Debt­watch No 41, Decem­ber 2009: 4 Years of Call­ing the GFC

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I first realised that the world faced a seri­ous finan­cial cri­sis in the very near future in Decem­ber 2005, as I pre­pared an Expert Wit­ness Report for the NSW Legal Aid Com­mis­sion on the sub­ject of preda­tory lend­ing.

My brief was to talk about the impact of such con­tracts on third par­ties, since one ground to over­turn a loan con­tract was that it had dele­te­ri­ous impacts on peo­ple who were not sig­na­to­ries to the con­tract itself. I was approached because the solic­i­tor in the case had heard of my aca­d­e­mic work on Hyman Minsky’s “Finan­cial Insta­bil­ity Hypoth­e­sis”.

Minsky’s hypoth­e­sis argued that a cap­i­tal­ist econ­omy with sophis­ti­cated finan­cial insti­tu­tions could fall into a Depres­sion as an exces­sive buildup of pri­vate debt occurred over a num­ber of finan­cially-dri­ven busi­ness cycles. I had built a math­e­mat­i­cal model of Minsky’s hypoth­e­sis in my PhD, which gen­er­ated out­comes like the one shown below: a series of booms and busts lead to debt lev­els ratch­et­ing up over time, until at one point the debt-ser­vic­ing costs over­whelmed the econ­omy, lead­ing to a Depres­sion.

Fig­ure 1

When I began writ­ing my Report, I started with the com­ment that “debt to GDP lev­els have been ris­ing expo­nen­tially”. But since I was an Expert Wit­ness in this case rather than the Bar­ris­ter, I knew that I couldn’t rely on hyperbole–and if the trend of growth wasn’t expo­nen­tial, then I couldn’t call it that. I expected that there would be a ris­ing trend, but that it wouldn’t be quite expo­nen­tial, so I would need to amend my ini­tial state­ment.

I down­loaded the data on Aus­tralian pri­vate debt and nom­i­nal GDP lev­els from the RBA Sta­tis­ti­cal Bul­letin, plot­ted one against the other, and my jaw hit the floor: the trend was clearly expo­nen­tial. The cor­re­la­tion coef­fi­cient of the data since mid 1964 with a sim­ple expo­nen­tial func­tion was a stag­ger­ing 0.9903. The only thing that stopped the cor­re­la­tion from being absolutely per­fect were two super-bub­bles (on top of the over­all expo­nen­tial trend) in 1972–76 and 1985–94.

Fig­ure 2

I expected that the sit­u­a­tion in Amer­ica would be as bad or worse, which was con­firmed by a quick con­sul­ta­tion of the Fed­eral Reserve’s Flow of Funds data. Though not as obvi­ously expo­nen­tial as in Australia’s case, the cor­re­la­tion with sim­ple com­pound growth was still 98.8%.

Fig­ure 3

So debt had been grow­ing faster than GDP–4.2% per annum faster in Australia’s case for over 40 years, and 2.7% faster for longer in the USA’s. An unsus­tain­able trend in debt had been going on for almost half a cen­tury.

Star­ing at those graphs (at roughly 3am in Perth, West­ern Aus­tralia), I realised that these debt bub­bles had to burst (and prob­a­bly very soon), that a global finan­cial cri­sis would erupt when they did, that some­one had to raise the alarm, and that given my knowl­edge, that some­one was me. As soon as my Expert Wit­ness Report was fin­ished, I started mak­ing com­ments in the media about the like­li­hood of a reces­sion.

Less than 2 years later, the Global Finan­cial Cri­sis erupted, and econ­o­mists who didn’t see it com­ing, and who for decades had argued that gov­ern­ment spend­ing could only cause infla­tion, sud­denly called for–and got–the biggest gov­ern­ment stim­u­lus pack­ages in world his­tory to pre­vent an eco­nomic Armaged­don.

To some degree, the gov­ern­ment stim­u­lus pack­ages worked.

I am happy to admit that the scale of the gov­ern­ment coun­ter­mea­sures sur­prised me. As Australia’s Prime Min­is­ter Kevin Rudd pointed out, the col­lec­tive stim­u­lus over the 3 years from Sep­tem­ber 2007 till Sep­tem­ber 2010 was expected to be equiv­a­lent to 18 per­cent of global GDP. That was huge–bigger in real terms than the US’s mil­i­tary expen­di­ture dur­ing World War II.

That huge gov­ern­ment stim­u­lus has atten­u­ated the sever­ity of the cri­sis, and led to pos­i­tive growth fig­ures in many countries–most notably Aus­tralia, which recorded only one quar­ter of falling GDP ver­sus a norm of 4 con­sec­u­tive quar­ters for most of the OECD. But it still has not addressed the cause of the crisis–the exces­sive level of pri­vate debt, and the tran­si­tion from a period of decades in which ris­ing debt fuelled aggre­gate demand, to one in which the pri­vate sector’s attempts to reduce debt will sub­tract from aggre­gate demand.

For that rea­son, I do not share the belief that the GFC is behind us: while the level of pri­vate debt remains as gar­gan­tuan as it is today, the global econ­omy remains finan­cially frag­ile, and a return to “growth as usual” is highly unlikely, since that growth will no longer be pro­pelled by ris­ing lev­els of pri­vate debt.

Pri­vate debt has, as in past down­turns, started to fall com­pared to GDP–though in Australia’s case the so-called “First Home Own­ers Boost (which dou­bled the amount of money the gov­ern­ment gave to first home buy­ers from A$7,000 to A$14,000)  enticed so many new entrants into mort­gage debt that Australia’s ratio started to rise again in mid 2009.

America’s ratio, on the other hand, con­tin­ued to rise through the start of the GFC, but is now clearly falling.

Fig­ure 4

Hav­ing dri­ven demand higher every year since the 1990s reces­sion by ris­ing and ris­ing faster than nom­i­nal GDP, pri­vate debt is now falling and reduc­ing aggre­gate demand. This is delever­ag­ing at work, and it is the force that gov­ern­ments are try­ing to resist by boost­ing their own spend­ing as pri­vate spend­ing stag­nates.

Fig­ure 5

Australia’s suc­cess in avoid­ing a reces­sion has been partly due to the fact that its poli­cies encour­aged pri­vate debt to grow again, as first home buy­ers took the addi­tional A$7,000 of gov­ern­ment money to the banks and bor­rowed against it (but even there, debt reduc­tion by busi­ness and the reduc­tion in per­sonal debt is coun­ter­act­ing the rise in mort­gage debt).

