A remarkably simple explanation, courtesy of a Greek Hotel, about financial bailouts!

Last week-end I was indebted to Neil Kelly for supplying a more humorous look at life for Learning from Dogs.  This week-end I turn to friend, Bob D., a corporate airliner Captain out in the Middle East.  Here is Bob’s contribution for today. (Editor’s note: at the time of posting this, 1 euro = 1.3405 US dollars, ergo €100 = $134 – read on, this will make sense.)

No connection with the hotel in the story!

For those interested in world events….

How the Greek bailout package works.

It is a slow day in a damp little Greek town. The rain is beating down and the streets are deserted. Times are tough, everybody is in debt, and everybody lives on credit.

On this particular day a rich German tourist is driving through the town, stops at the local hotel and lays a €100 note on the desk, telling the hotel owner he wants to inspect the rooms upstairs in order to pick one to spend the night.

The owner gives him some keys and, as soon as the visitor has walked upstairs, the hotelier grabs the €100 note and runs next door to pay his debt to the butcher. The butcher takes the €100 note and runs down the street to repay his debt to the pig farmer.

The pig farmer takes the €100 note and heads off to pay his bill at the supplier of feed and fuel. The guy at the Farmers’ Co-op takes the €100 note and runs to pay his drinks bill at the pub. The publican slips the money along to the local prostitute drinking at the bar, who has also been facing hard times and has had to offer him “services” on credit. The hooker then rushes to the hotel and pays off her room bill to the hotel owner with the €100 note.

The hotel proprietor then places the €100 note back on the counter so the rich traveler will not suspect anything. At that moment the traveler comes down the stairs, picks up the €100 note, states that the rooms are not satisfactory, pockets the money, and leaves town.

No one produced anything. No one earned anything. However, the whole town is now out of debt and looking to the future with a lot more optimism.

And that, Ladies and Gentlemen, is how the bailout package works.

The story that could run for an awfully long time!

I rather revealed my newness as a US resident by posting my review of David Kauders’ book The Greatest Crash over 2 days last week,  one of them being Thanksgiving Day.  Despite that 1,895 people viewed my review which was entitled The end of an era.

A week has now passed since that review.  I was curious to see what sorts of headlines had been making the news in the last 7 days.  It’s just a random trawl through those items that have captured my attention.

Let’s start with the Financial Times, November 27th,

The eurozone really has only days to avoid collapse

By Wolfgang Münchau

In virtually all the debates about the eurozone I have been engaged in, someone usually makes the point that it is only when things get bad enough, the politicians finally act – eurobond, debt monetisation, quantitative easing, whatever. I am not so sure. The argument ignores the problem of acute collective action.

Last week, the crisis reached a new qualitative stage. With the spectacular flop of the German bond auction and the alarming rise in short-term rates in Spain and Italy, the government bond market across the eurozone has ceased to function.

Wolfgang concludes his article thus,

Italy’s disastrous bond auction on Friday tells us time is running out. The eurozone has 10 days at most.

Then my print copy of The Economist that arrived on the 26th had this lurid cover page,

Unless Germany and the ECB move quickly, the single currency’s collapse is looming

The leader article contains this paragraph,

Past financial crises show that this downward spiral can be arrested only by bold policies to regain market confidence. But Europe’s policymakers seem unable or unwilling to be bold enough. The much-ballyhooed leveraging of the euro-zone rescue fund agreed on in October is going nowhere. Euro-zone leaders have become adept at talking up grand long-term plans to safeguard their currency—more intrusive fiscal supervision, new treaties to advance political integration. But they offer almost no ideas for containing today’s conflagration.

and a few paragraphs later, this,

This cannot go on for much longer. Without a dramatic change of heart by the ECB and by European leaders, the single currency could break up within weeks. Any number of events, from the failure of a big bank to the collapse of a government to more dud bond auctions, could cause its demise. In the last week of January, Italy must refinance more than €30 billion ($40 billion) of bonds. If the markets balk, and the ECB refuses to blink, the world’s third-biggest sovereign borrower could be pushed into default.

Then on Sunday, 27th, MISH’s Trend Analysis blogsite reveals,

ICAP Plc, the world’s largest inter-dealer broker (one that carries out transactions for financial institutions rather than private individuals), is now Testing Trades In Greek Drachma Against Dollar, Euro

ICAP Plc is preparing its electronic trading platforms for Greece’s potential exit from the euro and a return to the drachma, senior executives at the inter-dealer broker said Sunday.

ICAP is the latest firm to disclose such preparations, joining the growing ranks of banks, governments and other key players in the global financial system whose officials are worried enough about the stability of the common currency to be making contingency plans for a possible break-up.

Then Bloomberg published an article by Peter Boone and Simon Johnson, the latter of Baseline Scenario fame, that opened as follows,

Investors sent Europe’s politicians a painful message last week whenGermany had a seriously disappointing government bond auction. It was unable to sell more than a third of the benchmark 10-year bonds it had sought to auction off on Nov. 23, and interest rates on 30-year German debt rose from 2.61 percent to 2.83 percent. The message? Germany is no longer a safe haven.

and concluded,

Ultimately, an integrated currency area may remain in Europe, albeit with fewer countries and more fiscal centralization. The Germans will force the weaker countries out of the euro area or, more likely, Germany and some others will leave the euro to form their own currency. The euro zone could be expanded again later, but only after much deeper political, economic and fiscal integration.

Tragedy awaits. European politicians are likely to stall until markets force a chaotic end upon them. Let’s hope they are planning quietly to keep disorder from turning into chaos.

Finally, on the 29th the BBC News website carried details of the Autumn Statement made by British Chancellor, George Osborne, to Parliament.

