What next?

I don’t think even the most alarmist of doomsayers could have anticipated the pace of events in financial markets over the past couple of weeks. In that time, the casualties (bankrupt, nationalised or firesale) include Fannie and Freddie, Merrill Lynch and Lehman, AIG and HBOS and probably others I’ve missed. And the new names on the list are even more startling: Goldman Sachs, Morgan Stanley, Macquarie Bank, GE, even the Federal Deposit Insurance Corporation.

As late as last week, columnists were asking (and answering in the negative) the question “Should I take my money out of the stock market and put it in a money market fund”. Now the question is “If I pull out of the money market funds before they shut down redemptions, what’s the safest alternative: a bank account, T-notes or gold?”.

No doubt, this too will pass. But it’s just about impossible to see things returning to the status quo ante. A severe recession now seems inevitable. And when it ends, we’ll be looking at a greatly contracted financial sector, with governments deeply enmeshed in both ownership and regulation. Among the likely consequences, a huge decline in the economic importance of New York City, as the firms that defined Wall Street disappear. London may gain relative to New York, but is still likely to suffer badly, as will Switzerland. And that will have implications for the national economies that depend heavily on playing a central role in the financial systems.

Politically, even allowing for the incredible triviality of US election campaigns, it’s hard to see McCain surviving once the implications of this sink in. From the Keating Five to deregulation in the 90s, he’s been in the pockets of the financial sector throughout his career.

No doubt there’s lots more I’ve missed. Jump in and comment.

41 thoughts on “What next?

  1. No 24, computer models are the BIG problem here, academics have this thing in their big heads that maths is some sort of science, and some of them take it even further and even think economics is a science too.

    As to the original post, I think Mr Academic, you need to have a good look at some of the folks advising the chosen one Obama. Between someone who understands the questions but does not have the answers and someone who does not understand the questions and has no hope in maybe one day understanding the answers ill ill choose McRage, at least he might give the right people a good kicking.

    All in all the Austrian school wins in the great credit quake bubble, not that I am favour of the gold standard, but a dual currency system and breaking the monopoly of the Fed and all central banks would be welcome, but I don’t think the politicos would ever give up the powers to the market.

  2. I’d nominate Steve Keen and John Quiggan as two who have been consistently sounding alarm bells on the unsustainability of the asset-bubble debt-driven financial markets since 2000 (that I know of.) I suspect SK and JQ were writing on these issues well before that. Ernestine Gross sounds like another who assessed what was coming well before it arrived.

    It’s one thing to predict an avalanche when a slope is unstable. It’s another thing to predict exactly when it will happen and where every large boulder, including unknown ones buried in the slope, is going to end up. In other words, it is reasonable (in my opinion) to respect the pundits who made early predictions of gnereal disaster and unreasonable to expect them to predict the fine detail of the disaster.

    Whether my analogy holds true about the pace of the disaster I do not know. Could anybody have reasonably been expected to predict the pace of this disaster? My answer is possibly yes (and maybe some did). Given factors like the high level of interconnectedness of the financial system, high communication speeds, automation and data flows, automated stop-loss systems (is that the right term?) and the seeming domino or daisy-chain structure of securitised debt obligations etc. then perhaps one could have reasonably expected some pundits to predict a very rapid collapse and again maybe some did.

    However, that is only me being wise in hindsight. I’ve been one of the gloomiest prognosticators on this blog. However, my predictions have been more about the lack of environmental, energy and resource sustainability in the world civilization system rather than its economic unsustainability as such. I see economic unsustainability (on the modern scene) as a secondary phenomenon based environmental unsustainability.

    If we can take a lesson from the financial crisis it is that these environmental and resource crises now will be very rapid when they break. And of course they will compound into economic and social crises.

    The simple facts that suggest these crunches and collapses will be rapid are these. We have an exponential growth curve (populations and industrialisation) going up and meeting a reverse exponential collapse curve (resources remaining) coming down the other way.

    What this suggests we should do or can do at this late stage I am not sure.

  3. Mogambo points out where we’re at-

    ‘Welcome to modern America, where the rich get richer by borrowing money and credit created by the Federal Reserve, and then loaning it to the government, while everybody else gets poorer as the resultant inflation in the money supply is diffused through the economy as inflation in prices, unless the workers demand higher wages, which makes the prices of things that much higher, as the companies recover their higher labor costs! Hahaha! Idiots! We’re freaking idiots!

    Bill Bonner here at The Daily Reckoning concurs, although if you ask him, he is most emphatic that he has NOTHING in common with The Mogambo, he has NEVER knowingly agreed with me about anything, and in fact he never even HEARD of anyone named Mogambo.

    Nevertheless, I cleverly twist his words to prove my point that the majority of investors have to lose money by quoting him revealing the grim statistic that “From the peak of 2000 ’til today, stock market investors have earned nothing for their trouble. In nominal terms, stocks are about where they were 10 years ago. Adjusted for inflation, they are down 25%-80%, depending on how you measure it.” Yikes! Ten years! Gone!