Fig­ure 6

This is one fool­proof means to avoid a seri­ous recession–go back to bor­row­ing and spend­ing up big. This is, after all, what ended the reces­sion of the 1990s–and in the USA’s case, it hap­pened with­out debt actu­ally falling. Australia’s greater reces­sion then was due to the fact that debt did actu­ally fall between 1991 and 1993, so that delever­ag­ing dras­ti­cally reduced aggre­gate demand.

Fig­ure 7

So could the global econ­omy get out of the global finan­cial cri­sis the same way it got out of the 1990s recession–by bor­row­ing its way up? That’s where the sheer level of debt becomes an issue–and it’s why I stuck my neck out and called the GFC, because I sim­ply didn’t believe that we could bor­row our way out of trou­ble once more. Debt did con­tinue ris­ing rel­a­tive to GDP for sev­eral years after I called the GFC, but it has now reached lev­els that are sim­ply unprece­dented in human his­tory.

For the “bor­row­ing our way out” trick to work once more, we would need to reach lev­els of debt that would make today’s records look like a pic­nic. What are the odds that that could hap­pen again?

Fig­ure 8

The debt servicing burden

The sim­plest mea­sure of the impact of debt lev­els on the econ­omy is to look at the ratio of inter­est pay­ments to GDP. There are obvi­ously two fac­tors here: the level of inter­est rates, and the ratio of debt to GDP. A very high rate of interest–such as applied dur­ing the 1970s–can mean that even a low level of debt (rel­a­tive to income) is hard to ser­vice; con­versely, a low rate of interest–such as we have now–can be hard to ser­vice if debt lev­els are very high.

The next two charts illus­trate this for Aus­tralia and the USA by record­ing inter­est rates on the ver­ti­cal axis and the debt to GDP ratio on the hor­i­zon­tal. The smooth curves on the charts show com­bi­na­tions of the debt to GDP ratio and the rate of inter­est that require the same pro­por­tion of GDP to be devoted to debt ser­vic­ing. The jagged lines show the actual progress of the debt ser­vic­ing bur­den over time in both countries–starting from 1959 in Australia’s case and 1971 in the USA’s (the ear­li­est date for my data on US aver­age inter­est rates). The dia­grams tell an inter­est­ing story about the evo­lu­tion of the Ponzi finan­cial sys­tem we now inhabit.

Back in 1960, debt ser­vic­ing in Aus­tralia required a mere 2% of GDP. This rose rapidly to a peak of 16.7% of GDP in 1990–the begin­ning of Australia’s most severe post-War recession–as both inter­est rates and the debt to GDP ratio rose.

Then the ser­vic­ing costs plum­meted dra­mat­i­cally in the after­math to the 1990s reces­sion, as the Reserve Bank dras­ti­cally cut rates–in the belated real­i­sa­tion that they had set them far too high in the late 80s in an attempt to con­trol the asset bub­ble of that decade–and as the debt to GDP ratio fell (as did the actual debt level) dur­ing the reces­sion.

Then Aus­tralia bounced along an 8% debt bur­den con­tour between 1993 and 2000, as inter­est rates fell while debt levels–driven by ris­ing mort­gage debt–rose.

Next the bur­den began to rise from 2003, as mort­gage and busi­ness debt both expanded and the RBA began increas­ing rates to attempt to con­trol the boom­ing econ­omy.

Rates then reached their peak in mid-2008 when the RBA finally realised that, rather than infla­tion being the main dan­ger fac­ing the econ­omy, we were actu­ally in a finan­cial cri­sis. At this point, the debt ser­vic­ing bur­den on the econ­omy was the same as it was in 1990–even though rates were half what they were then–because the pri­vate debt to GDP ratio had dou­bled in the mean­time.

The RBA went rapidly into reverse–cutting rates at 1% a month after hav­ing pre­vi­ously increased them in 1/4% steps. The debt  ratio started to fall, and the debt ser­vic­ing bur­den fell back to 10.25% of GDP–from where it is now ris­ing once more as First Home Buy­ers pile on more debt, and the RBA is back once again fight­ing the myth­i­cal dragon of con­sumer price infla­tion (though recent com­ments imply it is also finally tar­get­ting house price infla­tion too).

Fig­ure 9

The Amer­i­can story is sim­i­lar, but involves much larger lev­els of debt and a con­se­quently higher debt ser­vic­ing bur­den. This began at over 5% of GDP in 1971, and rose to a mas­sive 23.4% of GDP in 1981–a dif­fer­ent date to Australia’s, but also the time of the USA’s worst post-War reces­sion (this is not a coin­ci­dence). Aver­age inter­est rates peaked at 19.75% under Vol­cker in mid 1981.

The bur­den then fell rapidly as rates were cut sig­nif­i­cantly, only to rise once more as the 1980s stock mar­ket bub­ble took off, and the Vol­cker Fed tried to restrain the bub­ble once more with ris­ing rates.

Then the 1987 crash hit, fol­lowed by the 1990s reces­sion, and under Greenspan rates were pared back as the debt to GDP ratio actu­ally fell for a time.

Then the Dot­Com bub­ble began, and debt began to rise once more–and the Sub­prime bub­ble com­menced in the back­ground. The Fed responded to the Dot­Com bust of 2000 with a rapid cut in its rate that drove aver­age rates down from around 9% to just 4.4%, while at the same time ris­ing mort­gage and finan­cial sec­tor debt pushed the aggre­gate debt ratio past the Great Depres­sion record of 235% of GDP.

Fig­ure 10

The Fed, firstly under Greenspan and then Bernanke, tried to restrain the bub­ble with ris­ing inter­est rates once more–until the Sub­prime Cat­a­stro­phe hit and it once again went into reverse, dri­ving its own rate down to zero and the aver­age rate to about 3.5%. That is where the USA now wal­lows, with a debt bur­den of almost 300% and a debt ser­vic­ing bur­den of 10% of GDP.

Both coun­tries now have lower aver­age inter­est rates than they had back in the 1960s, but a debt ser­vic­ing bur­den that is many times higher (five times higher in Australia’s case and dou­ble in America’s) because both Cen­tral Banks obsessed about the rate of con­sumer price infla­tion, while ignor­ing ram­pant growth in pri­vate debt.

And it’s actu­ally worse than that when one con­sid­ers the longer term.

Deflation and Depressions

There are actu­ally two ways to reduce your debt burden–by pay­ing it down your­self, or by let­ting infla­tion do it for you. So to gauge the real impact of debt on an econ­omy, you have to con­sider the after-infla­tion rate of interest–and when infla­tion is high, this can actu­ally be neg­a­tive.