Osborne confirms pay and jobs pain as growth slows

Chancellor George Osborne has said public sector pay rises will be capped at 1% for two years, as he lowered growth forecasts for the UK economy.

The number of public sector jobs set to be lost by 2017 has also been revised up from 400,000 to 710,000.

Borrowing and unemployment are set to be higher than forecast and spending cuts to carry on to 2017, he admitted.

Just look at that figure of public sector job losses – 710,000!

Well that’s more than enough from me but it does surely endorse the opening views that David Kauders expounded in his book, as carried in my review, and reproduced here,

Starting with the first sentence, David sets out the core problem;

This book argues that it is impossible to expand the financial system much further.

expanding this a few paragraphs later,

This is the financial system limit: lack of new borrowing plus excessive weight of debt obligations from past borrowing combine to slow economies down. This is the barrier whichever way policy makers turn. It is like the lid on a boiling kettle. Enough steam can lift it for a while but it always snaps back into place. The financial system limit is a roadblock preventing growth.

A few pages later in this opening chapter ‘The roadblock preventing growth‘ this limit is explained thus,

Policy contradictions also show us that the financial system has reached a roadblock. The glaring conflict between bailout and austerity is at the core. Each bailout or stimulus requires creation of more credit, leading to false financial speculation, and for a short while markets recover their poise. The threat of inflation returns. Later, bad debts rise, the markets tumble again and a new crisis emerges. Austerity, the alternative policy, cuts spending thereby cutting the immediate level of economic activity and bringing economic decline more quickly than the stimulus alternative. Whichever way they turn, the authorities are damned.

You can understand why I called this Post a ‘footnote’ not an endnote.

A review of David Kauder’s recently published book, The Greatest Crash.

Details of the availability of the book are included at the end of the review.

Extracts from the book included are with grateful thanks to Sparkling Books.

Part One of this review was published yesterday which needs to be read before Part Two.

——————-

Chapter 5 continues by examining the over-bearing consequences of excessive public spending, excessive Government regulations, substitute taxation, weakness of Treasury forecasts, and so on. While these are UK issues, there is no doubt that similar restraints of free enterprise exist in many other western nations.

In Chapter 6, ‘Group Think‘, David looks at the strange ways in which we form opinions.  It’s a topic that has been discussed and written about widely but the point behind this chapter is that people have in great part lost the ability to discern truth from fiction, with terrible implications when it comes to understanding how individuals are affected by government and bureaucratic institutions.

The chapter closes;

One of the remarkable points that I have found in writing this book is that many of the detailed errors, incorrect policies et al, have already been amply documented by others. But we never learn. The delegated society, the strength of lobby groups and vulnerability of our political system to pressure, the sheer volume of noise in the media and on the Internet, the immediacy of the demands of daily life, all combine to make our collective memory rather short.

Amen to that!

Chapter 7, ‘Academic differences of opinion‘, was surprisingly short at just 6 1/2 pages. One would have thought the subject worthy of a much longer review especially as David was exploring the fundamental differences between Keynesian and Ricardian economic theories and opportunities for alternative theories. Must say that that I laughed out loud (David’s book is a little short on humour!) at the sentence on p.127 that ran, “One correspondent writing to the Financial Times proposed that economics should be declared a failing discipline, economists as not fit for purpose, and a physicist put in charge of sorting their theories out.“

Chapter 8, ‘The dark side of capital markets‘, is the penultimate chapter and quite a technical one at that. But David manages to trip through esoteric aspects, well esoteric to the lay reader, in a manner that keeps one involved.   Here’s an example from early on in the chapter.

Capital markets follow a long cycle beyond the experience of most practitioners, detectable only by understanding history and then applying this understanding to contemporary conditions.

It didn’t mean much to me. Then the next sentence;

The principles are identical for any market where prices depend on the supply of credit: equities, bonds, property and commodities are all markets where the prices must relate to the availability of credit.

That, at least, was understood but still the penny hadn’t dropped. Then came;

Bond prices prosper when credit is lacking while the other three prosper when credit is abundant.

That then made sense to me but still only at some academic level. David then followed those sentences with these two paragraphs;

The whole market cycle consists of bull market followed by bear market, as surely as night follows day. The bull market in assets is driven by an increasing supply of credit and economic expansion, since more credit leads to higher prices. The bear market in assets is driven by less credit and economic contraction; there is no purchasing power to keep asset prices high. Only fixed interest bonds are contra-cyclical, declining in price as credit expands and rising in price as credit sinks.

There are two useful theories for analysing the whole market cycle: conversion flow and Dow theory.

So in half-a-page of text, the book effectively educated me and then showed the relevance of that learning to the world I was living in. Cleverly done!

Chapter 9, ‘The attitude change‘, is, without doubt, a clincher of a close to this fascinating book. The sentiments conveyed in this chapter are so unexpected that, forgive me, it would be wrong to explicitly refer to them.  Buy the book!

Let me just say that the last chapter fully endorsed me calling this review The End of an Era.

Overall conclusions

This is an important book from a writer who has both the academic and professional experience to enable him to form the views that he expresses. Only time will tell if the whole scenario that is envisaged by Mr. Kauders will play out as he expects. My personal view is that it will.

For individuals and business alike, reading The Greatest Crash will inform you in a manner that I would argue is critical when one notes the precarious and potentially unstable period we are living through. The decisions readers make after reading the book are beyond the remit of this review and, of course, David Kauders, but, at least, read the book!

Prof. Myddelton in the book’s introduction wrote, “But one of the things we need now is new thinking on the fundamentals.” Perhaps not new thinking on fundamentals, as the Prof. puts it, but a reinstatement of core fundamental values.

