one another, closely tied to state power, with its griev­ous effects imposed upon the major­ity of peo­ple.

    Gov­ern­ments are made of greedy, power seek­ing peo­ple…”

    The prob­lem is the nation-state itself, not the politi­cians who inhabit it. As the anar­chist PJ Proud­hon said:

    To be gov­erned is to be watched, inspected, spied upon, directed, law-dri­ven, num­bered, reg­u­lated, enrolled, indoc­tri­nated, preached at, con­trolled, checked, esti­mated, val­ued, cen­sured, com­manded, by crea­tures who have nei­ther the right nor the wis­dom nor the virtue to do so. To be gov­erned is to be at every oper­a­tion, at every trans­ac­tion noted, reg­is­tered, counted, taxed, stamped, mea­sured, num­bered, assessed, licensed, autho­rized, admon­ished, pre­vented, for­bid­den, reformed, cor­rected, pun­ished. It is, under pre­text of pub­lic util­ity, and in the name of the gen­eral inter­est, to be placed under con­tri­bu­tion, drilled, fleeced, exploited, monop­o­lized, extorted from, squeezed, hoaxed, robbed; then, at the slight­est resis­tance, the first word of com­plaint, to be repressed, fined, vil­i­fied, harassed, hunted down, abused, clubbed, dis­armed, bound, choked, impris­oned, judged, con­demned, shot, deported, sac­ri­ficed, sold, betrayed; and to crown all, mocked, ridiculed, derided, out­raged, dis­hon­oured. That is gov­ern­ment; that is it’s jus­tice; that is it’s moral­ity.”

    John Bev­erly Robin­son. 1923. “Gen­eral Idea of the Rev­o­lu­tion in the Nine­teenth Cen­tury” (Lon­don: Free­dom Press, 1923), pp. 293–294

    I think that says it all about gov­ern­ment.

    This explain why neo-clas­si­cal econ­o­mists are so pro­lific noth­ing like being in favour with the rich and pow­er­ful.”

    Yes, GET has no sci­en­tific valid­ity but has immense util­ity to the rich and pow­er­ful.

    They get money from wealthy indi­vid­u­als and cor­po­rate donors for their par­ties which allows them to gain that power.”

    If econ­o­mists were hon­est, they would ana­lyze in great detail the results of polit­i­cal cam­paign con­tri­bu­tions. The great­est return on invest­ment is not invest­ing in the bond or share mar­ket but rather legally brib­ing politi­cians. Pri­vate cap­i­tal­ism has turned demo­c­ra­tic gov­ern­ment into a super­mar­ket where politi­cians can be bought off like com­modi­ties to the high­est bid­der.


    As Keen and Minsky’s work have shown, even with­out the inter­ven­tion of the state, cap­i­tal­ist mar­kets will still result in a toxic buildup of pri­vate debt used to spec­u­late on ris­ing asset prices. Yes, gov­ern­ments have made the prob­lem worse but they are not the ulti­mate cause of it.

    Mar­kets can never be truly free because the rich are opposed first and fore­most. In order to main­tain their pri­vate power and priv­i­lege, they require the exten­sive involve­ment of a highly inter­ven­tion­ist and pow­er­ful state to pro­tect them from mar­ket dis­ci­pline. This has always been a con­stant since the incep­tion of pri­vate cap­i­tal­ism. Bankers are no excep­tion and lead the pack.


    …and either take it for granted or maybe per­haps think that it all mag­i­cally appeared suf­fer from a sense of enti­tle­ment.”

    Rights under pri­vate cap­i­tal­ism are never given, they are always won. It is a tes­ta­ment to the coura­geous and con­tin­u­ous strug­gle of its vic­tims that we can take the afore­men­tioned things as granted. These things cer­tainly didn’t appear by magic. If those before us sim­ply accepted their con­di­tions and were apa­thetic, then Aus­tralia would look a lot more like India.