Con­versely, when defla­tion strikes, the real rate can be higher–much higher–than the nom­i­nal rate. This is why Fisher called his the­ory “the Debt-Defla­tion The­ory of Great Depression”–because debt on its own was nowhere near as dan­ger­ous as defla­tion. Con­sid­er­ing the real debt ser­vic­ing bur­den empha­sises how much dan­ger we are in now. The two big Depres­sions of the last one and a half centuries–the 1890s and the 1930s–had sub­stan­tial deflation–with prices falling at up to 15 per­cent per annum in the 1890s, and over 10 per­cent per annum for two years dur­ing the Great Depres­sion. That meant that even a low nom­i­nal rate of inter­est was a huge real rate.

Fig­ure 11

Fig­ure 12

Con­versely, peri­ods of high infla­tion in the post-WWII period have meant that even high nom­i­nal rates meant low–and in some cases negative–real inter­est rates (it was cheaper to bor­row money now and pay it back later than it was to avoid debt).

The effect of infla­tion dras­ti­cally trans­forms the inter­est pay­ment bur­den map–and it empha­sises the dan­gers in the low infla­tion envi­ron­ment we are now in.

For Aus­tralia, the worst real bur­den of debt ser­vic­ing occurred in the 1890s, when our debt to GDP ratio was higher than in the 1930s, and defla­tion drove the real rate of inter­est to over 20 per­cent. At that point, 19% of Australia’s GDP was needed to ser­vice debt–and the econ­omy fell into a deep Depres­sion (worse than the Great Depres­sion) as a result.

Fig­ure 13

Fig­ure 14

I don’t have data on 1890s debt lev­els in the USA, but I doubt that it could com­pare the the Great Depres­sion in that coun­try, as the real debt repay­ment map below empha­sises. The com­bi­na­tion of–until then–an unprece­dented level of pri­vate debt and steep defla­tion meant that the real debt bur­den on the econ­omy con­sumed 50% of GDP (using Moody’a Baa rate as a proxy for the aver­age inter­est rate).

Fig­ure 15

Fig­ure 16

All of the above points out how dan­ger­ous a sit­u­a­tion we are in with infla­tion rates as low as they have been dri­ven by glob­al­i­sa­tion and by Cen­tral Banks that have obsessed about the rate of con­sumer price infla­tion and ignored both asset price infla­tion and the debt lev­els that have dri­ven it.

In Australia’s case, all it would take is a 6% change in the real inter­est rate to put us back in the same sit­u­a­tion we were in dur­ing the 1890s–because debt today is about 65% higher than back then.

In America’s case, a much larger jump of 11.5% is required to bring it back to the 1930s situation–but that’s before we take into account the impact of defla­tion on the debt ratio itself, since defla­tion actu­ally increases the real debt bur­den as well as increas­ing real inter­est rates. That effect was dras­tic dur­ing the Great Depres­sion: the US’s debt ratio rose from 175% to 235% even as debt fell from $162 bil­lion to $125 bil­lion.

Fig­ure 17

If a sim­i­lar effect applied this time and defla­tion drove pri­vate debt lev­els to 400% of GDP, it would only take a 6% rate of defla­tion to put Amer­ica in the same posi­tion it was in in 1932.

I hope this review estab­lishes why the debt to GDP ratio is such an impor­tant indi­ca­tor of finan­cial fragility, and why as a con­se­quence the GFC is far from over.

Only one ques­tion remains: why do Cen­tral Banks ignore the debt to GDP ratio?

There is nothing more dangerous than a bad theory

The sim­ple rea­son is: because they are neo­clas­si­cal econ­o­mists. You don’t get to be a Cen­tral Banker with­out a degree in eco­nom­ics, and the school of thought that dom­i­nates eco­nom­ics today is known as neo­clas­si­cal eco­nom­ics. Though a lot of what it says appears to be super­fi­cially intel­li­gent, almost all of it is intel­lec­tual dri­vel, as I out­lined in my book Debunk­ing Eco­nom­ics (which sum­marised a cen­tury of pro­found cri­tiques of this the­ory which its prac­ti­tion­ers have stu­diously ignored).

Since cri­tiques by econ­o­mists and math­e­mati­cians of this the­ory have lit­er­ally filled books, I won’t try to go into all of them here. Just three key neo­clas­si­cal myths suf­fice to explain why they do not under­stand the dynam­ics of our credit dri­ven soci­ety. They believe that:

(1) The nom­i­nal money sup­ply doesn’t affect real eco­nomic out­put;

(2) The pri­vate sec­tor is ratio­nal while the gov­ern­ment sec­tor is not; and

(3) That they can model the econ­omy as if it is in equi­lib­rium.

The first myth means that they ignore money and debt in their math­e­mat­i­cal mod­els: most neo­clas­si­cal mod­els are in “real” terms and com­pletely omit both money and debt. So since debt doesn’t even turn up in their mod­els, they are unaware of its influ­ence (even though their sta­tis­ti­cal units do a very good job of record­ing the actual level of debt).

The sec­ond myth means that they are quite will­ing to obsess about gov­ern­ment debt, but they implic­itly believe that pri­vate debt has been incurred for sen­si­ble rea­sons so that it can’t cause any prob­lems.

The third myth means that they ignore evi­dence that indi­cates that the econ­omy is very far removed from equi­lib­rium, and they mis­un­der­stand the effect of cru­cial vari­ables in the dis­e­qui­lib­rium envi­ron­ment in which we actu­ally live.

I can give two instances of how this has affected attempts to get Cen­tral Bankers to realise that the debt to GDP ratio mat­ters: Ben Bernanke’s dis­cus­sion of Irv­ing Fisher’s “Debt Defla­tion The­ory of Great Depres­sions”, and a dis­cus­sion I had with a Assis­tant Gov­er­nor of Australia’s Reserve Bank on the topic.

Bernanke an expert on the Great Depression?

Ben Bernanke got his cur­rent posi­tion largely on the basis of his rep­u­ta­tion as an expert on the Great Depres­sion. In his Essays on the Great Depres­sion, he explained why most econ­o­mists ignored Irv­ing Fisher’s the­ory of how the Depres­sion occurred–which empha­sised the impor­tance of debt and defla­tion:

The idea of debt-defla­tion goes back to Irv­ing Fisher (1933). Fisher envi­sioned a dynamic process in which falling asset and com­mod­ity prices cre­ated pres­sure on nom­i­nal debtors, forc­ing them into dis­tress sales of assets, which in turn led to fur­ther price declines and finan­cial dif­fi­cul­ties. His diag­no­sis led him to urge Pres­i­dent Roo­sevelt to sub­or­di­nate exchange-rate con­sid­er­a­tions to the need for refla­tion, advice that (ulti­mately) FDR fol­lowed. Fisher’s idea was less influ­en­tial in aca­d­e­mic cir­cles, though, because of the coun­ter­ar­gu­ment that debt-defla­tion rep­re­sented no more than a redis­tri­b­u­tion from one group (debtors) to another (cred­i­tors). Absent implau­si­bly large dif­fer­ences in mar­ginal spend­ing propen­si­ties among the groups, it was sug­gested, pure redis­tri­b­u­tions should have no sig­nif­i­cant macro­eco­nomic effects.” (Bernanke, 1995 p. 17).[1]

Though Bernanke notes that Fisher “envi­sioned a dynamic process”, his state­ment of why neo­clas­si­cal econ­o­mists ignored his the­ory is inher­ently couched in equi­lib­rium terms–it sees debt-defla­tion as merely redis­trib­ut­ing income from one group in soci­ety (debtors) to another (cred­i­tors).  How can aggre­gate demand fall so much, if all that is hap­pen­ing is a trans­fer of income and wealth from one group of con­sumers to another?