I am not alone from sensing that the world, especially the western world, is transitioning from an era of greed and materialism, seeing a world of unlimited resources, to a different societal relationship with planet Earth, the only planet we have. A transition across all layers of society towards the values of truth, integrity and compassion; values whose day has come.

The Greatest Crash reinforces immensely my notion that this truly is the end of an era.

——————

Want to buy The Greatest Crash?  The ebook was published in October worldwide, the  paperback published in the UK on the 1st November UK, the hardcover being released any day now in the UK.  For North America both the paperback and hardcover versions are being published on 1st February, 2012.

Full details from the Sparkling Books webpage here.

Copyright © 2011 Paul Handover

A review of David Kauder’s recently published book, The Greatest Crash.

Details of the availability of the book are included at the end of both parts of my review, part two is published tomorrow.

Extracts from the book included are with grateful thanks to Sparkling Books.

Personal introduction.

Back in the late 90s, when I was living in England, I attempted to bolster my self-employed income by investing and trading in equities. It was a frustrating game, game being the right word! One day I was lamenting this to a close friend and he gave me the name of David Kauders at Kauders Portfolio Management and suggested I might like to contact him.

I followed my friend’s recommendation and met with David. What he outlined at that meeting all those years ago was mind-blowing, no other way of putting it. Essentially, David predicted a financial and economic crisis of huge proportions. He convinced me of the likelihood of that crisis and in November 2001 I became a fee-paying client. As the world now knows that prediction came to fruition. My anticipated residency in the USA meant continuing to be a client was not possible, and I ceased being a client of Kauders Portfolio Management in June 2010.

Thus not only am I deeply indebted to my friend for referring me to David but also unable to write this review from an unprejudiced point of view.

The Greatest Crash

The book, released in paperback in England in October 2011, published by Sparkling Books, is subtitled ‘How contradictory policies are sinking the global economy‘. Frankly, that subtitle doesn’t do much for me. A clearer message that comes from the book is this: the economic world has reached a ‘systems limit’. Indeed, the term systems limit is used widely throughout the book.

In his introduction to the book, Professor D. R. Myddelton, Chairman of the Institute of Economic Affairs, writes,

Adam Smith said ‘There’s a deal of ruin in a nation’, and it would be a mistake to despair. But one of the things we need now is new thinking on the fundamentals. That is what David Kauders provides in his book ‘The Greatest Crash’.

Without doubt, David achieves that.

Starting with the first sentence, David sets out the core problem;

This book argues that it is impossible to expand the financial system much further.

expanding this a few paragraphs later,

This is the financial system limit: lack of new borrowing plus excessive weight of debt obligations from past borrowing combine to slow economies down. This is the barrier whichever way policy makers turn. It is like the lid on a boiling kettle. Enough steam can lift it for a while but it always snaps back into place. The financial system limit is a roadblock preventing growth.

A few pages later in this opening chapter ‘The roadblock preventing growth‘ this limit is explained thus,

Policy contradictions also show us that the financial system has reached a roadblock. The glaring conflict between bailout and austerity is at the core. Each bailout or stimulus requires creation of more credit, leading to false financial speculation, and for a short while markets recover their poise. The threat of inflation returns. Later, bad debts rise, the markets tumble again and a new crisis emerges. Austerity, the alternative policy, cuts spending thereby cutting the immediate level of economic activity and bringing economic decline more quickly than the stimulus alternative. Whichever way they turn, the authorities are damned.

In the next chapter, ‘Evolution by trial and error‘, David writes about economic cycles and reminds his readers that the long economic cycle is often “beyond the practical experiences of our working lifetimes“.  Then later suggesting that because we have seen the greatest period of inflation ever since the end of World War Two, ergo “the unwelcome lesson from history is that the greatest deflation should follow.“

In Chapter 4, ‘An Era of Wishful Thinking‘, the spotlight is put on the horrific policy errors that have been made for decades, try these three examples (there is a longer list in the book),

• Policy makers believed that debt could expand indefinitely, at no cost.
• Nobody realised that interest rate rises would make existing borrowing unaffordable and cause a wave of defaults.
• The world was swamped with so many detailed requirements and standards that nobody could understand how they all fitted together. It was assumed that ‘transparency’, i.e. extensive detail, would solve the inability to comprehend how the parts made the whole.

Part Two of the review, continuing with Chapter 5 is tomorrow.

Want to buy The Greatest Crash?  The ebook was published in October worldwide, the  paperback published in the UK on the 1st November UK, the hardcover being released any day now in the UK.  For North America both the paperback and hardcover versions are being published on 1st February, 2012.

Full details from the Sparkling Books webpage here.

Copyright © 2011 Paul Handover

Perhaps intuition is all we have to hear clearly.

John O’Donohue, in yesterday’s post, touched on the essence of today’s theme, “The greatest philosophers admit that to a large degree all knowledge comes through the senses. The senses are our bridge to the world.“

Dogs, of course, demonstrate powerfully how their senses provide a ‘bridge to the world’.

This odd collection of writings (ramblings?)  that comprise Learning from Dogs is based around the ‘i’ word – Integrity.  The banner on the home page proclaims Dogs are integrous animals. We have much to learn from them. Ergo, dogs offer a powerful metaphor for the pressing need for integrity among those that ‘manage’ our societies.

Thus my senses are more tuned, than otherwise, to the conversations in the world out there that support the premise that unless we, as in modern man, radically amend our attitudes and behaviours, then the species homo sapiens is going to hell in a hand-basket!

End of preamble!

Professor Bill Mitchell is one person who recently touched my senses.  As his Blog outlines he is an interesting fellow,

(Photo taken in August 2011 in Melbourne, Australia)

Bill Mitchell is the Research Professor in Economics and Director of the Centre of Full Employment and Equity (CofFEE), at the University of Newcastle, NSW Australia.