    Enti­tle­ments like health care, edu­ca­tion, etc. make the foun­da­tions of a decent soci­ety. I don’t think it is a sign of ‘greed’ or ‘depen­dence’ any more than if a woman has an ‘enti­tle­ment’ or ‘exces­sive right’ to step out­side the kitchen or open a bank account (such things were not the case long ago).

  • debtjunkies


    Do you then think that if gov­ern­ment poli­cies and out­comes were then based on the the­o­ries of those like your­self, min­sky and oth­ers of a sim­i­lar vein, that a mar­ket based sys­tem could gen­er­ate sus­tain­able out­comes for the econ­omy.

  • bur­rah

    Could some­one ven­ture an opin­ion about new Key­ne­sian mod­els?
    a) Are not Key­ne­sian enough
    b) Just right
    c) Too Key­ne­sian.
    My knowl­edge of for­mal eco­nom­ics is too out­dated and I feel I need to get up to speed.

  • ueber­baer


    com­fort­able lifestyle” — Fam­i­lies with both par­ents work­ing full­time, the chil­dren in full day care to be able to pay for that lifestyle in their mcMan­sions and their nice cars.

    of good health” — the health sys­tem is suf­fer­ing a ter­mi­nal decline. Can­cer, dia­betes, alergy rates etc, etc on the increase. Food qual­ity dimin­ish­ing over the last 50 years. Because we need cars to get any­where, we suf­fer from a lack of exer­cise. We work more and play less.

    nice cars” — really some­thing worth liv­ing for? Fuel guz­zling v8, v6 and a totally car depen­dent soci­ety?

    abun­dent food” — depen­dent on imports, ongo­ing soil ero­sion and deple­tion (dust storm any­one?) dimin­ish­ing nutri­tional value in veg­eta­bles, pes­tizides & fun­gizides residues, sink­ing water tables, food bowl Mur­ray Dar­ling on the verge of col­lapse, etc, etc.

    good pay­ing jobs” — incomes in real term adjusted for infla­tion going down over many years now. Young aussie labor­ers “bumped” off by for­eign tem­po­rary res­i­dent sub­con­trac­tors with ABNs. Grow­ing rate of unem­ploy­ment, econ­omy on the brink of mas­sive decline.

    rel­a­tive secu­rity” — has the level of rel­a­tive secu­rity increased over the last 50 years? I think not. Just con­sider the anti ter­ror­ism laws past 2 years ago. 

    social” — I don’t think notable improve­ments in the level of social inter­ac­tions or ser­vices have been made over the last 50 years. 

    trans­port infra­stru­ture” — you mean roads for cars? what about pub­lic trans­port (a joke), trains etc? What about walk­a­ble cities & towns? Or do you mean large ports for min­ing exports?

    health­care” — not a week with­out some shock­ing story in the news on the decline of the level in health care. Costs for health­care on the increase.

    I guess I am an Gen Xer but let me tell you that I am work­ing since the age of 14 when I moved away from my par­ents home as a live-in appren­tice. Never been unem­ployed and also worked for every­thing we own. So I am not respond­ing to you in this man­ner because I feel per­son­ally attacked.

    So you have accu­mu­lated wealth through hard and dili­gent work and now are appalled by the Gen Yers with their low work ethics. Con­sider this: They have not been born like this. Like all humans/animals they have been shaped by their envi­ron­ment. An envi­ro­ment that has been crated by their ances­tors. You. And I.

    All the wealth that has been cre­ated over the past 70 years have come at a cost that is not tracked in any ledgers. 

    For a very good visu­al­i­sa­tion of the true cost of “Stuff”, con­sider watch­ing this very good clip: “The Story of Stuff”.

  • ak


    The prob­lem is the nation-state itself, not the politi­cians who inhabit it.”

    How ane when are you going to solve “the prob­lem”? What if a few “nation-state” prob­lems (like China for exam­ple) turn out to be too big or too hard to abol­ish?

  • Rustypenny

    d2d — post #321

    Boomers and Gen X are still going to strug­gle to accu­mu­late assets. Boomers strug­gled early (70? – 80’s) but since then have seen assets go sky­ward.”

