More than 5 years into this crisis, and there is little sign of long lasting recovery. In fact, if the warnings of non-orthodox economists are to be believed, then we face an even starker future ahead.
There will be much ink spilled (and maybe blood and tears too) over whether it is the “state” or the “free market” that has caused this crisis. This argument has filled many a blog debate over the years, and has also gestated fringe movements as the Tea Party and Occupy.
However, much evidence does point to an unholy collusion between state and “free” markets. Again, much ink could get spilled in unpicking whether there has always been this alliance of interests. As only when the tide is going out can we see who has been swimming a bit too close to whom.
In the end, both the state and the free market are both ambiguous social conventions, and so straw men of only moderately differing qualities (but also of nebulous identity) will be attacked and defended in equal measure.
At their core, both social conventions of state and market are ultimately comprised of individuals. Many of these individuals deftly segue between private & public roles (e.g. Robert Rubin, Hank Paulson and our own Tony Blair) to the point that they can effortlessly appear on whichever side of the argument they choose.
However, what the current and past elite cannot avoid is their personal accountability for specific decisions and actions that they took whilst in positions of power and influence (whether privately employed or state representatives). They may proclaim that they made decisions in good faith, just a shame about the outcomes. However, they cannot be allowed to absolve themselves entirely from blame. At best their defence could only consist of admitting “economic manslaughter through diminished responsibility”.
This crisis is more than just a collective failure of ideology. It has been based on poor decision making by people who did know better, and yet actively dismissed warnings. Above all else, the position of power bestows on them perpetual accountability. They cannot have power without responsibility.
If we allow ourselves to engage in theoretic debate on such an abstract level of state versus free markets, we merely grant the real perpetrators immunity from their specific and individual culpability, regardless of which side of the fence they sit.
It is probably long overdue, but now is a pertinent time to issue an extensive Profits Warning for the West. This is because:
- Stock market valuations are fictitiously high
- Corporate profits are based on sham accounts (Zerohedge)
- The indebtedness of the average person in almost every developed country is excessive and unsustainable
- Government debt is ballooning
At the heart of this cross-sector malady is the fact that the Western banking sector is leveraged beyond comprehension. In the UK the combined balance sheet of private banks is 4.5 times GDP. Is this necessary and is it healthy?
During Britain’s post-war boom years of the ‘50s and ‘60s, it was never more than about half of GDP. So, no, it isn’t necessary.
As for the healthiness of this, well, anyone can look profitable in the short-run if they raid the cookie jar. So, the profit and loss accounts of each of these sectors may look fine. But has anyone studied the balance sheets? Yet this is where the real disease manifests.
To only focus on the P&L account assumes that all of the entities within each of these sectors can sustain themselves as a going concern. But it is increasingly clear that to maintain the fiction, ever more desperate acts of raiding the balance sheet needs to take place. In the UK, not only has public debt climbed higher and higher (a large proportion in recent years as a direct consequence of trying to maintain the fiction of bank solvency), but state assets have been sold off too.
If you are selling off the family silver whilst still running up enormous debts, then something is seriously wrong. This is not cry for public sector austerity. Far from it. Austerity is merely collective punishment of the already unsuspecting victims.
This is a warning that all we take for granted, in terms of our personal solvency, our employer’s solvency and that of our Government’s, as well as the stock market valuation, our savings themselves and even the value of our money, is a fiction.
The longer we maintain the fiction of false profits, the harder the fall.
We are in the midst of a depression / debt deflation, but one unlike anything beforehand. This is truly global. Truly interconnected, and truly uber-leveraged.
No bank is safe, no asset is safe. No currency is safe and no country is safe.
The pyramid scheme is collapsing under its own weight. Yet the twin vortices of inflation and deflation are disorientating us all. Disguising the underlying tensions and masking the future collapse.
The real economy is unable to supply productive capacity growth. We are hitting the buffers in terms of efficiency gain and real economic growth.
With the extortionate rise in money, debt, assets and derivatives we have deluded ourselves into thinking this reflects the true potential of future productive capacity. But that cannot be realised in the real world. The monetary assets actually represent negative inventory (belief that one holds a permanent claim on something tangible in the future – a long term call option as it were).
As energy declines, then real productive capacity is likely to fall too, which means that there will be less REAL assets for consumption to go around. The longer we continue to try and prop up the fictitious leverage, the longer the divergence between ever rising expectations and yet declining real capacity.