He is also a professional musician and plays guitar with the Melbourne Reggae-Dub band – Pressure Drop. The band was popular around the live music scene in Melbourne in the late 1970s and early 1980s. The band reformed in late 2010.

He also plays with a Newcastle swing blues band – The Blues Box. You can find music and other things on his Home Page.

Professor Mitchell’s Blog is not for the faint-hearted, it can be pretty technical at times.  Nevertheless, I have been a daily subscriber for a couple of months now.

On the 24th, Prof. Bill wrote a long article under the heading of ‘What if economists were personally liable for their advice‘.  I want to quote a little from that article.  Starting with,

Economists have a strange way of writing up briefing documents. There is an advanced capacity to dehumanise economic advice and ignore the most important economic and social problems (unemployment and poverty) in favour of promoting non-issues (like public debt ratios). It reminds me sometimes of how the Nazis who were brutal in the extreme in the execution of their ideology sat around getting portraits of themselves taken with their loving families etc. The training of economists creates an advanced state of separation from human issues and an absence of empathy.

In a sense, we all understand this, this use of language to separate us from our collective humanity.  A random Google search came up with this.  A statement by British Prime Minister, David Cameron, to Parliament on the 24th regarding Europe, as in,

Mr Speaker, let me turn to yesterday’s European Council.

This European Council was about three things.

Sorting out the problems of the Eurozone.

Promoting growth in the EU.

And ensuring that as the Eurozone develops new arrangements for governance, the interests of those outside the Eurozone are protected.

This latter point touches directly on the debate in this House later today, and I will say a word on this later in my statement.

Resolving the problems in the Eurozone is the urgent and over-riding priority facing not only the Eurozone members, but the EU as a whole – and indeed the rest of the world economy.

Britain is playing a positive role proposing the three vital steps needed to deal with this crisis – the establishment of a financial firewall big enough to contain any contagion; the credible recapitalisation of European banks; and a decisive solution to the problems in Greece.

Read the last paragraph.  Wonderful words that seem to make sense to the casual listener but picking up on Prof. Bill, an utter ‘separation from human issues and an absence of empathy‘.  There is no humanity in those words from the British Prime Minister.  We all know there are hundreds of other examples from mouthpieces all across our global society.  Back to Bill Mitchell’s article,

Linkiesta say:

Greece has failed. To say this is not another report of investment banks or research centers, but directly Troika officials who have just completed their review on Hellenic public finance. Linkiesta is in possession of the entire report of the troika, composed of officials from the International Monetary Fund (IMF), European Central Bank (ECB) and European Commission.

I have a rule of thumb that I use when considering documents such as these. The rule is to assess how strong the concern for unemployment is. How often is unemployment mentioned? The answer is zero. The document never mentions the word or concept.

So obsessed are the Troika and their bean counters about public debt stabilisation that they have completely lost sight of one of the worst problems an economy can encounter – the failure to generate work for all.

Read those last words again, “completely lost sight of one of the worst problems an economy can encounter – the failure to generate work for all“.  One last extract from the article,

There is absolutely no historical evidence which shows that when all nations are contracting or stagnant and private spending is flat (or contracting) that cutting public spending will create growth.

So why did these economists think that a nation would grow when all components of spending were strongly indicated to fall or were being actually cut? The answer lies in acknowledging that they operate in an ideologically blinkered world and are never taken to account for their policy mistakes. They are unaccountable and do not suffer income losses when the nations they dispense advice to and impose policies on behave contrary to the “expectation” which results in millions being unemployed.

In my view, my profession should be liable for the advice it gives and economists should be held personally liable for damages if their advice causes harm to other individuals. If the economists in the IMF and elsewhere were held personally responsible then the advice would quickly change because they would be “playing” with their own fortunes and not the fortunes of an amorphous group of Greeks that they have never met.

Very powerful words that strike at the heart of the matter, that of integrity. (If you want to read it in full, then the article is here.)

Let me move on a little.  The 24th also saw a powerful essay on Yves Smith’s Blog Naked Capitalism, from Philip Pilkington, a journalist and writer living in Dublin, Ireland.  Here’s a taste of what Mr. Pilkington wrote.

Every now and then a terrible thought enters my mind. It runs like this: what if the theatre of the Eurocrisis is really and truly a political power-game being cynically played by politicians from the core while the periphery burns?

Yes, of course, we can engage in polemic and say that such is the case. But in doing so we are trying to stoke emotion and generally allowing our rhetorical flourish to carry the argument. At least, that is what I thought. I had heard this rhetoric; I had engaged in it to some extent myself; but I had never really believed it. Only once or twice, in my nightmares, I had thought that, maybe, just maybe, it might have some truth.

Can you see the parallels between Prof. Mitchell and Philip Pilkington?  The latter wrote, “a political power-game being cynically played by politicians from the core while the periphery burns“, the former wrote, “If the economists in the IMF and elsewhere were held personally responsible then the advice would quickly change because they would be “playing” with their own fortunes and not the fortunes of an amorphous group of Greeks that they have never met.”

It’s clearly obvious to all those that have commented to both the Bill Mitchell and Philip Pilkington items.  That is, in my words, a complete lack of integrity, truth and a commitment to serve the people, from so many in places of influence and power.

We all sense this, hear it so clearly, a separation from human issues and an absence of empathy.

We have so much to learn, so much sense to learn, from dogs!