How­ever when one thinks in truly dynamic terms, income is not all there is to aggre­gate demand. In a dynamic set­ting, aggre­gate demand is not merely equal to income, but to income plus the change in debt.

Dur­ing a debt-dri­ven finan­cial bubble–which is the obvi­ous pre­cur­sor to a debt-deflation–rising lev­els of debt pro­pel aggre­gate demand well above what it would oth­er­wise be, lead­ing to a boom in both the real econ­omy and asset mar­kets. But this process also adds to the debt bur­den on the econ­omy, espe­cially when the debt is used to finance spec­u­la­tion on asset prices rather than to expand production–since this increases the debt bur­den with­out adding to pro­duc­tive capac­ity.

When debt lev­els rise too high, the process that Fisher described kicks in and eco­nomic actors go from will­ingly expand­ing their debt lev­els to actively try­ing to reduce them. The change in debt then becomes neg­a­tive, sub­tract­ing from aggre­gate demand–and the boom turns into a bust.

Debt has lit­tle impact on demand when the debt to GDP ratio is low–such as in Aus­tralia in the 1960s, or the USA from the start of WWII till the early 60s. But when­ever the debt to GDP ratio becomes sub­stan­tial, changes in debt come to dom­i­nate eco­nomic per­for­mance, as can be seen in the next two charts.

Fig­ure 18

Fig­ure 19

It is this effect that eluded Bernanke and his neo­clas­si­cal brethren, because of their insis­tence on try­ing to model the world as if it is always in equi­lib­rium. The debt-dri­ven demand process is obvi­ous when you think dynam­i­cally, but if you try to put it into an equi­lib­rium straightjacket–as neo­clas­si­cal econ­o­mists did–then you can’t under­stand it at all.

A “schoolboy error”?

In 2008 I spoke at a sem­i­nar in Ade­laide that was also addressed by Guy Debelle, an Assis­tant Gov­er­nor (Finan­cial Mar­kets) of the RBA. After my talk he com­mented that he couldn’t under­stand why I com­pared debt to GDP, since that was com­par­ing a stock to a flow.

I was rather non­plussed by the question–to me, the rea­sons why it mat­ters are obvious–but I attempted an answer and thought lit­tle more about the inci­dent.

Some time later, Debelle’s ex-col­league and good friend Rory Robert­son of Mac­quarie Bank repeated Debelle’s obser­va­tions in his inter­est rate newslet­ter, parts of which were then repub­lished on a num­ber of busi­ness blogs, includ­ing Busi­ness Spec­ta­tor. Amongst other things, Rory remarked that:

Dr Steve Keen amongst oth­ers con­tin­ues to make the school­boy error of com­par­ing debt to income (a stock to a flow — apples to oranges) and misses the main game. (Rory Robert­son)

The propo­si­tion that com­par­ing debt to GDP is mak­ing a stock/flow error may appear wise at first glance, but it is in fact non­sense. It instead shows that the per­son mak­ing the com­ment does not under­stand dynamics–which is a fail­ing shared by almost all neo­clas­si­cal econ­o­mists.

In dynamic terms, the ratio of debt to GDP tells you how many years it would take to reduce debt to zero if all income was devoted to debt repay­ment. That is an extremely valid indi­ca­tor of the degree of finan­cial stress a soci­ety (or an indi­vid­ual) is under.

I find that mem­bers of the gen­eral pub­lic under­stand this eas­ily. Only econ­o­mists seem to have any trou­ble com­pre­hend­ing it–not because it is dif­fi­cult but because their own train­ing pays almost no atten­tion to dynamic analy­sis, and there­fore they don’t learn–as sys­tems engi­neers do–that stock/flow com­par­isons can be extremely impor­tant indi­ca­tors of the state of a sys­tem.

Marching ignorantly forward

With such igno­rance about the dynam­ics of debt, aca­d­e­mic econ­o­mists and Cen­tral Banks around the world are hop­ing that the cri­sis is behind them, even though the cause of it–excessive lev­els of pri­vate debt–has not been addressed. They are rec­om­mend­ing wind­ing back the gov­ern­ment stim­u­lus pack­ages in the belief that the econ­omy can now return to nor­mal after the dis­tur­bance of the GFC.

In fact “nor­mal” for the last half cen­tury has been an unsus­tain­able growth in debt, which has finally reached an apogee from which it will fall. As it falls–by an unwill­ing­ness to lend by bankers and to bor­row by busi­nesses and house­holds, by delib­er­ate debt reduc­tions, by default and bankruptcy–aggregate demand will be reduced well below aggre­gate sup­ply. The econ­omy will there­fore falter–and only reg­u­lar gov­ern­ment stim­uli will revive it.

This how­ever will be a Zom­bie Cap­i­tal­ism: the pri­vate sector’s reduc­tions in debt will counter the pub­lic sector’s attempts to stim­u­late the econ­omy via debt-financed spend­ing. Growth, if it occurs, will not be suf­fi­ciently high to pre­vent grow­ing unem­ploy­ment, and growth is likely to evap­o­rate as soon as stim­u­lus pack­ages are removed.

The only sen­si­ble course is to reduce the debt lev­els. As Michael Hud­son argues, a sim­ple dynamic is now being played out: debts that can­not be repaid, won’t be repaid. The only thing we have to do is work out how that should occur.

Since the lend­ing was irre­spon­si­bly extended by the finan­cial sec­tor to sup­port Ponzi Schemes in shares and real estate, it is the lenders rather than the bor­row­ers who should feel the pain–which is the exact oppo­site of the bailout men­tal­ity that dom­i­nates gov­ern­ments around the world.

Unfor­tu­nately, it will take a sus­tained period of fail­ures by con­ven­tional pol­icy before uncon­ven­tional poli­cies, like delib­er­ate debt reduc­tion, will gain polit­i­cal trac­tion. Imple­ment­ing them will require both a dra­matic change of mind­set and prob­a­bly also a wide­spread chang­ing of the polit­i­cal guard.