Deposits have been rehypothecated, mortagages have been rehypothecated. The nation’s Gold has been too, and in a very real sense our whole economy has.
The amount of claims far exceed the real assets to back them. It is nothing but naked leverage; the only thing holding up our fabricated sense of wealth and international power. Leverage that lurks in the shadow (banking system) until the claims start coming in. So how does this get settled? Are all claims on assets devalued equally, or do only a select few get to keep their claims whilst the rest of us get our fingers burned?
This excellent post on Golem-XIV so graphically highlights both that the claims are coming in (and so the leverage is collapsing behind the scenes), but also that the pyramid builders are making their exit and blocking the rest of us from escaping. They don’t want to get trampled as everyone dashes for the exits.
Ever since this financial crisis exploded in 2008 there have been commentators likening it to the 1930s. Steve Keen explains that private debt levels (never mind the sovereign debt sideshow) are higher than they were in the late 1920s. Paul Mason recently drew parallels with the 1930s in order to discuss various policy responses that might occur.
From an economic policy view, the 1930s crisis was often viewed as a problem of lack of demand. So demand stimulation came to the recue in various different guises. The diagnosis of the 1930s by Karl Polanyi viewed the crisis in terms of social reactions to the damage caused by un-fettered market economics. The blog post Wall of Illusions covers this viewpoint quite succinctly.
However, Polanyi may have missed an important aspect of world economic development. Perhaps the US New Deal, the rise of Fascism & state Communism were actually experiments in socioeconomic structures for optimising demand stimulation. The late 19th century and early 20th century bore witness to enormous increases in economic productive capabilities. The challenge for the economic policy maker was to indentify the best method for creating demand to satisfy this tsunami of supply. Naturally warfare is one method for achieving this.
The success of the Social Democratic mixed economies that emerged post World War II could be attributed to it establishing the least worst method for demand stimulation. Therefore, the debt-based demand growth model (whether by Gvt, business or private households) was the most socially acceptable method for ramping up the global economy to exploit the enormous energy and resource supply that was unearthed. The US and dollar reserve currency rode to the challenge of being the engineer and engine of a profitably expansionist global economy.
In the current crisis the enormous debt overhang threatens to constrain demand. Steve Keen’s exellent analysis of the debt burden, highlights how debt payments are prohibiting real economic growth.
But this is only part of the story.
As we actually reaching the peaking out of many natural resources, crucial for economic growth, the current crisis will be mired in insurmountable problems of supply.
This chart of G7 economic growth is showing a secular downward trend. From growth levels of about 3% p/a in the 1990s to stagnation in 2010 – 2015. This confirms a secular slowdown of -1% in growth every 5 years, which a major turning point happening about now.
The chart confirms that major developed economies are platauing in terms of economic productivity. If we link this plateau with the energy & resource constraints staring us in the face and you can only conclude that the world’s major economies are incapable of supplying the necessary cost-effective inputs to power economic production, regardless of fiscal and monetary stimulus. The capitalist economy’s acceleration addiction is getting an unwelcome dose of cold turkey.
The mainstream policy response will be two fold. Firstly, a desperate clinging to the high demand expectations, fully embeded in the zealotry surrounding the neccessity for creditors to be made whole on their expansionist lending practices. All efforts possible will made to maintain (or even grow) debts as the dogma suggests that only this can hope to create the neccessary demand stimulation.
As supply shocks also become apparent, we should also be wary that in a last gasp pique of laissez-faire de-regulation (of labour & environmental protections) will be imposed too. The migration of production capacity to large developing countries has only ever been to achieve the illusion of permanent supply growth. But this has already come at extreme social costs, such as mounting personsal debts, rising unemployment, declining social welfare. The desperation is only likely to push this further and further.
This is the legacy that predatory capitalism is delivering for the world. Energy and resource supply at any cost. Regardless of the impact on the environment, on people’s health or their quality of life.
Some of you may have already heard of the “Quants”, the supposed supermen of financial engineering. The majestic modellers of risk management and liquidity management that within their black box algorithmic alchemy they alone hold the key to unlocking the wondrous stability and growth of the late 20th / early 21st century.
Well, it seems that their black box “black magic”, might have turned out to be little more than complete fiction:
“Scientists struggle with models in many fields—including climate science, coastal erosion and nuclear safety—in which the phenomena they describe are very complex, or information is hard to come by, or, as is the case with financial models, both. But in no area of human activity is so much faith placed in such flimsy science as finance.”
