The video above has some interesting comments made by futurist Gerald Celente in the past few years, along with future predictions of what he thinks is to come. I want to expand on some of what he says in this post as there are various topics worthy of discussion.
Inflation Index
The video includes a scathing attack on Americas CPI index and with justification. Statistics are always open to manipulation and to exclude food and energy in peoples living costs is simply not representative of the average persons consumption patterns. The current monetary system we have then uses this index to target what level to set interest rates at, and how expansive monetary policy should be. A centralised monetary planning board, known as central banks, periodically modify this index in an attempt to represent peoples buying habits.
Why do they set targets of 1-2% for these indexes? Why not 5% or 10%? Why not set monetary policy based on population growth? Or on how fast GDP growth is? Why not any random figure. My point is that the current system is no different to Communisms version of centralised quotas, which had no relationship with fundamental market forces, specifically supply and demand.
As I have mentioned in a past post the market should take control of producing money. Karl Marx was right, money was the key, he was just wrong on everything else. Governments monopoly of this product means that people have no choice but to use their national currency. This in turn creates artificial demand, as I can't buy food in Euros or US Dollars here in the UK. Therefore there is no check in the short term on what the government can do, especially if all governments are following the same policies. In a free market of competing currencies they would all compete with one another, based on supply and demand of consumers desires. If people preferred a certain type of money, then the market would increase supply of that currency based on demand. If people chose not to use a currency, then a contraction in the supply would occur in order to match up with consumers needs. If money was oversupplied, as has been the case with the current government monopoly that exists today, then it would cease to exist as there would be no demand.
The above is not experimental either. Before Kings monopolised money (in recent times the government) money was always a spontaneous creation by the free market in order to overcome barter. Money originated from the market, the authorities just mearly copied it's conception. In fact fiat money like the system we use today has only ever existed when it has been enforced on the people by governments.
There are many currencies in danger due to the above supply and demand dynamics. If we take for example the US Dollar the worlds reserve currency, there are currently many overseas holders. The problem over the last couple of decades has been the increasingly amount that has been printed and the existence of deficits. Many major holders have expressed their concern, Brazil, Russia, Japan, China etc. In fact these nations are already moving away from the Dollar for example Brazil and China have discussed conducting trade in RMB, along with Malaysia and various African nations. Indeed China has been shifting its wealth into commodity's, Gold, Oil or companies and nations associated with these assets.
The problem occurs when everyone heads for the exit. This is a situation where all foreigners sell their dollars. Then we come into the supply demand dynamic above, with no buyers but lots of sellers the price of the dollar will obviously decline. With the government in fiscal overstretch it becomes near impossible for them to do anything about it. Over the long term China, Russia or whoever deals with dollars have no interest in the US. They are currently slowly planning their exit strategies exiting first on the trading currencies they use and keeping their reserves for the time being so as not to put too much downward pressure on the dollar.
Latvia is another worthy example of this currency supply and demand dynamic at work. With the recent IMF loan the country has received (fiscal strings attached) the government needs to rapidly cut current spending due to IMF fiscal constraints. With the economy already in a deep depression, this will further hit growth in the short term. This should create strong devaluation conditions as the market has less demand for the currency of an economy that is in a perilous condition compared with other nations (as its prior perceived productivity decreases). The IMF loan is nominated in another currency, and due to the authorities not wishing for the value of the loan to increase if their currency was to devalue along with the further credit rating downgrades which would result from such a devaluation, they have begun trying to defend their currency with their currency reserves by buying up the domestic currency to create artificial demand. Of course the market is placing positions that the authorities attempts will be useless so are putting it under further pressure as the market believes a devaluation has to occur. This is a prime example of how market forces can't be beaten. Latvia will eventually have to devalue and abandon it's peg (they only have so much reserves), it's just the politicians don't want to face the pain. This is what George Soros did when he broke the BoE and made a billion. He was simply getting the government to face reality sooner than they wanted (in the process the UK government wasted billions of taxpayers money for nothing, however it would have been more costly in the long term if the market hadn't forced their hand earlier).