————–

Footnote.  Had just completed the above when I came across a piece by Patrick Cockburn in last Sunday’s Independent newspaper, that starts thus,

World View: A sense of injustice is growing. Elite politicians and notorious wrongdoers appear immune as ordinary Greeks reel from wage and job cuts

Up close, the most striking feature of the reforms being forced on Greece by its international creditors is their destructiveness and futility. The pay cuts, tax rises, cuts and job losses agreed to by parliament in Athens last week will serve only to send the economy into a steeper tailspin, even if it extracted a much-needed €8bn in bailout money from the EU leaders. “Nothing but a lost war could be worse than this situation,” one left-wing ex-minister tells me. “What is worse, no party or political group in Greece is offering real solutions to our crisis.

Say no more!

Stating the obvious.

I am about a third into Paul Gilding’s book The Great Disruption.  It’s proving to be a very-thought provoking read that I will review in more detail over the coming weeks.

However, I just wanted to quote from the start of Chapter 5, Addicted to Growth,

Indeed, as argued by economist Kenneth Boulding: “Anyone who believes exponential growth can go on forever in a finite world is either a madman or an economist.”

Very little that can be argued about that statement.  It rather puts into context a couple of items read recently. Both from the blogsite New Economic Perspectives.  The first on June 10th by Stephanie Kelton,

Earlier this week, President Obama talked about the weakening state of the economy, telling us that he’s not worried about a double-dip recession and that the nation should “not panic.” It’s hard to imagine a more alarming assessment at this juncture.

The recovery is faltering. Our economy is growing at annual rate of just 1.8 percent. Manufacturing just grew at its slowest pace in 20 months. More than 44 million Americans – one in seven – rely on food stamps. Employers hired only 54,000 new workers in May, the lowest number in eight months. Jobless claims increased to 427,000 in the week ended June 4. The unemployment rate rose to 9.1 percent. Nearly half of all unemployed Americans have been without work for more than 6 months. About 25% of all teenagers who are looking for work are unemployed. Eight-and-a-half million Americans are underemployed – i.e. working part-time because their hours have been cut or because they can’t find full-time work. There are, on average, 4.6 unemployed people for every 1 job opening. And even if all the open positions were filled, there would still be 10.7 million people looking for work.

The second on July 8th by Marshall Auerback,

Today’s unemployment data suggests that we are experiencing something far worse than a mere “bump in the road”, as our President described it last month.  In fact, if last month was the time to panic, as Stephanie Kelton argued here, then today’s data should create real palpitations in the White House.  This isn’t just a “bump,” but a fully-fledged New York City style pot hole.

First the headline number everyone looks at: non-farm payrolls. Up 18,000 in June, the increase was 100,000 less than expectations.  In addition the prior two month payroll increases were revised down by -44,000 overall.  That’s weak – but not terrible.

Dig a bit deeper into the data and it looks absolutely awful:  The household measure of employment fell by -445,000.  Okay, it’s a noisy number. But, as Frank Veneroso has pointed out to me in an email correspondence, this measure of employment which is never revised now shows no employment growth over the last five months and very negative employment growth over the last three.

But it gets worse:  The work week was down one tenth.  Overtime was down one tenth.  The labor participation rate at 64.1% was the lowest since 1984.  The broad U6 unemployment rate rose from 15.8% to 16.2%.  In other words, as Frank suggested to me this morning, “many other employment indicators in this report confirm the deep disappointment in the payroll series and the much more negative message of the household series.”

Now here’s the latest item published by Paul Gilding in his Blog, The Cockatoo Chronicles. (I have republished it in full, hopefully without upsetting Mr. Gilding – couldn’t see advice on reproduction – but copyright remains, of course, fully with Paul Gilding.)

Like a Grenade in a Glasshouse

June 29, 2011

It’s going to hit hard and it’s going to hurt – made worse because most aren’t expecting it. They think the world is slowly returning to our modern “normal” – steadily increasing growth, with occasional annoying but manageable interruptions. After all, the global recession wasn’t so bad was it? Sure there was pain and things got shaky but Governments responded, bailed out companies, stimulated economies, got things back on track.  While it’s still a bit bumpy, Greek wobbles, US debt, extreme weather, high oil and food prices etc, it’ll work out. It always does….

If only it were so. In fact we are blindly walking towards the next in a series of inevitable system shaking and confidence sapping crises, deluded in the belief that the worst is behind us.

Each crisis will be a little worse than the last. Each one will shake our denial a little more. This is what happens when systems hit their limits. They don’t do so smoothly, but bump up against the wall, hitting hard, then bouncing off equally hard. It is the behaviour of a system trying to break through. But if the limits are solid, as is the case with our economic system hitting the limits of the planet – defined by unchangeable physical capacity and the laws of physics, chemistry and biology – then it can’t find its way through. So eventually, when the pain of hitting the wall gets too much, it stops.

Then it will hit. Like a grenade in a glasshouse, shattering denial and delusion and leaving it like a pile of broken glass on the floor of the old economic model. Then we’ll be ready for change.

I’ve been arguing the inevitability of this moment since 2005, mostly inside the business community. Before the 2008 financial crisis hit, the idea was almost universally rejected, with a belief in the indomitable power of globalised markets to overcome all challenges and keep growth on track. Most audiences believed that while markets always wobbled, they also always recovered. My suggestion, that this level of arrogance was the hallmark of empires before they fell, landed on deaf ears. They were the masters of the universe and markets and growth would always reign supreme.

Now the response is different. The financial crisis saw many break off from the pack and start to ask the difficult questions. I now find as I tour the world speaking about The Great Disruption to community gatherings, corporate executives and policy makers that minds are increasingly open. While not the dominant view, the previous confidence in the inevitably of growth has become shaky and the group asking the challenging questions is rapidly expanding.

As I argue in the book, the fundamental cause of what’s coming is resource constraint and environmental breakdown, which when combined with an overstretched financial system and high levels of debt puts unbearable tension into the global economy. While no one can know what event will pull the pin out of the grenade, the underlying pressures make that moment inevitable. Yes, the dominant commentary still blames each individual problem on unique circumstances, but the underlying systemic causes are clear for those who wish to look.