States an article just published in the Scientific American:
“Calibrating a complex model for which parameters can’t be directly measured usually involves taking historical data, and, enlisting various computational techniques, adjusting the parameters so that the model would have “predicted” that historical data. At that point the model is considered calibrated, and should predict in theory what will happen going forward.”
It seems that a scientist (of the genuine variety) undertook a test whereby he created some dummy data from an underlying statistical trend model and then using the output data generated by this model tried to re-create the original formula; much as in the way a financial quant would study past trends of financial data and create a well fitting trend formula to predict the future.
So what did he find? Well, he found that he wound up not with one correct answer, but numerous, almost correct answers:
“while these different versions of the model might all match the historical data, they would in general generate different predictions going forward”
In other words the models “seemed” OK when tested against the data they were “trained on”, but then failed when tested against new data, it’s future forecasts.
So when the new data arrives, and it doesn’t match the orginal forecast, what do the Quants do? Well they don’t say their model was incorrect, they just say that it needs “re-calibrating”:
“When you have to keep recalibrating a model, something is wrong with it. If you had to readjust the constant in Newton’s law of gravity every time you got out of bed in the morning in order for it to agree with your scale, it wouldn’t be much of a law. But in finance they just keep on recalibrating and pretending that the models work.”
Yes, so much “faith” is placed on these financial geeks, and their flimsy “science” and flimsy “models” by a naïve public and gullible politicians.
In fact referring to what financial quants call “models” is an insult not just to science but to real models like Jordan and Kate Moss too.
NB: Scientific American may be a little late to the party in critiquing the Quants, as this film from 2010 explores the dubious underpinnings of high finance:
However, the beauty of the Scientific American article is the way that the investigator used a pure laboratory experiment to conclusively prove the folly of assuming that formulae created from past data is not always sufficient to conclusively predict the future.
There is much talk of a plan emerging for addressing the Eurozone’s current economic problems. The broad terms of the plan are that Greece may be permitted a partial default on its debts. But given the consequent impact this “haircut” would have on major banks in other European countries (such as France), plus the risk of default becoming the economic equivalent of herpes, we learn of the strategy for implementing a grand fiscal firewall (a modern day Maginot line as it were!). This takes the form of the European Financial Stability Facility (EFSF) being expanded to something like three trillion Euros.
Not much of the mainstream media has explained where this funding will come from, except for a perceptive interview on Radio 4 by Paul Mason this Sunday. The Eurozone plans to put forward something in the region of four or five hundred billion Euros, but leverage this up to the three trillion. It will achieve this by raising the money in the (private) Capital Markets by pledging various assets (presumably sovereign) as collateral against future tax revenues. In the words of Zerohedge “Europe has just boldly gone where even Goldman’s Abacus has not dared to go before courtesy of the ECB’s acceptance of a CDO squared Enron Special SPV”.
To anyone who has studied the wonders of modern finance, this shares some similarity to the Capital Asset Pricing Model (CAPM). The theory goes that the price of a company share (stockholding) reflects the summation of all future dividend payments (incorporating the dilution of dividends expected further in the future owing to money being devalued over time). Therefore the price of a share now, reflects all future income generating capacity of the underlying company. In a way, it states that you can have the full cash worth now which is equivalent to the amount it would take the company to earn in something like 10-15 years. So the mere act of selling the share realises this future value and you have the income that the real world hasn’t actually produced yet. All wrapped up with the almost zealous denial of uncertainty surrounding whether the future could turn out better or worse than expected. The theory says that the price now IS a complete and true reflection of the future.
Amazing! Finance has proclaimed itself capable of undertaking time-travel, alchemy and telepathy, all in one simple move.
But we know it isn’t really alchemy, telepathy or time travel. Instead, the future income of these sovereign states is about to be mortgaged beyond belief, rendering them perpetually (and undemocratically) in hock to the buccaneering money changers. This is in effect just another side door bailing out of the banks and their reckless lending. Not a true default as such (i.e. no debt destruction has occurred) but a further transfer of debts onto taxpayer shoulders. And this time a supra-national example of that poisonous strategy of “privatised profits and socialised losses”. But there is something even more sinister about this recent stab in the back to taxpayers. They are not just stealing the built up wealth, income and assets of the ordinary people of these countries (as in the privatisations and asset stripping of Greece), but they are cunningly filching the European citizens’ future too.