Price Stabilisation
If we come back to the concept of the price index representing a price stabiliser, some economists believe that markets forces can operate better if prices are 'stable', and have chosen a rate between 1-2% as an optimal range to target. We can take two simple items priced in Sterling to illustrate the fallacy behind this 'price stability' concept, houses and DVD players. Ten years ago a DVD would have cost you around £400, now they sell for £20. A house during the boom went up around 200-300% priced in pounds. If you look around there are many other items that either went drastically up in price, or drastically down in the price.
People don't think that if house prices or stock prices rise in price that this is inflation, but it is. It's priced in pounds or whatever the domestic currency is and these new pounds have to be created either from private banks or by the government. Due to the fact that they are usually an asset for many voters this is deemed as good inflation, despite the fact that it is the same as any other type of inflation. You just don't buy these on a daily basis like food and energy, that's the real reason its accepted.
If you look into the data used you have to wonder the reasoning behind what items appear in the CPI/RPI algorithms. If we take the UK index for example, last year they removed Parmesan cheese and put in its place Cheddar cheese (presuming you buy cheese). Why the change? Could it be to do with that we import Parmesan and with the pounds recent devaluation this good has gone up in price? Could it be some Bureaucrat somewhere wishing to look busy so swapped the specific cheese that is used? To take another example they have also substituted DVDs for Blueray discs, "to represent consumers move away to newer technologies". Would this be due to the fact that new technology has greater potential to fall in value, thus creating a lower inflation value for the headline press releases to give the illusion that we have no inflation?
Neither 'price stability' or 'inflation targeting' makes any sense when you start to analyse it and think critically (they have to create inflation in order to combat market forces that increase purchasing power by making goods and services more plentiful). In the years to come I'm sure these statistics will be heavily fudged in order to try and fool members of the public, trying to maintain the illusion of prosperity.
There were a plethora of amusing quotas that Communist Russia used to try and replace the free markets pricing mechanisms, by using measurements of produced materials rather than prices (prices which are determined by supply and demand). An example would be steel production based on measuring tonnage produced per year. The managers aim was to try and produce enough to meet his target (so he didn't get shot or sent to Siberia by under producing) but to not overproduce in case they increased next years quota too much. Due to the fact that it was based on tonnage there was no incentive to produce good quality steel that was of any use to industry.
So then we come onto say the state controlled oil sector, where they would require drilling equipment made from such steel. Due to it's poor quality it would make drilling laborious as the drilling equipment would keep breaking requiring more effort and time to drill into the well (a classic hallmark of state planned economies is where labor intensive techniques are used over productivity improvements). When they eventually got to the oil, there is usually a natural gas cap on the top, as is the case in many oil wells. As they only had a quota for oil production the gas would be burned off, creating huge environmental damage along with the waste of a precious and non-renewable resource.
Can you imagine the above in a capitalist economy? A company burning off millions of pounds worth of natural gas? A company wasting time buying poor quality steel and then continually having to re-drill? Despite the myth that capitalism overuses the planets resources, capitalism actually makes the most effective use of them compared to all other economic systems. Its only that it supplies us with such a luxurious lifestyle that we use more resources. Compare this with a regime such as North Korea where half the population suffer from basic malnutrition, despite the fact that South Korea supplies aid. There we contrast how well free market forces treat us.
Sub Prime
Celentes comments on sub prime are very true, as many people still think this is the cause of the current crisis when it just a symptom of easy monetary policies. There is far more downward pressure than just sub prime to come in housing. The next stage is prime mortgages as people loose their jobs and can't find new incomes. For those in the UK don't feel too smug, we have sub prime too, we are just behind the US curve. In fact UK home delinquencies are now worse than US sub prime. It just takes time for the banks to write these loses off.
In the US there is Alt-A, Option ARM mortgages which will be the next wave of defaults. Mortgages where the person could pay less than the rate of interest on the loan. As more of these deals are worth more than the value of the asset there will be little incentive for these individuals to continue with such arrangements.
What happens when the central banks have to raise interest rates to defend their currencies? Central Banks will be very reluctant to do this which comes to the next issue, the inflation that they will create. When prices of staple goods such as food and energy are rising how will people pay their mortgage. Would you choose to eat or default on your home loan?
Population demographics are another factor, with many looking to retire in the coming decades won't these people be looking to downsize, to supplement their pensions (presuming they have one or that it hasn't closed/collapsed etc).
