This week I had a short discussion with a family friend who happens to be a financial advisor. He was asked for his take on the whole financial mess, below is a summary of what transpired. Keep in mind he has been in the business for a long time and is very mainstream. There isn’t a single original bone in his body, he strikes me as the kind of guy who will read all the research provided by his firm and believe every word of it. He’s smart, educated (PHD) and generally quite unremarkable in every other way.
The market for discretionary goods is very large and volatile. There are certainly many things people can do without, but spending will never go to nothing. The performance of the market is irrelevant to our need for food and shelter. People may frequent restaurants less often and moderate their living conditions, but they will eat something, wear something and live somewhere. Homes will be heated, electricity will flow, cell phones will transmit and some form of transportation will still be required. As unemployment grows people will flock to reasonably priced entertainment. Prices may adjust as usage is moderated but these things will never go away.
What if the government was actually able to create some magic program to target the bulk of its money printing effort towards the residential real estate market and suddenly inventories started to drop and house prices stabilized, would it even matter? The stock market would probably rally, the airwaves would probably be filled with people forecasting the next long bull market, every government official would credit his brilliant economic policy, but would it last?
The developments in Canada these past few days are outrageous. I believe we may be about to witness the wholesale fleecing of a nation’s wealth by stealth coup, in a first world democracy. The unholy alliance of liberals, socialists and separatists with no aim other than to empty the treasury by flooding the country will billions of dollars, to be paid by future generations (with their freedom?).
Many people are pleased with the election of Obama, but I have observed that most of the blindly hopeful are also blindly clueless as to the true nature of the various crises afflicting the United States. My question I suppose is whether it matters — can psychology alone cure these problems?
All my predictions and calculations assume governments will intervene to re-inflate the credit bubble. My conclusion was that their efforts would ultimately be in vain as the excess currency loses its ability to generate real economic expansion in the developed nations, instead, it simply causes a plague of inflation that could threaten the viability of the entire currency system. Perhaps governments eventually return to a responsible course and a bottom is reached, perhaps they don’t.
The problem facing everyone is a loss of American demand. Americans don’t earn enough income, they have no savings and foreigners are refusing to lend them any more money. Americans are losing equity in their homes, their stocks and their pension funds. When Americans stop spending on domestic or foreign trinkets and automobiles, companies have the option to export those items somewhere else. When Americans stop spending on services, the companies close their doors. The majority of Americans work in the service sector. This is not the 1970′s, this is not the lost decade in Japan. When Americans stop spending and the service sector shuts down, unemployment will rise dramatically as the downward spiral is re-enforced.
I understand their logic – historic credit growth contraction will lead to deflationary pressures in the economy – but credit growth just barely went negative for the first time recently and was followed by an intense intervention from governments around the world. There is absolutely no evidence yet of any deflation, all the money supply figures are growing. That doesn’t mean it can’t happen, but given the events of the past few days in many capital cities I find it unlikely. The inflationist argument was always dependent on such intervention and now that circumstances have changed in their favor, deflationists must adjust their analysis.