    Define ‘strug­gle’. A lot of myth­i­cal lan­guage appears to be in find­ing its way in inter­gen­er­a­tional debate regard­ing the ‘strug­gle’ baby boomers went through.

    If get­ting a job and then accu­mu­lat­ing assets that are not scarce is a strug­gle, I’d hate to think what the GD/WWII gen­er­a­tion went through.

    There is noth­ing excep­tional about the gen­eral life pro­gres­sion of baby boomers. Their par­ents were born in a depres­sion and had to fight a world war. They also worked MUCH harder. 6 days a week was the norm.

    The higher wel­fare reforms and mak­ing 5 days a week the work­ing norm was pretty much put in place by Chi­fley. To pay for this, the GD/WWII gen­ra­tion saw their top mar­ginal tax rates at 60% dur­ing their peak earn­ing capac­ity, all to pay for free uni­ver­sity degrees and free child­care.

    No when the baton of oblig­a­tion is passed on, tax rates go down and ‘user-pays’ comes in for ser­vices that hve uni­ver­sal ben­e­fit of vary­ing degrees.

    We are also see­ing the return of much unpaid over­time and work­ing 6 days a week again.

    So I can’t say I buy the con­cept of ‘strug­gle’, its the norm that every­one does through­out the phases of their life. It’s part of a chrono­log­i­cal sequence.


    They have sold this to their gen x chil­dren who are now the strug­gling mid­dle income mortage belt. Gen Y have sat back and seen the whole “work­ing bat­tler” lifestyle played out by their par­ents and accord­ingly they will reject the life­long goal to build up assets.”

    Or.… it is sim­ply unat­tain­able at present. A pre­vi­ous claim, a pearl of wis­dom so to speak, is for ‘avoid the Mcman­sions, set­tle for a cheap prop­erty as your first prop­erty’.

    This ‘cheap prop­erty’ just doesn’t exist. Even in places like Syd­ney, 3 bed­room apart­ments in Liv­er­pool cost $300,000.

    And I’m not point­ing this out in terms of loca­tion snob­bery, it’s that if rel­a­tively well off mid­dle income non-home own­ers are resort­ing to Liv­er­pool because even this is 6 times aver­age earn­ings, then where do the non-eng­lish speak­ing, mim­i­mum wage earn­ers, the sin­gle par­ents, the par­tially invalids go? There is very lit­tle lower than this price.

    They will con­sume today and worry later – except that later may never come. They are a mobile gen­er­a­tion and want a var­ied lifestyle. This means that they will not want to get bogged down to prop­erty and set life choices.”

    How can they real­is­ti­cally be expected to choose prop­erty?

    I’d say it’s more of a symp­ton of finan­cial nihilism. If the per­ceived life/financial secu­rity is not attain­able, then behav­iour which pur­sues the oppo­site in terms of being self-destruc­tive in terms of pur­su­ing this life/financial secu­rity.

    When hope doesn’t exist, this is quite under­stand­able.

    Even­tu­ally the back of the ponzi scheme will be bro­ken because a large chunk of this gen­er­a­tion will not play ball and will not buy the Mcman­sions being sold by the gen x chil­dren of deceased boomers.”

    They’ll buy it, just the demand will not meet this sup­ply, thus down­ward pres­sure on prices will occur.

    Then we may be able to see change in the way the prop­erty ponzi is man­aged. Price to earn­ings ratio’s will come down, tran­fers taxes will come down and prop­erty will again been seen as some­thing of a lifestyle choice that meets other objec­tives rather than a spec­u­la­tive invest­ment.”

    Steve has to walk to Mt Kosciosko because his proph­e­sis­ing abil­i­ties failed to take in all vari­ables. There are too many vari­ables for your above claim to be con­sid­ered a viable state­ment.

    For starters P/E ratios com­ing down?

    I doubt that. Earn­ing prob­a­bly will come down, but then I would pre­dict prices would too, keep­ing P/E’s the same.