Still people talk about the next housing boom in the news. The TV and papers are still full of articles. Denial is still all around with many talking about houses as a great long term investment. We will see what these opinions are at the end of this bear market, but we are a long way off.
Tax revolts, Food riots, Crime and Revolution?
California has already experienced a tax revolt as the people chose for state spending to be cut rather than face higher taxes. With inflation down the road, food will always rise in price as money ripples through the economy. It's one of those goods that you can't avoid not to buy. As unemployment rises along with the general disillusionment of people trying to re-enter the workforce, many will resort to crime. Then with the deficits many nations are running up, will there be cuts in crime enforcement? With protests and riots distracting the police will there be enough resources to cope? Ever wonder why the military is returning from Iraq?
We are living in extraordinary times, indeed a revolutionary era. All the conditions are present, government overstretch, money printing, plutocracy as the rich are bailed out, economic instability and so on. Will the traditionally strong liberal democracies such as the US and UK survive? I suspect so, but it will feel like a revolution in the years to come. When the currency and bond bubbles burst, then we will have a real crisis, not the banking crisis last autumn that was just a warm up, as Celente has remarked "The Bailout Bubble". The real crisis is yet to come.
“Every generation needs a new revolution.” Thomas Jefferson, American 3rd US President
It seems every authoritative figure has begun warning about the dangers of deflation. With Britain's Monetary committee making a case for printing money, we are told that this is to ward off the 'dangers' of a falling money supply, and we need to inject more cash into the system to get the economy moving again. The Keynesian's, the governments economic cheerleaders, are proposing that inflation is needed in order to combat deflation and the new money can ensure increased consumption in order to drive the economy forward. Deflation is one of the most misconceived economic terms, used as a scapegoat by the above institutions portrayed that it can somehow cripple an economy. Yet Deflation should always be embraced as it is a sign of a healthy free market economy. If our economic system was truly free, we would never get inflation. We would always have deflation in the modern sense of falling prices. However Banks and Governments always prosper with inflation. Throughout history this has been demonstrated with the costs borne by the rest of us. I felt this post was needed as I have become weary of these statements that deflation is some how a terrible event that should be avoided at all costs, used to try and justify printing money. Nothing can ever justify printing money or inflation and this post attempts to tackle these common misconceptions that have been indoctrinated onto the public, either by officials and economists that prosper from such policies or are incompetent to see what is happening.
Credit Expansion, Banks and Governments
Governments worship inflation. It funds their expensive welfare programs. It funds their wasteful consumption. It funds their political ideologies, their Utopian society they promise the public who elect them. Permanent inflation, like the one we have in our monetary system would never occur in a stable and free market monetary system. It can only occur by the continual expansion of our money supply. Markets always reduce the costs of goods ensuring greater productivity efficiencies as capital is used to enhance the way we make products. The debasement occurs with the co-operation between the banks and the state, similar to what we are seeing now. There is no conspiracy behind this as there is a long history of governments encouraging reckless credit expansion from the banks. A credit boom, like the one we have just come out of, creates huge amounts of credit which is spent during the boom. Most of this money does not exist as fractional reserve lending allows banks to lend far more money than they hold on deposit (money that actually exists). The government allows this privilege to banks as it inflates the currency, expanding the amount of money in the system. Despite the huge deflation we have had over the past 10 years in, computers, mobile phones, holidays, with all these items coming down in price, we have still had continual inflation. That inflation was a credit boom created by the private banks orchestrated by the central banks who prop up this credit expansion process, ensuring it goes on for far longer then would occur in a free market system.
At some point this process breaks down (a credit crunch), usually by previous investments turning bad (sub prime was the trigger recently) thus wiping out what little reserves the banks have. The banks reach a point where they can no longer inflate and central banks become the lender of last resort propping up these banks, and essentially printing money to replace the credit being destroyed. This is the current time frame we find ourselves in. Deflation, as in a contracting money supply is happening, thus the government and institutions step in to inflate. Since the credit crunch began true deflation has not actually occurred. Instead the money supply (Broad Money, M3, M4) is still growing as the governments resort to running huge budget deficits, that will be paid by printing money. We are told that this is necessary, as our economy needs the credit in order for it to operate. This however is not the case.