It will also require the break­ing of the hege­mony of neo­clas­si­cal eco­nom­ics over eco­nomic think­ing, but I doubt that the aca­d­e­mic pro­fes­sion, or econ­o­mists in Cen­tral Banks and Trea­suries, are up to the task of chang­ing their spots. Change in eco­nom­ics will have to come from the rebels, and from out­siders tak­ing over a dis­ci­pline that econ­o­mists them­selves have failed.

The sec­ond decade of the 21st cen­tury promises to be a dra­matic one, polit­i­cally and eco­nom­i­cally.

[1] Bernanke went on to develop his own inter­pre­ta­tion of Fisher which I won’t bother with here because I don’t think it’s worth the effort.
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  • The Out­back Ora­cle


    West­pac have put up their lend­ing rate but have not put up their deposit rate. They do have a 6.2% rate going on 12 month money at the moment. They have a cou­ple of ‘teaser’ rates for NEW accounts. West­pac cer­tainly had some­thing of a cri­sis dur­ing the GFC when they could not roll over their over­seas money. So I am guess­ing that some­where in the next few months there is a hump in their loan roll-overs that they need to cover.
    I am cur­rently in a pitched bat­tle with West­pac on this point. like many busi­nesses mine is sea­sonal. They want to charge 9 or 10% on money we owe them and give us 3.45% on money we have deposited. Mostly we are caught with the prob­lem of hav­ing loans and deposits at the same time for var­i­ous struc­tural and finan­cial rea­sons.
    Any­way my main point is that West­pac have NOT increased deposit rates in any mean­ing­ful way.

    Kelly talks one thing and does another. She talks about need­ing more sav­ings etc but then screws the savers to death at every oppor­tu­nity.

  • Out­back- Thanks for the expla­na­tion What you say makes sense.

  • The USD Is Back

    Pro­fes­sor Keen, You have a fan­tas­tic web­site. Keep up the great work.

    To the gold­bugs on this site. A MASSIVE USD REVERSAL is cur­rently under­way, both from a fun­da­men­tal and tech analy­sis point of view. 

    Let’s face it, if a USD recov­ery occurs (ha,ha!) then the USD goes up.

    If a share­mar­ket panic occurs, then the USD will go up.

    If defla­tion occurs, the USD will go up.

    When the cur­rently short USD traders go long, the USD will up.

    Your Aussie econ­omy is over­stim­u­lated, over­lever­aged and ripe for a mas­sive cor­rec­tion sim­i­lar to what has already occured in the world. Your Aussie dol­lar has already started to go down.

    You can’t bet against Amer­ica, the great­est coun­try in the world.

    Sell Gold.


  • ak

    I would like to rec­om­mend the book already men­tioned by scep­ti­cus, I man­aged to read it yes­ter­day:

    It puts our cur­rent global sit­u­a­tion in the right per­spec­tive. It is such a shame that peo­ple liv­ing in Aus­tralia, USA, UK (and Poland as well) can talk hours about lives of so-called celebri­ties but have no idea what hap­pened in the 17th, 18th or 19th cen­turies. Not only math­e­mat­ics is neglected at school or uni­ver­sity but also his­tory. What is going to hap­pen soon will most likely hardly dif­fer from the past events because the mech­a­nism is the same — only the scale and exter­nal form is dif­fer­ent. There is no “new par­a­digm” — because there can­not be. 

    Spain’s defaults estab­lish a record that remains as yet unbro­ken. Spain man­aged to default seven times in the nine­teenth cen­tury alone, after hav­ing defaulted six times in the pre­ced­ing three cen­turies. With its later string of nine­teenth-cen­tury defaults, Spain took the man­tle for most defaults from France, which had abro­gated its debt oblig­a­tions on nine occa­sions between 1500 and 1800. Because the French mon­archs had a habit of exe­cut­ing major domes­tic cred­i­tors dur­ing exter­nal debt default episodes (an early form of “debt restruc­tur­ing”), the pop­u­la­tion came to refer to these episodes as “blood­let­ting.” The French Finance Min­is­ter Abbe Ter­ray, who served from 1768–1774, even opined that gov­ern­ments should default at least once every 100 years in order to restore equi­lib­rium”

    If ser­ial default is the norm for a coun­try pass­ing through the emerg­ing mar­ket state of devel­op­ment, then the ten­dency to lapse into peri­ods of high and extremely high infla­tion is an even more strik­ing com­mon denom­i­na­tor. No emerg­ing mar­ket coun­try in his­tory, includ­ing the United States has man­aged to escape bouts of high infla­tion.”

    Some writ­ers seem to believe that infla­tion only really became a prob­lem with the advent of paper cur­rency in the 1800s. Stu­dents of the his­tory of metal cur­rency, how­ever, will know that gov­ern­ments found ways to engi­neer infla­tion long before that.”

    The March Toward Fiat Money” shows that mod­ern infla­tion is not as dif­fer­ent as some might believe. How­ever spec­tac­u­lar some of the coinage debase­ments reported (…), there is no ques­tion that the advent of the print­ing press cranked infla­tion up to a whole new level.”

    The author of the book, Ken­neth S. Rogoff is hardly a het­ero­dox econ­o­mist, hav­ing served as Direc­tor of Research Depart­ment of the Inter­na­tional Mon­e­tary Fund.

    This book should prove to some mem­bers of this forum advo­cat­ing defla­tion and forc­ing the bor­row­ers to pay the debt at any price that debt which can­not be paid, will not be paid. Either bor­row­ers will go bank­rupt wreck­ing the whole eco­nomic sys­tem or the debt will be inflated, reduc­ing the real value of sav­ings as well. There are no exam­ples in his­tory that the actual “cleans­ing” of the sys­tem by severe defla­tion and defaults actu­ally worked. A default would only cause more defaults and human mis­ery.

    The book also clearly doc­u­ments how the global sys­tem evolved away from the gold money and gold stan­dard. In my opin­ion only when we under­stand the past and cur­rent processes we can start mak­ing any pre­dic­tions about the future or propos­ing new ideas how to attempt to fix the sys­tem.

  • the_pro


    Do you believe that Judge­ment Day for the Aus­tralian prop­erty mar­ket will still occur in 2010 or have you revised your pre­dic­tions because of the First Home Buy­ers Grant?

  • bur­rah

    Bun­ning Bashes Bernanke
    Sen­a­tor Bun­ning ® Ken­tucky grills Fed­eral Reserve Chair­man Ben Bernanke over his uncon­scionable cor­po­rate social­ism.

