24 December 2008

Roger Baker on the Economy : Sick and Getting Sicker

Image: 1929 Rollin Kirby cartoon on Stock Market Crash, courtesy of Kiko's House.

'At this point, even megadoses of federal stimulation are having little effect in restoring confidence and reflating the collapsing bubble of US capital investment.'
By Roger Baker
/ The Rag Blog / December 24, 2008

This will clue you in about how sick the economy really is. The current economic contraction was initiated by a loss of confidence in the sub-prime mortgage loans that were bundled and issued as international securities by the deregulated US investment banks. From there, things started to unravel.

At this point, even megadoses of federal stimulation are having little effect in restoring confidence and reflating the collapsing bubble of US capital investment. In fact the bank bailouts are likely making things worse by papering over massive amounts of bad loans, keeping the toxic debt on the books at an inflated price. Bailing out the banks didn't work, and dropping interest rates to zero didn't work, so now the feds are about to see if injection large amounts of federal Keynesian stimulation via grassroots spending will finally restimulate spending without igniting uncontrollable inflation. The restimulation effort is comparable trying to drive a car that has a steering wheel with a lot of play; you don't know when your efforts will take hold or which way you will be headed when they do.

As the global economy contracts in a chain reaction of deflation, even what were previously seen as sound long term capital investments now look shaky. All production aimed at discretionary consumer spending is in question as the global economy restructures and accommodates to slower growth, less energy, and more essential needs.

The economic contraction is global whereas the fed's injections of cash liquidity are primarily national. Therein lies an obvious policy mismatch. We are addicted to foreign credit and Chinese manufactured goods and imported oil. Our economic crisis and its solution are, and must be, international.

The following snips are extracted from the first part of Doug Noland's much longer and generally excellent weekly economic analysis.
"...To this point, a barrage of unprecedented monetary and fiscal policy responses has restrained the forces of systemic collapse...

With private sector credit growth now struggling mightily, public finance was forced to really take up the slack. Federal government debt expanded at a 39.2% pace, playing a decisive role in generating sufficient system-wide credit expansion...

With even an unsustainable $2.0 trillion annual pace of federal borrowings failing to reverse the downward economic spiral, the
Federal Reserve last week was compelled to signal in no uncertain terms that policymakers "will employ all available tools to promote the resumption of sustainable economic growth and to preserve price stability."...

The dilemma for the Fed (and markets) is that while such an enormous amount of credit would do little more than somewhat steady our maladjusted bubble economy, it would at the same time perpetuate the massive flow of dollar finance out to the global financial system. In short, the Fed's determination to reflate ensures continued monetary disorder. And I would further argue that ongoing monetary disorder - and associated corruption to various market pricing mechanisms – will impede system adjustment and extend the lengths of US and global downturns and restructuring periods...

Factoring in other financial outflows, the rest of world would be called upon to purchase another trillion or so of our financial claims next year - and for years on end...

At the end of the day, I expect the dollar to suffer from its relative dismal position with respect to both financial flows and our economy's deep structural maladjustment. Years of egregious credit and spending excesses have left an economic structure uniquely dependent upon, on the one hand, huge ongoing public sector credit injunctions and, on the other, huge unending imports. This is a terrible predicament for a currency..."
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