Use access key #2 to skip to page content.

FreeMarkets (92.16)

Why We NEED a DEEP Recession

Recs

25

July 14, 2010 – Comments (9)

Anyone who believes our economy will take off without a severe recession, is fooling themselves.  And yes, I'm including all the famous economists who foolishly believe there are methods to avoid a deep recession.  Here's the current situation - the FED and the gov't are going to spend lavishly and print money to try and keep this recession from getting any worse.  There are three possible outcomes:

1) Print/spend too little.  This will cause the situation to get worse (unemployment, GDP growth) and increase debt, while inflation remains tame or possibly some deflation.  Not the worst of all worlds, but certainly not a panacea.

2) Print/spend just the right amount.  This can possibly lower unemployment, increase GDP growth while increasing debt and getting tame inflation.  The problem here is how do you pull back on spending without causing another recession and, more importantly, how much debt can you run up before that

3) Print/spend too much.  Obviously this will cause inflation/hyperinflation/stagflation.  Every FOOL here knows you don't want to have too much money.

So lets take a closer look at #2.  The argument is simple - gov't ratchets up spending, people go to work, the gov't reduces spending, the economy is self-sustaining, and everything goes back to the way it used to be.

The sad reality is that the above scenario has never happened before.  In every scenario where this has been tried, only a major economic change has saved gov'ts from going bankrupt OR they have eventually capitulated and let the deep recession occur.  Let's look at the recession of 1990-1992. We ran up big debt in the 1980's and went from being the biggest creditor nation to the biggest debtor.  The recession hit, but we didn't cut spending.  Things were looking bleak, but the young computer industry took hold, spurred business by making them more efficient, and the recession was a minor one.  Congress couldn't keep up with the new revenue and debt was reduced (yes, we can argue about Social Security funds).

In 1982, we finally broke out of our 10 year debt by killing inflation with 18% interest rates and massive debt.  While some will point to this as a #2 scenario working, reality is that it was more about the deep regulatory and tax cuts that spurred the recovery.  Spending was only a tool Reagan used to get the Democrats to go along with the cuts.  But that spending came back to bite us only eight years later and the computer age saved our collective butts.

But #2 is such a positive outcome, why won't it work?  For one, OIL!  Once this economy starts moving again (via gov't financing) the futures market will start pushing oil over $100/barrel and maybe much, much more.  As an economy driven 70% by the consumer, watching billions of dollars evaporate into their gas tanks, its not hard to see that a growing economy will only hurt consumers.  This will require MORE spending to keep the economy moving, pushing us further and further into # 3 scenario.

The solution is simple - bite the bullet and pay down debt. Two years of hell is not a lot to pay for thirty years of excess, yet most Americans don't want to pay a DAY, let alone two years.  So while the solution is simple, the outcome is not.  Expect more of the same unless big changes happen in November.

9 Comments – Post Your Own

#1) On July 14, 2010 at 10:27 AM, Superdrol (97.14) wrote:

At some point many countries will need to restructure their debt.  Of course several countries in the EU that need to do this, however; Japan as a developed country will need to do this much sooner.  They are funding their debt with an extremely low cost of capital which cannot last indefinitely.  Even with that type of cost of capital they are still borderline in terms of even being able to tackle that debt.

 

Any shift would be basically bankrupt Japan.

Report this comment
#2) On July 14, 2010 at 10:40 AM, Griffin416 (99.98) wrote:

Agreed. Listen to Peter Schiff much, haha? We do need a recession again, but in my belief Bernake will not allow it. Don't fight the fed. The fed will keep easy money until the economy heals or we travel back in time to the '70's.

On a positive note, it seems as if the consumer is saving more/ paying down debt as a whole more than before. And corporations are de-leveraging too. This paying down debt scenario leads to a flat to down stock market. Your #2 scenario is possible, just not too likely as the Fed always overshoots...just like the stock market.

The only question that is confusing to me is if the money supply doubles (as it did) and the credit contracts by half. Are we really creating possible inflation or dollar devaluation?

Report this comment
#3) On July 14, 2010 at 10:48 AM, Superdrol (97.14) wrote:

The US, but also every other country out there is leveraging their future.  Borrowing money fron future cash flows for present day needs.  The reality is that you do not experience a credit excess such as the one that occured in the US and expect everything to be fine and dandy in just 2 years. 

 

I figured the US would tear a page out of Japan's playbook from the late 80s, but that would be too easy.