  • scep­ti­cus

    AK, please also find time to read the gor­ton paper on the shadow bank­ing sys­tem. Not only is it a rev­e­la­tion about the title issue, it is also a rev­e­la­tion about the social func­tion of bank­ing gen­er­ally.

    its even bet­ter than the rogoff book.

  • Yes, and it’s all the more likely with the First Home Ven­dors Grant com­ing to a close and the RBA being on the ram­page against infla­tion with inter­est rate hikes.

  • Philip

    Given how high prices are in Aus­tralia, I won­der if there will be enough polit­i­cal and eco­nomic pres­sure on Rudd to con­tinue the FHOG after 1st Jan 2010. If that is the case, then it is likely the bub­ble will con­tinue inflat­ing. Oth­er­wise, it will prob­a­bly mean the begin­ning of the bub­ble burst­ing.

    Unfor­tu­nately, the higher the prices, the greater the pres­sure to con­tinue the FHOG, which in the end sim­ply pushes up prices. Thus the cir­cle con­tin­ues.

  • debtjunkies


    Here is the link to the HIA pci for Novem­ber.

    The report basi­cally notes that the con­struc­tion indus­try con­tracted in Novem­ber. The only sub-sec­tor that expanded was home con­struc­tion.

    Given Rudds pred­i­ca­tion to want to be known as a builder of things (cars/houses/schools) IMO Im sure that in 2010 you will get an exten­sion of the FHVG except that it must be used to build a new home. If the pres­sure is enough Im sure he will also extend a grant to any­one who is build­ing or buy­ing a new house — sim­i­lar to the grants extended to any buyer of a new home in NSW.

    It is the type of pol­icy where they prob­a­bly feel as if they can get the great­est bang for buck, help FHO, save con­struc­tion indus­try, do some­thing about rental short­falls and it pro­vides lots of good pic­tures in hard hats for the MSM.

    Houses are basi­cally con­sid­ered a sacro­sanct part of “aussie life” and despite views to the con­trary, IMHO it is prob­a­bly the one form a fur­ther stim­u­lus that the elec­trate will accept espe­cially if it is sold as a mea­sure to assist those in great­est need.

  • cred­it­de­fault­swap

    Steve, thanks for this post and your pre­vi­ous help. As you add pub­lic debt to your analy­sis, you may con­sider “opaque” debt, such as the US social secu­rity and medicare spend­ing pro­grams.
    We can see the US pub­lic debt growth replac­ing con­sumer debt growth as the US increased trans­fer pay­ments such as social secu­rity, unem­ploy­ment ben­e­fits, food stamps, etc and decreased taxes in the last fis­cal year. In addi­tion the US increased GDP by increas­ing Medicare/hospital spend­ing by 100 Bil­lion dol­lars.
    Another point, I find that I can­not treat house­hold debt in the US the same as either busi­ness or finan­cial debt. The spread of Enron account­ing in the US has made this clas­si­cal eco­nomic assump­tion invalid. The higher rate of increase in finan­cial debt is one indi­ca­tor of that.
    Pres­i­dent Hoenig of the Kansas City FRB may have read your works as he did plot debt ver­sus time in his August speech.
    I have a small prob­lem with him mis­la­bel­ing flow of funds table L10 per­sonal sec­tor debt as “con­sumer” debt. This adds roughly 5.8 Tril­lion of “non cor­po­rate busi­ness” debt to 13.7 Tril­lion of house­hold debt.
    An extrap­o­la­tion of the stress indi­ca­tor is the cur­rent ratio of US house­hold debt, 13.7 Tril­lion to US wage income of roughly 6.5 Tril­lion,( after deduct­ing social insur­ance taxes).

  • Vfe

    Philip and oth­ers re the exten­sion of the boost/grant, you have to won­der whether it will have as great an impact. The recent boost brought for­ward mas­sive lev­els of demand and you’d have to expect a black hole behind it. What’s more, with con­tin­ued growth in prices the pres­sure on loan ser­vice­abil­ity would be huge, espe­cially in an envi­ron­ment of stag­nant income growth. 

    Towards the end of the Boost we saw the bot­tom of the bar­rell being scraped. Dual income cou­ples were qual­i­fy­ing for loans by declar­ing their pur­chase as an invest­ment (i.e. use the fore­cast rental income to get them over the line), only to ‘change their minds’ at set­tle­ment and become owner occu­piers. Per­haps this is the pur­pose of this 10,000 per­son per week migra­tion pro­gram — demand import?

  • ak


    Migra­tion of peo­ple who have a sig­nif­i­cant amount of money has been reduced.

    The new Chi­nese ascen­dancy owes more to a col­lapse in migra­tion from the tra­di­tional sources than it does to the 15 per cent annual growth in migra­tion from China. The num­ber of migrants from Britain is down 28 per cent over the year and the num­ber from New Zealand is down 47 per cent.”

    In March the Gov­ern­ment sliced 18,500 off the skilled migra­tion pro­gram for 2009-10, dis­pro­por­tion­ately hit­ting Britain for which skilled migrants account for eight out of 10 flights booked. Chi­nese migra­tion, dom­i­nated by fam­ily reunions, suf­fered less.”

  • home­s4aussies

    I’m in the no exten­sion to the First Home Vendor’s Boost camp. Because I essen­tially agree with Vfe above, and they would not want to give up the illu­sion of it’s omnipo­tence (see­ing as prob­a­bly the great­est pro­pa­ganda tool spruik­ers have is that Gov­ern­ment is all pow­er­ful and will do what it needs to pre­vent house prices from falling).

    I would sug­gest that the most likely next cab off the rank is the naive first time investor.

    I would like to think — if they did intro­duce fur­ther stim­u­lus — it would be aimed solely at new hous­ing (even though I think it is entirely pos­si­ble that we actu­ally have no short­age of hous­ing). But this would have less effect on prices than also tar­get­ting exist­ing hous­ing — thus it would not meet their real aim of per­pet­u­at­ing the bub­ble.

    Con­trary to many, I think the polit­i­cal will to per­pet­u­ate the bub­ble is far from infi­nite — espe­cially when linked to Gov­ern­ment debt and our kids’ futures (the oppo­si­tion strat­egy, when it’s not com­mit­ting hari kari).

    How­ever, as stated many times here, I think that the bag of tricks will run out of power before that point is reached in any case because mar­ket psy­chol­ogy will turn, and the uncer­tainty of cap­i­tal growth will lead peo­ple to make more ratio­nal deci­sions on value. On this point, it’s inter­est­ing the dis­cus­sion (not sure if it was here or else­where) about investors being “priced out” by the boost­ers — of course that is ridicu­lous — they are sim­ply apply­ing a more strin­gent assess­ment on value than what they were ear­lier in the bub­ble.

