Most of the news of the past two months has promoted the concept of a painless recovery from what has been termed the greatest financial upheaval since the 1930’s. The Keynesian ‘medicine’ of low(est possible) interest rates, floods of printed money and market manipulations have been advertised as bringing an end to the recession. After an adjustment period of ‘slow growth’, business as usual will carry on as before.
Recessions have always lasted ‘X’ number of months, this one has lasted many months and is therefore almost done. This is the fantasy. The other is that governments and central banks can counter any deflationary trend by lending unlimited amounts of printed money.
This is a fatal misunderstanding and from where I sit at the edge of the financial universe it is clear that any changes have been cosmetic and that things are in fact getting much worse.
The lie of recovery travals outward from the center, whereas a real recovery starts on the ground. The US and the Peoples Republic of China share the characteristic of inventing facts to satisfy the vanity of officials and those who have invested in them. These have decided that the Keynesian approach has worked in the past and is working now and the needed austerity can be avoided.
Austerity being he repayment of good debts and the cancelation of bad ones, the increase in lending rates and real savings, the cutting of excess capacities, the liquidation of failed companies, the prosecution of cronies and criminals, the reduction in the size of government and government spending, the devaluation – or revaluation – of the currency, the holding of those responsible to account and the removal of the temporizing government and its replacement by a more rational and less corrupt one. Under asterity, balance sheets are repaired, unemployment rises, wages decrease, taxes and bankruptcies rise; eventually the excess is wrung out of the economic system and life goes on.
Austerity means the conservation of resources and a dimunition of consumption.
We currently have the unemployment, low wages and increased bankruptcies. We also have rising energy costs that are already ricocheting through the various supply chains. Why is the auto industry on the ropes? The answer that nobody wants to hear is the increase in costs particularly energy costs. Consider; lending costs, wages and other basic inputs into the automaking process have been kept stable or reduced. This has been acheived by outsourcing, RIF’s, and the embrace of securitized credit. The auto manufacturing process is world- wide and extraordinarily ocmplex and energy saturated. Industry expansion worldwide has decreased labor and benefit costs and increased energy costs. The 500% increase in this vital component since 2002 has pushed profits out the door. Add to this the end- user energy costs and the massive capacity to build cars is unsupportable. Shrinkage is inevitable. Chrysler and GM are being ‘reorganized’ into oblivion. Which company is next? All manufacturers are facing the same energy situation; large sunk investments in fuel- demanding processes driving costs that cannot be borne by the companies’ customers. The only way US automakers can sell cars is by cutting prices. There is no difference between these companies and Ford, Fiat, VW or other makers. All companies including the Japanese and European makers who have worldwide capacity are vulnerable.
The inflection point is the price where cheap oil becomes something else. Economists and OPEC believe this is at some higher level. The paroxisms of the auto and credit industries suggest that level is considerably lower than the current $60 a barrel, perhaps $40.
Complexity and horizontal intergration – created as short term expedients when energy truly was cheap, in mid- 1980’s to 2002 – have outlived their usefulness. The challenge is to relocalize industries but the solution of officials is to recast facts and integrate more completely.
Because of oil, the industry of the modern world is now speculation. The central banks of the United States, England, Japan and the ECB have all lowered rates on money and massively expanded the quantity of it with the goal of enticing consumers to borrow and spend and create a replacement investment bubble. This is the truth, why deny it!
The traders borrow from broker- dealers and invest this money in countries such as Australia or Turkey which pay higher money rates. The stimulating efforts of the central banks are directed toward countries that have no use for it.
This carry trade amplifies existing inflation in the countries which is the reason for the high rates in the first place. Instead of stimulating the domestic economies, the central banks export inflation instead which enriches currency traders but nobody else. The carry trade is somply another ‘investment company tax’ on the functioning economy. Except, unlike a real tax there is no public benefit, instead another reason for the government to support finance once the carry trade fails and the ‘investments’ turn to ashes and dust.
Heads I win, tails you lose.
The US government and its proxy the Fed has spent almost $15trillion to narrow interbank lending spreads a few percent. This has propped up finance for a little while but what happens next? Interbank spreads have narrowed but Treasury spreads – the yield curve is highest in history! This would suggest a rip- roaring recovery is right around the corner how can this be? With the $60 oil tax and the carry trade tax and the implied tax burden that the finance industry imposes upon the productive economy, the more ominous potential is for a dollar run when the Federal Reserve loses control of its administrative rate.
Look to England, where the ‘no pain all gain’ Keynesian approach has been tried and that course of action is spent. There are less finance resources to squander in the UK and the cupboard of borrowed money and government lending is bare. The BOE cannot simply print because the treasury rates would skyrocket ending all borrowing outright. There were no bond markets to answer to in the Weimar Republic or in Zimbabwe, there are in developed countries. Governments need them to finance themselves. The markets set limits. These have been reached in England. The Pound might survive but the government would not. The choice facing the UK now is either home- grown auteriy or to be Iceland.
If not already the same point of too expensive or diminished returns will be reached soon in the US. The choices are identical. to embrace austerity … or else.