The ECB is probably being leaned on by Washington to do everything in its power to prevent debt destruction. Whenever any stresses occur in the system the Washington modus operandi is to fail to accept the losses and double down the bets. Ever since the financial crises of the 1980s onwards (e.g. Mexico, 1987 crash, S&L, LTCM etc.), the strategy has been to expand dollar liquidity & financial sector leverage. The cost for servicing this build-up of unsustainable debts is pushed outwards to the innocent citizens of periphery countries and onto the shoulders of future generations.
If the EU approves the plan to expand the EFSF then they are embarking on a gigantic Collateralised Debt Obligation, taking the yet-to-be earned income of European taxpayers and throwing it at the banks to prop up their traumatised balance sheets. Ultimately just lining the pockets of the wealthy bankers from this leveraged up booty.
In short, they are plundering from the future for its not around to protest against it.
This post is an excerpt from Richard Heinberg’s recent newsletter (Museletter!). Apparently it is based on an op-ed which the mainstream press seemed reluctant to publish. Perhaps because it challenges the endemic assumption that as long as certain policy prescriptions are followed (Austerity from the Right, Stimulus from the Left) then economic growth will continue.
Both mainstream views miss the vital point that Richard lays out below:
During recent weeks, evidence has piled up that U.S. and European economies, far from recovering, are swirling back into recession. Failure of American politicians to address the federal debt crisis, the U.S. credit rating downgrade, and increasing fragility of European economies have investors running for the hills.
Concern is being voiced that we may be at a fundamental economic turning point. Deutsche Bank’s strategist Jim Reid even suggests that the western world’s financial system might be “totally unsustainable.”
As it happens, I’ve just published a book, The End of Growth: Adapting to Our New Economic Reality, that reaches the same conclusion, and that foresaw the economic relapse that’s playing out in headlines. The book’s content was finalized in March, when economic data appeared to show the nation in a recovery. I suppose I’m justified in saying “I told you so,” but others are as well. Herman Daly, former World Bank economist, has pointed out the absurdity of expecting continual economic growth on a planet with limited resources. Paul Gilding, former head of Greenpeace International, explains in his book The Great Disruption why climate change and resource depletion are bringing world economic growth to a close. And Jeremy Grantham, co-founder of GMO (one of the world’s largest investment funds), argues that, with ever more humans competing for a finite supply of natural resources, rising prices of metals, oil, and food are decisively choking off GDP growth.
Even if we are being proven right, this is no time for victory laps. Here’s the point. Daly, Gilding, Grantham, and I are saying that as humanity has chewed through the low-hanging fruit of our natural resources and has turned to lower-grade and more expensive ores and fuels, managers of the economy have attempted to keep growth going by piling up debt in the mistaken belief that it is money that makes the economy run rather than energy and raw materials. Now we’ve reached limits to government and consumer debt, and the realization of that fact is sending financial markets into fibrillation. If energy supplies and debt are both stretched tight, that means more economic growth isn’t possible. Worse, if policy makers fail to realize this and continue assuming that the current crisis is merely another turning of the business cycle, then we lose whatever opportunity still remains to avert a crash that could bring civilization to its knees.
Admittedly this is still a minority point of view. After all, in the “real” worlds of politics and economics, growth is essential to creating more jobs and increasing returns on investments. Questioning growth is like arguing against gasoline at a NASCAR race.
Liberals believe that stimulus spending by government will boost employment and consumer spending, thus flipping the economy back to its “normal” growth setting. But stimulus packages of the past few years have produced only anemic results, and governments can’t afford more of the same.
Conservatives nurture faith that if government spending shrinks, that will liberate private enterprise to grow profits and jobs. Yet countries that implement austerity programs show less economic growth than those whose governments borrow and spend—until the spending spree ends in bond market mayhem.
Neither side wants to acknowledge that its prescription no longer works, because that would imply the other side is correct. But maybe both liberals and conservatives are wrong, and growth is finished.
If Daly, Gilding, Grantham, and I are right, this is scary business. But there will be life after growth, and it doesn’t have to play out under conditions of misery. With less energy to fuel globalization and mechanization, there should be increasing need for local production and labor. We can reorganize our financial and production systems so that everyone’s basic needs are met. Indeed, if we focus on improving quality of life rather than increasing quantity of consumption, we could all be happier even as our economy downsizes to fit Nature’s limits.
But that benign future is unlikely to transpire if we all continue living in a dream world where growth knows no bounds.
The alarm bells are ringing. Wake up to the post-growth economy.