    And, although we don’t have pub­lished hard fig­ures, there is much evi­dence that the investor dom­i­nant mar­kets are really suf­fer­ing. Recently Louis Christo­pher men­tioned that the hotspots for old list­ings (prop­er­ties that have been on the mar­ket for 2 months or more) were the Gold Coast and Sun­shine Coast. And the below report by Fitch on mort­gage stress (released today) shows that the high­est level of mort­gage stress in the coun­try is in the hol­i­day area Nel­son bay because “They’re just not being able to sell the prop­er­ties” when they get into arrears.

    So even if they do want to stim­u­late the investor mar­ket, and even if the polit­i­cal will exists (ie. elec­toral sup­port), and even if the investors respond — there seems to be a sig­nif­i­cant amount of stock to be soaked up before there would be an upward effect on price.

    And I can’t for­get about the 4Corners pro­gram on James Packer where the “Vul­ture of Vegas” showed Michael Barry the apart­ment one below the pent­house with an “in your face” view of the strip cur­rently on the mar­ket for US$399K and nego­tiable (sold new two years ear­lier for over dou­ble that). In the next stage apart­ment tower, brand new apart­ments with an even bet­ter view of the strip, only around 30 out of 360 have been sold!

    If prop­erty invest­ing was your game, why invest in the last remain­ing bub­ble? With the $ approach­ing par­ity I reckon a flash Las Vegas apart­ment for $400K would beat a small apart­ment with a nice view of the “black stump” for the same price.

    Per­haps that’s why they tar­get the naive.… 😉

  • home­s4aussies

    Just read­ing the FitchRat­ings report (go to sub­scribe and search “post­code” to view the report).

    One very inter­est­ing point. Even though the graph of 30+, 60+ and 90+ day delin­quency clearly shows a down trend from 2009Q1 — as expected — at 30 Sep 2009 the 90+ day delin­quency line has only just reached the level it was at around June/July 2008 (when mort­gage rates were 3–4% higher) which also cor­re­sponds with the early 2007 peak in the the first upcy­cle shown in the graph (data from 2003 to 30 Sep 2009).

    No doubt our delin­quency rates are low by inter­na­tional stan­dards.

    But the fact that the low­est cash rate in half a cen­tury — and unprece­dented cash hand­outs — did not bring the 90+ day delin­quency rate much lower is very telling in my view!

  • Eter­nal Stu­dent


    For those of you who really don’t need Yet Another Inter­net Account, works quite well for this site.

  • ango­phera


    I won­der if there will be enough polit­i­cal and eco­nomic pres­sure on Rudd to con­tinue the FHOG after 1st Jan 2010. If that is the case, then it is likely the bub­ble will con­tinue inflat­ing.”

    The hous­ing bub­ble could be popped by a few dif­fer­ent fac­tors eg. increas­ing unem­ploy­ment.

    Extend­ing the FHOG might kick the can down the road but it might only delay the inevitable. It depends on how much impact the FHOG had on the time pref­er­ence of con­sumers of hous­ing. If it has pulled future demand into the present a void could open up on the demand side of the mar­ket later regard­less of incen­tives.

    Another big fac­tor is demo­graph­ics. How many baby boomers are plan­ning to down­size their home as part of their retire­ment plans? As increas­ing num­bers of boomers “head for the exits” sup­ply could also out­strip demand on a geo­graphic basis eg. plenty of stock in the wrong place.

    Alter­na­tively this could man­i­fest as a mis­match between the hous­ing stock on offer (4 Bed­room McMan­sions) and, say, a demand from the mar­ket for smaller, low cost hous­ing.

    Peak Cheap Oil (if not Peak Oil) could slash the price of hous­ing stock on the urban fringes that are car depen­dant and/or lack cheap pub­lic trans­port options.

    I recently lis­tened to an inter­view on ABC Radio National. A spokesman for a group con­cerned about the pop­u­la­tion car­ry­ing poten­tial of Aus­tralia made the point that a 2% growth rate gives a dou­bling time of 36 years. We are cur­rently around 22 mil­lion.

    Dou­ble the roads, hos­pi­tals, sew­er­age works, potable water and so on? I think not. To under­line the prob­lem our banks raise around 50% of the funds they re-lend by bor­row­ing from for­eign investors accord­ing to David Mur­ray*. A lot of this debt was Uri­dashi** debt placed in Japan. How is Japan look­ing at the moment? Can we sup­port this “dou­bling” on bor­rowed money? Again, I think not.

    *Chair­man of the Future Fund and for­mer MD of the Com­mon­wealth Bank.
    ** I can’t bring myself to say Uri­dashi “bonds”, Uri­dashi IS the Japan­ese word for bond.

  • home­s4aussies

    Another story on Nel­son Bay from today’s SMH -

    I can also recall recent sim­i­lar sto­ries about Mundarah (?) in WA — which a year or two back was in the head­lines for hav­ing the most expen­sive homes rel­a­tive to wages in Aus­tralia.

    This is wide­spread, I am cer­tain.

    Ready for the First Home Investor Boost??? I used to think there would be a 10th home investor boost — but I think they’re already tapped out like the kids — and the banks seem to be more cau­tious on them — so that just leaves the ones that have largely resisted to this point the temp­ta­tion of “equity” with­drawal to “invest” or waste on ram­pant con­sumerism.

    How many of those are around — and how many are naive enough to take the bait???

    Not many would be my guess. I really do think there has been an exhaus­tion of greater fools. What a shame a lot of those fools were just inex­pe­ri­enced kids enticed by a cou­ple of extra $K from Rudd.…

  • ango­phera

    The USD Is Back,

    If you are in the mood to buy USD try China and Japan. I under­stand they have a few they may be pre­pared to part with.

    Inci­den­tally among us tin­foil hat wear­ing, coun­ter­party mis­trust­ing, gold bugs there is a sce­nario doing the rounds that, in part, goes like this:

    1. For the first time in 30+ years of try­ing to get an audit or “end the Fed” bill up Con­gress­man Ron Paul “mirac­u­lously” gets sup­port in 2009.

    2. If the audit is allowed to pro­ceed it dis­closes that the pri­vately owned Fed is “shock! hor­ror!” insol­vent.

    3. The USD = Fed­eral Reserve Note (FRN). Con­gress mem­bers place hands solemnly over their hearts and announce that an insol­vent bank can­not issue the cur­rency of a proud and sov­er­eign nation.

    4. Con­gress redis­cov­ers part of the Con­sti­tu­tion as legal cover for can­celling the FRN and hav­ing Trea­sury issue the New Dol­lar. Con­ver­sion rate is high enough to rebal­ance the Fed­eral finances, say, min­i­mum 3:1 old for new.