The continued level of denial still surprises me, especially given the pressures driving this are not esoteric and can be measured in clear economic indicators. A good example was recently published by one of the more interesting voices to join the growing chorus that we have a system-wide problem. The legendary contrarian and fund manager Jeremy Grantham is co-founder of the Boston based firm GMO, with over $100 billion of assets under management. So this guy is a solid capitalist and market advocate, pursuing wealth for the wealthy. But he sees the data and is raising the alarm, calling this moment “one of the giant inflection points in economic history” – referring to the end of a 100-year steady decline in commodity prices. His views were echoed by Stephen King, group chief economist at HSBC, who wrote in the FT: “After the biggest meltdown since the Great Depression, economic theory tells us that world commodity prices should not be this high. But they are and the West quickly needs to wake up to this new economic reality. Commodity prices are now permanently higher.”

Grantham provides the detail, pointing out that the 100 year trend of falling prices in the 33 most important commodities, except for oil, were wiped out with a price surge from 2002 to 2010 – a surge even greater than experienced in WW2. We have now reached what Grantham calls the Great Paradigm shift; not a price spike but a new reality. Within this new reality, Grantham says: “if we maintain our desperate focus on growth, we will run out of everything and crash.”

This is why hitting the wall is inevitable – because limits are not philosophies, they are limits. We can understand what to expect – and why the grenade will shatter the glasshouse of economic growth – by going back to how systems behave when they hit their limits. Our economic system first hit the wall in 2008 – that was when The Great Disruption began with food and oil prices hitting record highs and a credit crisis driven by reckless monetary policy pursuing growth at all costs. The resulting recession meant we backed away from those limits (bouncing off the wall), and then borrowed massive amounts of money from our children (think Greece) to try to get the economy moving again.

Now that the global economy is slowly entering a so-called “recovery”, the prices of commodities (representing our use of earth’s resources for food and materials) are on the way up, accelerated, in the case of food, by climate change. Of course if significant growth kicks in, the prices of oil, food and other commodities will surge, this timestarting from near record highs.  Then we will bounce back into recession and prices will back off again. Hit the wall, bounce off. Hit the wall, bounce off. Ouch.

By itself this would pose enough of a challenge to growth. But now we also have the debt we used to get the economy moving again. This debt can only be paid off with significant economic growth – but such significant growth is impossible as outlined above. So the debt itself becomes an enormous additional tension in the system, as argued by Richard Heinberg in his important forthcoming book The End of Growth. With the global economy and ecosystem now both burdened by unmanageable debt, effective global default is only a matter of time.

So we’re living in a glass house with the grenade sitting there for all to see. Who knows what will pull the pin. It could be Greece, a Chinese food crisis, peak oil or any number of other triggers. But it’s coming.

The question to ask yourself is simple. Are you ready?

Back to Kenneth Boulding: “Anyone who believes exponential growth can go on forever in a finite world is either a madman or an economist.“

Precisely!

Forgive me for making this a much shorter contribution but the efforts of the previous two posts took rather a long time!

This is about the debt situation in the United States of America and, as always, Learning from Dogs trying to get to the underlying truth.

It’s from the BBC and it’s a radio programme that is included in this Post.

But why the headline referring to Churchill?  Well in the programme Justin Webb, of the BBC, reminds the world of a characteristic of the American Nation noted by Sir Winston Churchill, “Americans can always be counted on to do the right thing…after they have exhausted all other possibilities.”  (But caution about the precise wording of that quote – see here!)

Here’s the article that accompanied the BBC broadcast, the radio programme is after this article,

Is the US in denial over its $14tn debt?

Is America in denial about the extent of its financial problems, and therefore incapable of dealing with the gravest crisis the country has ever faced?

This is a story of debt, delusion and – potentially – disaster. For America and, if you happen to think that American influence is broadly a good thing, for the world.

The debt and the delusion are both all-American: $14 trillion (£8.75tn) of debt has been amassed and there is no cogent plan to reduce it.

The figure is impossible to comprehend: easier to focus on the fact that it grows at $40,000 (£25,000) a second. Getting out of Afghanistan will help but actually only at the margins. The problem is much bigger than any one area of expenditure.

The economist Jeffrey Sachs, director of Columbia University’s Earth Institute, is no rabid fiscal conservative but on the debt he is a hawk: “I’m worried. The debt is large. It should be brought under control. The longer we wait, the longer we suffer this kind of paralysis; the more America boxes itself into a corner and the more America’s constructive leadership in the world diminishes.”

The author and economist Diane Coyle agrees. And she makes the rather alarming point that the acknowledged deficit is not the whole story.

The current $14tn debt is bad enough, she argues, but the future commitments to the baby boomers, commitments for health care and for pensions, suggest that the debt burden is part of the fabric of society:

“You have promises implicit in the structure of welfare states and aging populations that mean there is an unacknowledged debt that will have to be paid for by future taxpayers, and that could double the published figures.”

Richard Haass of the Council on Foreign Relations acknowledges that this structural commitment to future debt is not unique to the United States.  All advanced democracies have more or less the same problem, he says, “but in the case of the States the figures are absolutely enormous”.

Mr Haass, a former senior US diplomat, is leading an academic push for America’s debt to be taken seriously by Americans and noticed as well by the rest of the world.

He uses the analogy of Suez and the pressure that was put on the UK by the US to withdraw from that adventure. The pressure was not, of course, military. It was economic.

Britain needed US economic help. In the future, if China chooses to flex its muscles abroad, it may not be Chinese admirals who pose the real threat, Mr Haass tells us. “Chinese bankers could do the job.”

