Saturday, January 10, 2009

Depressed about the next Depression (or lack thereof)

There's still headlines every day about the global economy. The news coming in is worse every day. I hear the phrase "recession" every day. And that got me to thinking: if the country has been in a recession since 2007 (yet the government didn't declare until 2008, could we be in a "depression" now (that will ironically be announced next year)? I looked-up "The Great Depression" on Wikipedia and was shocked at the similarities between now and then, particularly in relation to deflation.
"The search for causes is closely connected to the question of how to avoid a future depression, and so the political and policy viewpoints of scholars are mixed into the analysis of historic events eight decades ago. The even larger question is whether it was largely a failure on the part of free markets or largely a failure on the part of governments to curtail widespread bank failures, the resulting panics, and reduction in the money supply."

  1. In early 1930, credit was ample and available at low rates, but people were reluctant to add new debt by borrowing.
  2. Sounds familiar, huh? Everywhere you look right now, there's great deals on flatscreen tv's, houses and cars.

  3. By May 1930, auto sales had declined to below the levels of 1928.
  4. Despite there being good deals on cars now (although it's debatable if buying 1 car at sticker price is a good deal to get another car for a penny), people are preparing for a downturn in 2009.

  5. The decline in the US economy was the factor that pulled down most other countries at first, then internal weaknesses or strengths in each country made conditions worse or better.
  6. Iceland's bankrupt now. Ireland's broke. Canada's doing well, so they're revoking visas for foreign workers.

  7. When the market fell, brokers called in these loans, which could not be paid back. Banks began to fail as debtors defaulted on debt and depositors attempted to withdraw their deposits en masse, triggering multiple bank runs.
  8. Americans borrowing too much money and then defaulting into foreclosure? You're kidding?

  9. Irving Fisher argued that the predominant factor leading to the Great Depression was overindebtedness and deflation. Fisher tied loose credit to over-indebtedness, which fueled speculation and asset bubbles.

9 factors interacting with one another under conditions of debt and deflation to create the mechanics of boom to bust. The chain of events proceeded as follows:

  1. Debt liquidation and distress selling

  2. Contraction of the money supply as bank loans are paid off

  3. A fall in the level of asset prices

  4. A still greater fall in the net worths of business, precipitating bankruptcies

  5. A fall in profits

  6. A reduction in output, in trade and in employment.

  7. Pessimism and loss of confidence

  8. Hoarding of money

  9. A fall in nominal interest rates and a rise in deflation adjusted interest rates

You can do a lot more comparing, but it's pretty scary to think about how serious this all might get (or has gotten already but we're too arrogant to see it).

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