It doesn't matter how much money you have in the economy, so long as it is stable and divisible enough to price goods and services. Zimbabwe has huge amounts of money, yet they are no better off than traditional hard money countries such as Switzerland. In other words our prosperity does not depend on how much money there is, only that it be a commodity that can retain its value. If we allowed our money supply to drop, as markets are currently indicating, prices would just fall to a new equilibrium. If our money supply fell 50% then prices would generally fall 50%. This is the way to get out of the economic hardship we find ourselves in. This ensures a healthy liquidation process runs its course and cleans out these excessive speculative debts, those of the wasteful businesses and individuals. It would also stop government spending, and these unpayable deficits that we now see. It would be painful, depending on your circumstances, but it was brought about by the excessive credit expansion of the previous boom. The market is simply trying to get rid of these excesses. The worst thing we can do is try to re-inflate like we are currently doing. History has always shown this, and economic theory proves it.
Deflation is Compatible with Economic Growth
The recent credit bubble has now morphed into a violent contraction as the credit expansion process has turned into a credit contraction. This is not to be confused with normal market deflation (constantly falling prices), rather a by product of the elasticity of our money. In a free market that did not permit excess credit creation (ideally none), used sound money and removed the monopoly our governments hold on our money, deflation would be a normal occurrence. As history has shown, economies that have undergone deflation, have performed better than economies that have experienced inflation. Milton Friedman, who in fact believed in price stability therefore inflation, concluded that America during the period from 1865 to 1879 experienced huge economic growth despite having no inflation. On the contrary the U.S. was experiencing deflation.
"[T]he price level fell to half its initial level in the course of less than fifteen years and, at the same time, economic growth proceeded at a rapid rate. . . . [T]heir coincidence casts serious doubts on the validity of the now widely held view that secular price deflation and rapid economic growth are incompatible." Milton Friedman and Anna J. Schwartz, A Monetary History of the United States 1867–1960
Around this time Germany also experienced rapid price declines, yet had the best economic growth in the whole of Europe as they became a world superpower that challenged Britain's status at the start of the twentieth century.
These false justifications to create more credit will ruin market forces for years to come. Credit merely channels societies resources. If we have less credit then prices drop to their new equilibrium. Just because credit contracts, doesn't mean we suddenly loose all our infrastructure, our skills, our resources? They are still there, and will just be re-priced accordingly. The competent, people and businesses who did not overextend themselves during the credit boom, did not make wasteful purchases, will take over from the people who were overextended and have been liquidated, who could not manage societies scarce resources.
'Price Stability'
So why do we have this catastrophic credit expansion that creates all the issues we now have? Governments and Central banks use a concept of price stability. Many of you would have heard of it before. In the UK for example we have a composite index that represents typical consumer goods, called the CPI (Consumer Prices Index). The government (Central Bank) try to keep this target in a range of 2-3%. Around the turn of the Twentieth Century a proponent of this concept was an economist called Irving Fischer (an early day monetarist). The concept goes that this will somehow ensure greater economic productivity and planning. Another economist at the time, Friedrich Hayek, indicated that this proposal was doomed from the start. In order to stabilise prices in a free market where prices were continually falling, the stabilisation would inevitably take the form of a credit expansion, which would provoke a boom. This boom would be unsustainable and would result in these artificial credit distortions eventually unwinding with a bust.
These polices were used during the 1920's in America, with the Federal Chairman Benjamin Strong, ensuring 'price stability' by crediting a huge credit bubble in the stock market. Irving Fischer, who supported such polices said in 1929;
"Stocks have reached what looks like a permanently high plateau."
He also made statements for the continuing years that stock prices seem to have stabilised, even as they continued to decline until 1933. Meanwhile in 1928/1929 Friedrich Hayek, had wrote that a great depression was coming. Price Stability was a form of central planning, targeting fixed metrics that were incompatible with market forces. It was central planning intervention, interference with markets just like Communist Russia. At the time he was laughed at, people were saying it could never happen, this was the "Global Economy", the "New Economy". However the disaster was always on the cards, it was just a matter of time. Governments and Central Banks subsequently use 'Price Stability' to legitimise this expansion of the money supply that always brings about the boom and bust process we are currently seeing.