Because of course Chinese bankers, if they withdrew their support for the US economy and their willingness to finance America’s spending, could have an almost overnight impact on every American life, forcing interest rates to sky high levels and torpedoing the world’s largest economy.

Not everyone accepts the debt-as-disaster thesis.

David Frum is a Republican intellectual and a former speech writer to President George W Bush.

He told me the problem, and the solution, were actually rather simple: “If I tell you you have a disease that will absolutely prostrate you and it could be prevented by taking a couple of aspirin and going for a walk, well I guess the situation isn’t apocalyptic is it?

“The things that America has to do to put its fiscal house in order are not anywhere near as extreme as what Europe has to do. The debt is not a financial problem, it is a political problem.”

Mr Frum believes that a future agreement to cut spending – he thinks America spends much too big a proportion of its GDP on health – and raise taxes, could very quickly bring the debt problem down to the level of quotidian normality.

‘Organised hypocrisy’

I am not so sure. What is the root cause of America’s failure to get to grips with its debt? It can be argued that the problem is not really economic or even political; it is a cultural inability to face up to hard choices, even to acknowledge that the choices are there.

I should make it clear that my reporting of the United States, in the years I was based there for the BBC, was governed by a sense that too much foreign media coverage of America is negative and jaundiced.

The nation is staggeringly successful and gloriously attractive. But it is also deeply dysfunctional in some respects.

Take Alaska. The author and serious student of America, Anne Applebaum makes the point that, as she puts it, “Alaska is a myth!”

People who live in Alaska – and people who aspire to live in Alaska – imagine it is the last frontier, she says, “the place where rugged individuals go out and dig for oil and shoot caribou, and make money the way people did 100 years ago”.

But in reality, Alaska is the most heavily subsidised state in the union. There is more social spending in Alaska than anywhere else.

To make it a place where decent lives can be lived, there is a huge transfer of money to Alaska from the US federal government which means of course from taxpayers in New York and Los Angeles and other places where less rugged folk live. Alaska is an organised hypocrisy.

Too many Americans behave like the Alaskans: they think of themselves as rugged individualists in no need of state help, but they take the money anyway in health care and pensions and all the other areas of American life where the federal government spends its cash.

The Tea Party movement talks of cuts in spending but when it comes to it, Americans always seem to be talking about cuts in spending that affect someone else, not them – and taxes that are levied on others too.

And nobody talks about raising taxes. Jeffrey Sachs has a theory about why this is.

America’s two main political parties are so desperate to raise money for the nation’s constant elections – remember the House of Representatives is elected every two years – that they can do nothing that upsets wealthy people and wealthy companies.

So they cannot touch taxes.

In all honesty, I am torn about the conclusions to be drawn. I find it difficult to believe that a nation historically so nimble and clever and open could succumb to disaster in this way.

But America, as well as being a place of hard work and ingenuity, is also no stranger to eating competitions in which gluttony is celebrated, and wilful ignorance, for instance regarding (as many Americans do) evolution as controversial.

The debt crisis is a fascinating crisis because it is about so much more than money. It is a test of a culture.

It is about waking up, as the Americans say, and smelling the coffee. And – I am thinking Texas here – saddling up too, and riding out with purpose.

NB: Copyright BBC © 2011 The BBC is not responsible for the content of external sites. Read more.

Here’s the 30 minute broadcast under the Analysis series from Radio 4 on the BBC.(Just click on this link) analysis_20110628-1024a

Ever wondered how the Irish bailout really works?

I posted a rather tongue-in-cheek item on the Irish situation yesterday.  Anyway, a good friend, Peter M, sent the in following to illustrate both the complexity and, in the end, the delightful simplicity of the Irish bailout.  Read on.

It is a slow day in a damp little Irish town. The rain is beating down and the streets are deserted. Times are tough, everybody is in debt, and everybody lives on credit.

On this particular day a rich German tourist is driving through the town, stops at the local hotel and lays a €100 note on the desk, telling the hotel owner he wants to inspect the rooms upstairs in order to pick one to spend the night.

The owner gives him some keys and, as soon as the visitor has walked upstairs, the hotelier grabs the €100 note and runs next door to pay his debt to the butcher. The butcher takes the €100 note and runs down the street to repay his debt to the pig farmer.

The pig farmer takes the €100 note and heads off to pay his bill at the supplier of feed and fuel. The guy at the Farmers’ Co-op takes the €100 note and runs to pay his drinks bill at the pub. The publican slips the money along to the local prostitute drinking at the bar, who has also been facing hard times and has had to offer him “services” on credit.

The hooker then rushes to the hotel and pays off her room bill to the hotel owner with the €100 note. The hotel proprietor then places the €100 note back on the counter so the rich traveler will not suspect anything.

At that moment the traveler comes down the stairs, picks up the €100 note, states that the rooms are not satisfactory, pockets the money, and leaves town!

No one produced anything. No one earned anything. However, the whole town is now out of debt and looking to the future with a lot more optimism.

And that, Ladies and Gentlemen, is how the bailout package works.

"Money in circulation!"

Thanks Peter – a wonderful tale!

By Paul Handover

Ben S. Bernanke, Chairman of the Federal Reserve

Used toxic assets, anyone?

Ben Bernanke, Chairman of the U.S. Federal Reserve, announced that the Fed was likely to begin to sell some of the $1 trillion in mortgages, the so-called “toxic assets,” that it purchased over the last fifteen months to help stave off a total credit market meltdown. Those purchases essentially doubled the U.S. money supply, igniting fears of potential inflation should the underlying real economy recover before the money supply could be drawn back down. See earlier post.