  • The­Word

    Thanks for that, Steve.
    The point of my query (whether your model can repro­duce an Argen­tin­ian expe­ri­ence) is get­ting to the heart of whether we can expect defla­tion or infla­tion. We know that your model can pre­dict a defla­tion in the future, how­ever if it can also repro­duce a South Amer­i­can-style infla­tion­ary surge, then per­haps we can more closely analyse what are the essen­tial determinants/decisions which result in one expe­ri­ence, or the other.

  • KBH

    ueber­baer — please, no pars­ing of what I said, with­out due regard to the whole. So often in debate & dis­cus­sion words & ideas are taken out of con­text. The com­par­i­son was with harder times of the past, and with the devel­op­ing world where peo­ple are strug­gling to sur­vive.

  • They are nei­ther new nor Key­ne­sian. They are neo­clas­si­cal mod­els with nom­i­nal wage rigid­ity used to explain unem­ploy­ment. A waste of time.

  • TO some degree, but all I’m talk­ing about is tam­ing the finan­cial sys­tem. We still have prob­lems with the sus­tain­abil­ity of the pro­duc­tion sys­tem on a finite planet (though I don’t want to re-ignite the global warm­ing impasse here), and if we ever solve that then the issues of dis­tri­b­u­tion of income still remain.

    What I would hope though is that large-scale finan­cial crises could be made a thing of the past.

  • Philip


    I’ve thought of an inter­est­ing eco­nomic exper­i­ment that can be per­formed in the class­room. Take a class of high-level eco­nomic and finance stu­dents (3rd-4th year under­grad, mas­ters, PhD) and break them up into small groups, per­haps 2–3 stu­dents per group.

    Then assign a chap­ter out of the con­ven­tional micro­eco­nom­ics text­book to each group. Their assign­ment for the semes­ter is to test the valid­ity of the mod­els pre­sented within the chap­ter they are assigned. The assign­ment out­put will con­sist of a report and pre­sen­ta­tion.

    The result of such an exper­i­ment will be that many of the mod­els can be trashed and a new book, Debunk­ing Eco­nom­ics: Stu­dent Edi­tion, can be made!


    I am not going to ‘solve’ any such prob­lems myself. It is up to peo­ple to orga­nize them­selves together to decide what they want to do and how to accom­plish it.

  • debtjunkies


    My com­ments were intended as an obser­va­tional inter­pre­ta­tion of the sit­u­a­tion as i see it unfold­ing over the next 10–20 years.

    Matbe I should have said it this way:

    Gen Y, real­is­ing that they can only afford to buy out the back of bourke (no offense intended to any­one) will adapt their lifestyle goals and views and choose to rent and enjoy the inner city and beach side lifestyle, sav­ing their spare cash and invest­ing it as they can.

    This will then lead to an even­tual rethink of the way soci­ety as a whole views prop­erty own­er­ship and accord­ingly gov­ern­ment (as the rep­re­sen­ta­tives of soci­ety as a whole) will adapt their poli­cies to reflect these chang­ing views of soci­ety.

    As for proph­e­sis­ing, isnt that what most of the peolpe here are doing, try­ing to throw up dif­fer­ing views as to pos­si­ble out­comes yet with no real chance of wider accep­tance.

    I think that is the rea­son most of us are here, we under­stand there is a real prob­lem but no one except the hand­ful here seem to take the same view.

    I am also hope­ful.

  • The Out­back Ora­cle

    For starters P/E ratios com­ing down?

    I doubt that. Earn­ing prob­a­bly will come down, but then I would pre­dict prices would too, keep­ing P/E’s the same.”

    Zero and neg­a­tive (after tax) real inter­est rates ensure high P/E ratios, more and more lever­age in an effort to pro­duce some sort of return.
    What has been engi­neered in the past, and what is try­ing to be engi­neered again (or kept inflated?)is earn­ings com­ing down, Prices going up, and the ‘gap’ filled by credit.

    What a wide-rang­ing and inter­est­ing dis­cus­sion this has been! Thanks to every­one.