Price Indexes
Then we come to the point of the price index (CPI, RPI etc). How do we determine the algorithm to use? In a free society how do we decide what people spend their money on? Well one cost would be living costs, as we all have to live somewhere. Not in CPI. CPI, the preferred measure the government uses doesn't even include typically peoples biggest cost, their roof over their head. So how can they target 'price stability' when we don't include house costs. Quite simply they can't and its all an illusion. All the inflation went into houses - trillions of it, now its all spilling out as the governments try and replace the bad loans that were lent on these assets. It's a similar story with stock markets, they are also not included in any measure. The indexes they use from the start are flawed. Its all deliberate, to give people the illusion of prosperity i.e. rising asset prices to ensure continual inflation, debasement of our money. These are the justifications they now use for printing money, flawed centrally planned metrics which is just the same as any Communist centrally planned ethos. All monopolies are doomed to fail and impoverish the people. This is no different.
The amusing thing with CPI in the UK, is it hasn't even fallen in it's targeted range and yet the government are already wanting to print money, even before true falling prices have actually met their bounds that they use.
Arguments against deflation
There are many common horror stories with deflation, a fear is installed in people with various doomsday scenarios that will occur, and all of them incorrect.
The first one, is no one will buy anything. People will stop consuming and we will all have no jobs. So when mobile phones, computers, televisions, holidays, cars etc have all been falling, did people prospone their consumption? Of course they didn't, people have a time preference to enjoy their life now. Everyone knew these goods would most probably fall in price over the past 10 years yet everyone kept buying them at record levels for the enjoyment of these products now. People buy mobile phones every year, despite them continually falling in value. Common sense says people always spend money. We always need goods. People use these justifications for houses, if prices keep falling then no one will buy them. People will always buy houses regardless, as its a home, and people will always pay for the enjoyment of 'their' home. If peoples past expectation during the housing bubble was rising appreciation, then these attitudes need to change. A house is a home and historically has been a poor investment. When the credit crunch began people stopped buying homes not because they thought they would fall, but because the banks stopped reckless lending. Now people are not even sure if they will have a job, so buying a home suddenly seems like a liability.
Second, it would be harder to service our debts. Sure, if you have a million pound house with an income on minimum wage and a 125% mortgage. This only occurs in the extreme case we find ourselves in now, that is caused not by deflation, but the excessive credit expansion of the preceding years, all in the name of 'price stability'. Even in our current situation, people who have over extended themselves get liquidated. The people who have been prudent and competent take over these assets. Governments cut their wasteful spending, and don't rob the people through inflation allowing the competent private sector companies to take over - not the government like we are seeing now. An attempt to re-inflate will only result in further struggles to pay debts as the new money ends up in food, energy etc meanwhile production is distorted and hampered by these re-inflationary tactics.
Third, we will get a deflationary collapse like Japan in the nineties. It wasn't the deflation that killed Japan, as in a monetary trap, it was the government, a structural trap. It continued with further inflation. The government expanded its involvement, tried to prop up prices and didn't allow liquidation. The funny thing is U.S. Treasury Secretary Timothy Geithner now states that Japan did not inflate enough and that's why their economy never recovered. Talk about clown school economics. I couldn't believe what I was hearing. It was like Robert Mugabe stating that Zimbabwe's economy is in such a bad state, because he didn't print enough money.
Deflation allows all sections of society to prosper. It distributes lower priced goods and services to all income groups, regardless of social standing or what assets they hold. Inflation enriches the wealthy at the expense of the poor. It puts a break on social mobility. Banks and Governments are always the winners as they receive the money first. As the money moves out, prices rise and the last to get it suffer. As long as the government holds a monopoly on our money they will always inflate, regardless of the consequences. Regardless of robbing the very people they are elected to represent. The only way to prevent this is by giving production of money back to the people - to the market. Just like any other good, Chicken, Shoes, Phones, all are provided by the market and money is no different. It is merely a convenient commodity to exchange our more cumbersome goods. Britain had free market money around the turn of the nineteenth century, as it rose to become the economic superpower of the world. Government intervention outlawed it, as there was no benefit for them subsequently creating the modern money monopoly they still hold. One day, I hope we will look back at inflation as an ancient cult, extinct, with deflation a permanent feature in our economic landscape, discriminating against no social group and ensuring everyone can enjoy the fruits of a true free market.