 

Whether it is done voluntarly or involuntarly, the excess will be 'purged' which has not happened yet.  That is essentially what a recession or in this case depression does is it brings things back to a normalized market demand (i.e. supply and demand).

 

Keynesian economics do not apply and in fact no economic theories apply to today's situations.  Keynesian economics never modeled in bailouts, etc.....

 

All that has happened is the banks have slowly deleveraged from their credit excesses and handed the baton to the Federal Reserve.

Report this comment
#4) On July 14, 2010 at 3:54 PM, TigerPack1 (97.35) wrote:

I generally agree.

I don't think most investors or analysts or economists quite understand the fix we are in, borrowing $1-$2 trillion from overease investors each year to keep the ponzi Treasury borrowing and federal deficit spending scheme going....

More pain is coming either from skyrocketing interest rates, a Treasury debt downgrade, a massive loss of confidence in the value of the U.S. Dollar and our favored nation reserve currency status, a recession in economic activity, a jump in oil prices from a war with Iran, a trade war with either/both Europe and China erupting, and/or a combination of the above, etc. etc.  The list of problems we must deal with in the second half of 2010 and all of 2011 is getting quite large now.

Keeping heads in sand and ignoring what is taking place, is the only strategy fully-invested stock and bond investors have as a foundation for optimism right now.  I have a hunch, that will not work out too well in the intermediate-term!

Report this comment
#5) On July 14, 2010 at 11:26 PM, guiron (20.43) wrote:

You're suggesting the course Hoover took. We know that didn't work then, and it won't work now. You don't hike taxes and cut spending in the early recovery of a recession. This isn't about religion- it's about practicality. Sure, let the whole thing crash, let the chips fall where they may. So easy for you to say, just allow chaos to reign - "Let them eat cake!" That never really works out politically, and it's been done before. It's the height of foolishness to believe any politician would run on the platform of destroying the economic system, no matter if there is some greater goal in mind.

Being on the gold standard did not solve the issue of market bubbles, crashes and recessions, nor general issues of money supply. The worst one was the Long Depression, back in the 1870s. It was a deflationary problem. After the Civil War, which was paid on fiat currency, the US went back to the gold standard and took money out of circulation to do this, which shrunk the money supply and contributed to the problem. Additionally, pressure from mining states and shortages of gold also affected monetary policy.

There is no silver bullet. Keynsian theory is not perfect, but dismissing it entirely is ignorant. We actually know QE works, though it's imperfect to be sure. The main problem with the Austrian School is that it appears to be more about religion and ideological purity than sound economic policy.

Report this comment
#6) On July 14, 2010 at 11:33 PM, guiron (20.43) wrote:

a jump in oil prices from a war with Iran, a trade war with either/both Europe and China erupting, and/or a combination of the above, etc. etc.

Familiar with game theory? It's not really in Iran's, Europe's or China's best interests to get tangled up this way. War with Iran is highly unlikely. For one, we simply cannot afford the cost, and the Iranian people don't hate the US. No matter how much bluster their figurehead spouts, he's more or less a puppet, he knows it, and he has very little popular support. China and Europe are trying to keep their footing, and pulling out the rug from under the US isn't going to help them at all.

Report this comment
#7) On July 15, 2010 at 12:11 AM, whereaminow (21.10) wrote:

guiron,

You need to read up on Hoover.  

David in Greece

Report this comment
#8) On July 15, 2010 at 7:13 AM, dbjella (< 20) wrote:

 guiron

Keynsian theory is not perfect, but dismissing it entirely is ignorant. We actually know QE works, though it's imperfect to be sure. The main problem with the Austrian School is that it appears to be more about religion and ideological purity than sound economic policy.

I am curious as to the bold above.

1) What part(s) of Keynsian theory would you "keep" or "adjust"? 

2) Why do you think the Austrian's are more about religion and unsound economic policy?  What is sound economic policy in Keynsian theory?

Thanks. 

Report this comment
#9) On July 15, 2010 at 8:37 AM, Superdrol (97.14) wrote:

Japan has had multiple stimulus and now they are still in an economic depression and has a unsustainable debt level. 

 

I trust Keynsian economics in this environment about as much as I trust fundamental analysis.  None.  There is too much political risk to quantify any type of estimate.

 

The recession needs to run its course through the US and that does mean people will have to suffer, that's just part of the process.  You don't dig a vertical hole 100 ft into the ground and expect to only walk backwards 20 ft and expect to get out.

 

The US is dangerously leveraging its future to support present day problems.  So if things go south, it will be exacerbated.

 

 

Report this comment

Featured Broker Partners


Advertisement