More on Debt Saturation Equals Diminishing Growth, Employment, and Capacity Utilization…
I have been hammering on the topic because it is the critical issue to understand how all of the advanced economies government's action will not only fail to produce the desired effects, but will more importantly make matters worse. The main issue is Debt Saturation - http://caps.fool.com/Blogs/ViewPost.aspx?bpid=357428. It is critical to understand that an increasing debt load has decreasing marginal utility and there comes a point due to servicing requirements that all new debt has a negative economic impact. This is why we were NEVER going to be able to borrow and spend our way out of a crisis that was caused by too much debt to begin with.
This sets up an extreme deflationary environment (this debt load is unsustainable) within which the Federal Resevere will monetized uprecendented amounts of debt at uncprecedented rates. Which will result in a simultaneous deflationary and inflationary outcome: stagflation. There is NEVER anything in economics and especially macroeconomics that has only one cause and one effect. There are always multiple effects with varying degrees of influence (both in absolute value and transience). There will be deflationary impulses and there will be extreme monetary inflation, the Fed will see to that. Which means that I think the most likely outcome will be a combination of the two: stagflation. Economically correlated assets go down in value (like your home and equities as a general asset class) and things you need to buy/consume (such as real assets / commodities) cost more. Really the worst of all possible outcomes.
I do think that most inflationists discount the amount of debt that is collapsing (even though most deflationists use measures like M2 and M3, which have a lot of non-monetary components to prove their point) while at the same time most deflationists discount the amount of monetary inflation the Fed can generate (they argue that the Fed creating base money is like pushing on a string because the banks don't have to lend, even though I am many others have pointed out that the Fed has gone around the banking system and has started monetizing private sector debt directly, which is a trend that is likely to increase not decrease). Most people on either side of the debate is not considering strong evidence that both forces are significant.
Nathan Martin has another excellent post regarding debt saturation. Read it. This is the most important macro issue on the horizon. This is not isolated to the US, but to all major advanced economies.
Debt Saturation Equals Diminishing Growth, Employment, and Capacity Utilization…
by Nathan Martin Monday, May 17, 2010
When a debt based money system is born, the system is not yet saturated and adding debt (leverage) to the system works to increase growth of the economy.
The economy cycles, and if one adds debt time and again to stimulate down cycles yet fails to remove that stimulus on the up cycles then DEBT accumulates over time. This accumulation starts out slow, but with each cycle builds upon itself creating exponential growth. Witness the charts of public and private sector debts below:
Federal Government Debt:
Household Sector Debt:
As debt begins to permeate the economy, the stimulation effect diminishes as was thoroughly demonstrated in the last article on THE Most Important Chart of the Century:
I have been pointing out the continuous series of lower highs on that chart that gave way to a phase transition into negative territory at the debt saturation point. I’ve presented descriptions of a debt saturated environment and noted that employment and production should fall once saturation is reached and still more debt is added. This is due to the fact that new income must be used to service existing principal and interest payments. I even theorized that the recent “jobless” recoveries are part and parcel of debt saturation.
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