  • Debt2death

    Oi… Rust­penny @321 is debtjunkies not me. Now that this debate seems to be back to the gen­er­a­tion game..

    My take is that the govnt has made a ‘cra­dle to grave’ deal with the boomers. They paid their due so they are enti­tled to their pen­sion as far as I am con­cern.

    Imag­ine con­tribut­ing circa 9% of your wages/salaries to the wel­fare state, all your life, and then turn round to be judged by every­one..

    Not cool.…..

  • KBH

    RE Busi­ness Earn­ings.
    On a busi­ness level, it is not all that dif­fi­cult to main­tain profitability/earnings in a declin­ing mar­ket, if you are quick to reduce costs (fixed & vari­able). At the begin­ning of a slow­ing envi­ron­ment, often raw mate­ri­als & some costs & ser­vices come down too (eg Met­als, Fuel, freight etc). The other boost comes from weaker com­peti­tors falling away, leav­ing the stronger with a sud­den lift in sales, and reduc­tion of com­pe­ti­tion.

    I sus­pect this is what we have seen in the past 12 months, and why many busi­nesses have been able to report rea­son­able prof­itabil­ity.

    The real issue is keep­ing the rev­enue line high, which is tough in the cur­rent envi­ron­ment of reduced spend­ing. That is what most busi­ness fear, as once the rev­enue line approaches the break even point, then busi­nesses are forced to draw down against their cap­i­tal, thus devalu­ing their bal­ance sheet val­u­a­tions.

    If things con­tinue to slow & rev­enue con­tin­ues to drop, then col­lapse comes quickly after that.

  • scep­ti­cus

    Buiter advo­cates turn­ing pub­lic debt into pub­lic equity. I still think this leaves the prob­lem of the default leav­ing open the door for hyper­in­fla­tion.

    Finally, I would pro­pose that instead of issu­ing tra­di­tional gov­ern­ment fixed or vari­able inter­est debt instru­ments (includ­ing index-linked instru­ments), gov­ern­ments instead issue real-GDP-growth-con­tin­gent bonds. These instru­ments are not new. GDP growth war­rants were issued by Argentina fol­low­ing their most recent exter­nal debt default in 2002.

    As a sim­ple exam­ple, gov­ern­ment debt could be of the fixed nom­i­nal value, vari­able inter­est rate type where the inter­est rate equals the growth rate of nom­i­nal GDP plus some con­stant. Pro­vided the real GDP and GDP defla­tor data can­not be manip­u­lated by the bor­row­ing author­i­ties, and pro­vided a rule is devised for han­dling GDP revi­sions, this would reduce real inter­est rates on the pub­lic debt when real GDP growth and/or infla­tion were low. Should nom­i­nal GDP growth go neg­a­tive (by an amount greater than the con­stant in the inter­est rate for­mula), this would be han­dled as a reduc­tion in the amount of debt out­stand­ing, so neg­a­tive inter­est rates would not be a prob­lem. GDP growth-con­tin­gent bonds are prob­a­bly the clos­est we can get to ‘equity in a nation’. And turn­ing pub­lic debt into pub­lic equity would be a major enhance­ment of the pol­icy arse­nal of gov­ern­ments in the cur­rent phase of the global cycle. This equi­ti­za­tion of the pub­lic debt would reduce the real bur­den of debt financ­ing when it is needed most, dur­ing a down­turn and when defla­tion threat­ens.”

  • KBH

    Q4 is always an inter­est­ing time for US company’s. Being a finan­cial year end, it stands as the mea­sure in most senior man­agers per­for­mance bonus pack­ages. In a large Corp could be 200% of base salary for the CEO, with pro­por­tion­ally lower % within the struc­ture through to mid­dle & lower man­age­ment.

    So the corp’ offi­cers are highly incen­tivised to reduce costs, and boost the bot­tom line. 