    Ten years ago, the average investor invested a whole six-slice pizza. Now, they have as little as one slice of a pizza to show for their efforts? And somebody still thinks that they can fund a retirement on that kind of performance? Hahaha!

    And not only that, but since you invested when a pizza cost $10, only to get back $12 later (a 20% gain!) when pizzas cost $14, you are obviously a loser, thanks to inflation in prices caused by the Federal Reserve creating the excess money and credit to let a greater fool borrow the money to pay for your 20% gain.

    In short, you “made” $2, paid some taxes on the “gains”, only to find that your loss of purchasing power means you actually lost money, and you had to pay a tax for the privilege!

    And you are going to fund a retirement by constantly losing buying power of every dollar you invest? Hahaha!’

    While Spengler encapsulates sussinctly where we should be at-

    “There is nothing complicated about finance. It is based on old people lending to young people. Young people invest in homes and businesses; aging people save to acquire assets on which to retire. The new generation supports the old one, and retirement systems simply apportion rights to income between the generations. Never before in human history, though, has a new generation simply failed to appear.”

    Except for that last demographic oversight. My take is, it was that last unprecedented historical anomaly this time round that central bankers missed for so long, allowing their oversighted ponzi scheme to run for as long as it did. It is the length and depth of those consequent malinvestments that is the massive problem now for the crisis managers. It is probably beyond their best efforts to ameliorate now.

  4. “As to the original post, I think Mr Academic, you need to have a good look at some of the folks advising the chosen one Obama.”

    Sneering anti-intellectualism and the need to cast everything in terms of partisan spite in a single sentence, wonderful.

    And, of course, guaranteed to make the reader taking everything you say seriously.


  5. To go back to the title, I just wonder whether we are seeing the beginning of the disunited states of America, the breakup into several different countries. Remember those maps of the United States of Canada and JesusLand? The USSR fell apart surprisingly rapidly and the demographic differences between different geographic areas weren’t much greater than the differences within the US. Perhaps the election outcome will be the final critical breakpoint?

  6. That’s true enough Ian but the question is where to from here with those assets and associated income? Unlike roulette wheels where you’ve had a succession of black outcomes, the chance of red next is not the same vis a vis roulette and asset prices. Monetary expansion is a favourite of central bankers and politicians alike, with those progressive income tax scales and taxation by stealth, not to mention indexed Govt fees and charges. Nice work if you can get it to facilitate that ever burgeoning demand it seems-
    but there appears to be a very prickly problem now on the supply side and more credit won’t cut it anymore by all accounts.

  7. Re 32, “Sneering anti-intellectualism and the need to cast everything in terms of partisan spite in a single sentence, wonderful.”

    Well its a pity that all the Quants where not listened to and we would not be living this nightmare. SO yes I admit, I think a good dose of anti-intellectualism is called for.

    SO sack the risk managers, close down 90% of local statistics office, stop awarding prizes for economics, stop recruiting risk takers from economics depts at our universities, in fact a lot less economics from universities please, Im sure JQ can sell his goods elsewhere, and we will be making a start.

    As for sneering partisan, see my comments on Mcrage, HARDLY PARTISAN, Thats the replay no26.

    Ill let Taleb fill you in on the rest.


  8. What next?

    A 30 min delay in the opining of the ASX, Mo, 22 September 2008.

    Too much information or too little?

  9. Re # 38. The link is automatically updated. So I need to update my comments, too.

    At 10:49am the box had nothing in it. At 11:17am the box shows the behaviour of the ASX200. The ‘market failure’ lasted 1 hour.

    The worst possible outcome of the crisis (setting aside people’s wishes on ideological grounds) is an empty box in all markets – systems collapse.

    In the specific instance of ‘market failure’ today at the ASX we were told that there was a 30 minutes delay in opening the ASX due to an announcement (change of rules including suspension of short sales). It took apparently twice as long.

    The idea of the crisis management is to prevent observing a picture of an empty box in all markets. Not easy. Personally, I’d feel more confident if Prof. Krugman and a team of his choosing would be in charge.

  10. jquiggin, long time no post.

    I think you’ll find if you can search your archives that I’ve been banging on about this endgame for four years now (at times inviting your comment, though to my recollection you were unmoved), though I don’t claim to have called what institutions when (I tried googling for my name and yours and only get 2006 on). My prescience was really only a function of my appreciation the importance of Doug Noland’s analysis- the uber-perma-bear- at the time and still. I have the advantage of being able to evaluate people on the merit of their ideas irrespective of their standing in one community or another.

    Anyway, as far as your opening gamet goes, I can assure you that the only thing that surprises him about the unfolding events was the lack of a Lehman bailout which accelerated the undoing (actually, he also claims to be surprised at the timing of the policy response, though don’t ask me why. In any case, that’s nothing to do with what his 10 year old analytical framework accounts for).

    I suggest checking into the Credit Bubble Bulletin archives for more in the way of detail…

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