    5. Trea­sury debt gets dealt with in par­al­lel. A default I hear you cry, impos­si­ble. Entirely pos­si­ble for a coun­try that has done it twice before in the recent past (Roo­sevelt in the 1930s and Nixon in the 1970s) and more than once in the dis­tant past.

    6. All aggrieved par­ties weigh up advis­abil­ity of going to war with the most pow­er­ful mil­i­tary machine on the planet. Par­ties decide to grin and bear it.

    7. Joe Six­pack and fel­low USA cit­i­zens wake up to find that they have been screwed roy­ally. So, what else is new?

    Observe the recent news out of North Korea. Their new-for-old deal, I think was around 100 old for 1 new.

    Also please take note of Argentina’s post-coral­i­tos deval­u­a­tion of around 75% in the early part of this decade.

    Zim­babwe also made the news when it with­drew the Zim dol­lar and pro­duced a 100% loss for debt denom­i­nated in their paper. Inci­den­tally this stopped hyper­in­fla­tion vir­tu­ally overnight. Nowa­days other cur­ren­cies cir­cu­late freely as money in Zim­babwe and the con­try is recov­er­ing. Please see the link below:
    Zim­babwe — A Fresh Start
    by Alf Fields

  • Vfe


    That Nel­son Bay data is a sig­nif­i­cant local adjust­ment in anyone’s terms. con­firms plenty of dis­count­ing going on. I’m not famil­iar with the area, I sus­pect highly spec­u­la­tive coastal hol­i­day town?

  • ajtj99

    I don’t know if anyone’s seen it before, but I thought this white paper from Car­men M. Rein­hart and Ken­neth S. Rogoff pub­lished April 8, 2008 seems rel­e­vant to the dis­cus­sion:

    It dis­cusses sov­er­eign defaults through­out the past 800-years and how they seem to hap­pen in cycles.

    I think this is sig­nif­i­cant in that dur­ing the peak of the last cycle of defaults after the Great Depres­sion, the ratio of sov­er­eign defaults hit 40% of global GDP. With major economies such as Japan, Great Britain, and the United States all look­ing at pos­si­ble default in the next 10-years, I thought it was rel­e­vant to this forum.

    Prior to the US Great Depres­sion, debt to GDP lev­els hit about 150% at the peak in 1929. From there we saw the rate of debt to GDP drop to around 50% in the 1950’s.

    With the advent of con­sumer debt like credit cards and con­sumer asset backed loans, the ratio will likely never drop to the post-war lows. How­ever, it would be rea­son­able to assume a drop of 100% of GDP peak to trough in the pri­vate de-lever­ag­ing cycle were it allowed to run its course. While that would only take the US down to a debt to GDP ratio of around 250% of GDP, it would mimic the post-Depres­sion cycle drop of 100% of GDP.

    How­ever, if the debt keeps expand­ing after the start of the finan­cial cri­sis like it has, we will likely need to lose the 100% of GDP in debt through a sov­er­eign debt default.

    I really don’t see any work­able real-world alter­na­tives.

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  • Andre

    Steve, this is my first post. Could I please start by blow­ing my own trum­pet? I called the GFC at about the same time as your­self, and I am not a pro­fes­sor of eco­nom­ics. In fact I have never done a course in eco­nom­ics in my life, which was per­haps ben­e­fi­cial in this respect. My assess­ment was based on com­mon sense (which seems to be in short sup­ply in the eco­nom­ics pro­fes­sion):

    1. Too much eupho­ria: Stocks and house prices on a never-end­ing tra­jec­tory upwards.
    2. Come to think of it now, there was only a point 1.

    And my sim­ple-minded assess­ment is that this arises from a num­ber of causes, which are mostly to some degree inter­re­lated, and mostly stem­ming ulti­mately from the first point:

    1. Fail­ure of the demo­c­ra­tic form of gov­ern­ment. Politi­cians have to be will­ing to give the major­ity of vot­ers what they want, and most want some­thing for noth­ing.
    2. Reward for debt and pun­ish­ment of sav­ing (exactly the oppo­site of what I was taught as a kid).
    3. Out of con­trol remu­ner­a­tion in the finan­cial indus­try. This attracts tal­ented peo­ple into a career of money shuf­fling, rather than use­ful pro­duc­tiv­ity in soci­ety.
    4. Finan­cial “suc­cess” for the indi­vid­ual is as much, if not more, a func­tion of “invest­ment” ( or “spec­u­la­tion”?) rather than pro­duc­tive effort.
    5. Lack of trans­parency in many areas of soci­ety (finance, gov­ern­ment, busi­ness). You can’t make sen­si­ble deci­sions if you don’t know what is going on.
    6. Con­trol of the news media by a small elit­ist class (though I admit the advent of the inter­net is reduc­ing their influ­ence some­what).
    7. Dumb­ing down of the gen­eral intel­lect of soci­ety by the end­less and mind­less flow of pro­fes­sional sports “enter­tain­ment”. This lit­tle trick has been known since the time of the ancient Romans.
    8. The woe­ful state of Eco­nom­ics as an intel­lec­tual pur­suit, which is obvi­ous to me from read­ing your blog and the thoughts of “Aus­trian” econ­o­mists, whose writ­ings I admit I find some­what attrac­tive. It is dis­tress­ing that such an impor­tant sub­ject is lan­guish­ing in such a sorry state. It sounds like a pleas­ant past time for arm­chair intel­lec­tu­als and sure is still the “dis­mal sci­ence”.

    You say that “Since the lend­ing was irre­spon­si­bly extended by the finan­cial sec­tor to sup­port Ponzi Schemes in shares and real estate, it is the lenders rather than the bor­row­ers who should feel the pain–which is the exact oppo­site of the bailout men­tal­ity that dom­i­nates gov­ern­ments around the world”. While I agree that lenders should feel pain, why not bor­row­ers too? Both made mis­takes and both should feel the pain of their errors. I’ll have none of this “there, there, you mucked up, but it’s ok, we are from the gov­ern­ment and we are here to help” type of stuff. But then, of course, there are lots of bor­row­ers and bor­row­ers are vot­ers and vot­ers don’t like to feel pain, do they?

  • I agree Andre–the remark­able thing wasn’t that I saw it com­ing but that so many econ­o­mists didn’t. The signs were obvi­ous as you say, and it takes a spe­cial set of delu­sions not to be aware of them.

    On bor­row­ers, how many of them do you know who pay them­selves mil­lion-dol­lar salaries on the basis of their finan­cial exper­tise and bril­liance? The power and research-capa­bil­ity imbal­ance between most bor­row­ers and banks is so great that the lat­ter deserve to feel 99% of the pain for this cat­a­stro­phe.