    The down­side for the gen­eral employee is reduced over­time, and in some corp’ time off with­out pay. The down­side for society/economy is that the gen­eral employee is not going to spend, out of either reduced dis­pos­able income or out of fear. Although the busi­ness may appear to be more prof­itable, the price may be paid else­where by the whole.

  • Philip


    All the wealth that has been cre­ated over the past 70 years have come at a cost that is not tracked in any ledgers.”

    Very true. If detailed cost analy­sis could be per­formed to dis­cover and mon­e­tize (where pos­si­ble) the costs of the pri­vate sec­tor (neg­a­tive exter­nal­i­ties, state pro­tec­tion, crimes, etc.), many indus­tries and most medium-large firms will not have made a sin­gle cent in profit in their entire his­to­ries.

    If such cost analy­sis can be per­formed on every cor­po­ra­tion in the ASX 500, I would sus­pect that not one of them has cre­ated a sin­gle cent in profit once all their costs have been fac­tored in.

    Such firms/industries are not wealth cre­ators, but wealth extrac­tors, which have the goal of con­cen­trat­ing as much wealth of soci­ety into the hands of its man­agers and own­ers (top 10% of income ‘earn­ers’ and asset hold­ers) whereas most costs are imposed upon the bot­tom 90%.

    My own research into the phar­ma­ceu­ti­cal indus­try has dis­cov­ered 41! costs that are imposed upon indi­vid­u­als, soci­ety, tax­pay­ers and con­sumers. Econ­o­mists like to pre­tend that the only cost in this instance is a tem­po­rary scheme of monop­oly pric­ing.

    The phar­ma­ceu­ti­cal, soft­ware, petro­chem­i­cal, finance, trans­porta­tion, bank­ing, and min­ing indus­tries (among oth­ers) would col­lapse tomor­row if they had to inter­nal­ize their costs.

    Econ­o­mists don’t bother to fac­tor such costs into their eco­nomic analy­sis of mar­kets. The prob­lem is twofold: (1) because the costs are so large and exten­sive, aggre­gat­ing and mon­e­tiz­ing them takes an extra­or­di­nary amount of time, and (2) real­iz­ing such costs exist imme­di­ately under­mines the sup­posed ‘effi­ciency’ of cap­i­tal­ist mar­kets.

    Econ­o­mists don’t bother with such analy­sis because it is the quick­est way to an early retire­ment. Part of the bank­ruptcy of neo­clas­si­cal eco­nomic the­ory is that it assumes that firms inter­nal­ize their costs and that if they do exist, they are small in scope and can be eas­ily han­dled.

    The stan­dard pro­posal of deal­ing with such costs is the ludi­crous ‘Coase the­o­rem’. It advo­cates the prob­lem as the solu­tion — more mar­kets!

    Unfor­tu­nately, the costs imposed by the pri­vate sec­tor, with the help of gov­ern­ment which looks the other way and pre­tends such costs don’t exist, are the rule rather than the excep­tion. Cap­i­tal­ist mar­kets pro­vide strong incen­tives for firms to impose their costs onto oth­ers. The big­ger the firm, the more power it has to exter­nal­ize costs.

    Firms hire accoun­tants, tax lawyers and econ­o­mists to fig­ure out prof­its, losses, rev­enues, tax, etc. which are then detailed in annual reports. Guess how many pro­fes­sion­als are allo­cated to detail­ing the costs that the firms exter­nal­ize? None.

    As two econ­o­mists put it:

    …the fact remains that in post­feu­dal his­tory a plau­si­ble case can be made that no eco­nomic fail­ure has con­tributed more to the waste of pro­duc­tive resources than mis­al­lo­ca­tions of mar­kets uncor­rected for exter­nal effects.”

    Albert, Michael and Robin Hah­nel. 1990. A Quiet Rev­o­lu­tion in Wel­fare Eco­nom­ics (Prince­ton Uni­ver­sity Press).

    Steve’s work would cer­tainly help to dimin­ish the endemic costs of one indus­try, the finan­cial indus­try, to everyone’s ben­e­fit (apart from man­agers and share­hold­ers, of course).