Well, the process of tightening the money supply may be just around the corner. And increases in interest rates and the cost of everything purchased on credit – homes, cars, durable goods, and business capital expenditures – are not far behind. Increases in interest rates dampen economic activity, an unfortunate development given the current lethargic state of the U.S. economy. But it has to be done sometime – we cannot sustain such a huge increase in the money supply without paying an even higher price in terms of inflation and a weak dollar.

It will be interesting to see who buys the toxic assets and how much they will pay. Regardless, the sale will reduce the money supply which, if done in a slow, orderly manner, is a good thing for the economy. Getting the Fed out of the business of buying and selling private market securities will be an even better thing for the U.S. economy. Now more than ever we need a monetary authority that is focused on the best policies for our economy, not those that help Fannie Mae, the White House, or the Treasury Secretary save face.

By Sherry Jarrell

On the 10th February, I wrote an article entitled Every Economist, Mr President? No Sir! The thrust of my argument was “that the unemployment rate would have been much lower today had the stimulus program never occurred.”

That post also appeared on my own Blog and there attracted a fascinating response from Rick Rutledge.  Rick’s response is worthy of a separate article, as below, together with my reply.

Sherry,

The problem with your explanation here is that it states that “government spending is funded with taxes that WOULD HAVE BEEN invested by private industry” and that “the unemployment rate WOULD HAVE BEEN much lower today had the stimulus program never occurred.” (Emphasis mine.)

This argument, it seems to me, is predicated on the conceptual fiction of a two-dimensional relationship between government spending and business investment, with taxes as the lever. That model lacks a time vector, not so much from omitting it, as compressing it. The relationship between those factors can only be simplified to this level by compressing all time into the representational plane.

That is to say that, to fairly represent the relationship between government spending and business investment (via taxation), we have to compress three presumptions into one premise:
- Past government spending that resulted in increased taxes diminishes past, present, and/or future business investment resources;
- Increasing present taxes to fund present and future spending diminishes business’ investment resource pool.
- Past, present, and future government spending without matching funding WILL, EVENTUALLY result in increased taxation, diminishing future business investment resources. (And, consequently, MAY have a chilling effect on present business investment attitudes.)

However, unless NPR has let me down (it could happen), and I’ve missed a big, breaking story about an increase in business taxes, these stimulus programs have been wholly funded by deficit spending.

Of course, it could be argued that deficit spending generally COULD (nay, should) have a chilling effect on business investment. This, together with the third presumption of the aggregate premise above (that is to say, burgeoning national debt), does create a basis for the belief that the unemployment rate COULD have been much lower today, IF a number of things had been done differently. The French have a saying: “With enough ‘IFs,’ we could put Paris in a bottle.”

To simply state that “the unemployment rate would have been much lower today had the stimulus program never occurred” strikes me as conclusory, and the sort of reasoning on which our elected officials too often rely to justify partisan and ideological positions.

Too, and unfortunately, there is a great body of evidence to suggest that business leaders have historically taken a disappointingly short-sighted approach to management, so I would be reluctant to put too many eggs into the “chilling effect” arguments.

Rick Rutledge

As a person who teaches financial literacy, I’m fully aware that sometimes there are urgent needs that justify the use of leverage (and short-term deficit spending) to deal with near-term emergencies. Credit has its uses. I’m of the belief that short-term deficit spending is not the primary (and certainly is not in and of itself) the cause for our current woes. I’m more inclined to believe that short-sightedness, whether in the form of The Quick Buck on Wall Street, or a systemic refusal to acknowledge the looming problem of the national debt, is more to blame than any single short-term stimulus program. Government spending on stimulus, OUTSIDE THE CONTEXT OF DEFICIT SPENDING, wholly evades your argument.

(But then, there may be good reason I don’t claim to be an economist – through no fault of yours, to be sure!)

Rick Rutledge

This was my reply:

Hi Rick,

Goodness. Where to begin! I simply stated my conclusion because it’s a post, and I was responding directly to Obama’s claim about what “all” economists think or say. He was misinformed or stretching the truth, and I wanted to point out that fact. So, yes, there were a lot of unstated underlying assumptions and data and studies and research and theory that I did not specify. Apparently you’ve supplied some of your own to try to deconstruct the “reasoning” or “ideology” that I might have used to arrive at my conclusion! Creative and ambitious but, alas, wrong.

You’ve ignored or misunderstood the very essence of causality: the only thing one needs to know is that business profits are the ONLY source of tax revenues to the government, and when the government takes and spends those tax revenues, they are spending dollars that WOULD HAVE BEEN RETAINED AND INVESTED by the business that created those profits and those very tax revenues IN THE FIRST PLACE, and would have then caused further profits next period. CAUSED. And it doesn’t matter whether you talk one period or multiperiod or lags. This fundamental economic fact does not change.

You bring deficit spending (the relation between this period’s G and this period’s T) and the level of debt (cumulative deficits) into the picture, both of which are entirely irrelevant to the issue I am raising and, worse yet, are the accountant’s version of business profits.

You site “evidence” that business leaders have been short-sighted (do please share some of that evidence with me — cite the source and let me have at it — it will not hold up) and use that to conclude that government spending does not reduce economic wealth? And then literally blame our current woes on the short-sightedness of business? or on national debt? huh?

You say: “Government spending on stimulus, outside the context of deficit spending, wholly evades my argument.” Not so. My point is that when the government takes a dollar of tax revenues, whether the government is running a deficit or surplus, it reduces the economic wealth of the economy relative to what it would have been had the government not taken that dollar of business profits as taxes. Very simple. Very straightforward. The plain, simple, unadorned, incontrovertible truth.

Thanks for your interest and for taking the time to write such a thoughtful, thought-provoking comment!

By Sherry Jarrell