"Today everybody is prepared to consider a rise in his nominal or monetary income as an improvement to his material well being. People’s attention is directed more toward the rise in nominal wage rates and the money equivalent of wealth than to the increase in the supply of commodities. In a world of rising purchasing power for the monetary unit they would concern themselves more with the fall in living costs. This would bring into clearer relief the fact that economic progress consists primarily in making the amenities of life more easily accessible." Ludwig Von Mises, Human Action
We came close to financial collapse, Wall Streets big Investment banks went bankrupt or were merged into other banks, the IMF bailed out various countries from monetary implosion, Sterling plunged, Governments turned to Socialist solutions, the myth of houses being a 'safe investment' was derailed. In all the turmoil with every asset in sight heading south, historian Niall Ferguson was on our screens again, this time with a series titled "The Ascent of Money" to promote his new book. A six part series that looked at the historical impact of finance within human society and how it has evolved, into the modern system we now use in our economies. I personally enjoy reading Niall Ferguson's books and there are some interesting titles to his name, my favourite being Empire: How Britain Made the Modern World. After the last episode there was an open web chat in which he answered peoples questions, which can be found here. Like the television series, Prof Ferguson seemed to have flawed analysis of economic matters, such as deflation and inflation which I wish to explain briefly here. Inflation and deflation is strictly a monetary phenomenon, it is caused by an increase in paper money compared with the goods and services in an economy. This shows up as rising prices, however the goods do not rise in price from market forces, but from monetary expansion. For the sake of this article, I may refer to deflation as falling prices, but technically it is a falling money supply. However I will use this definition to elaborate on Prof Ferguson points in question. I have selected some of the quotes he made in the online discussion that I found interesting.
"Well, right now Ben Bernanke is more worried about deflation than about inflation. But if he's successful we can soon revert to worrying about inflation. As I said in an earlier post, central banks today do not want 0% inflation (i.e. price stability). It limits the room for monetary policy too much. Are we going to see a big surge in inflation after this crisis is over? I frankly doubt it. The Fed can mop up a lot of this excess liquidity quite easily, as the Bank of Japan did after the end of quantitative easing."
The above analysis is flawed, in many aspects. First of all, that we are suddenly worried about deflation. This is a myth, as the past couple of decades have been deflationary. As I've said before market forces are always deflationary, people reinvest capital to increase productive capacity, thus reducing the cost of goods and services. Prof. Ferguson confuses general deflation, with the aspect of deflation that Ben Bernanke is worried about, that is asset price deflation - houses and stocks. As the US and UK have consumption debt based economies, where the 'wealth' is based on the price of the above assets, when these are falling in value then the economy contracts. This is what the Western Central Banks are worried about, as our whole economy revolves around these assets. They will inflate these assets at all costs, hence why they want to print money. History has always shown governments will do this as people want the government to take action. Prof. Ferguson does not mention any of this which is a big omission. He also doesn't mention it in the television series.
Apart from the first episode there is no great mention about inflation. Inflation is a purely monetary phenomenon, which amazingly he doesn't seem to explain in great depth. In order to obtain the 'price stability' he references above, central banks must constantly inflate the currency as the prices of goods and services continue to fall. Achieving price stability is a path to periodic financial crisis. Price stability helped cause the Great Depression, as the FED had to inflate during the 1920's in order to ensure inflation was ticking along, fighting against the deflationary forces of industialisation. Then when the bust came in, they tried to inflate to keep inflation up (i.e. keep wages, agriculture and stock market prices high), however they were beaten in the end by the gold convertibility so deflation won in the end. Rather than the economy resuming normal operation it stagnated for years due to the huge inflation in the proceeding years, accompanied by the draconian measures that were introduced as the government constantly interfered during the bust. It wasn't deflation that made the great depression, it was the inflation in the stock market. Then there was the stagflationary seventies. All currencies were off gold, therefore governments this time could inflate so inflation reached as high as 25% in Britain. Again the result was the same - economic hardship for years. It was inflation again in the 50's and 60's into asset prices that caused this as central banks looked for 'price stability'. Yet again, we are following the same foolhardy decisions, as price stability causes financial instability.
When Dr Ferguson mentions this price stability he says it limits the room for monetary policy. Does he really understand what he is saying here? The only thing it limits is the economies ability to re-deploy its resources efficiently and effectively. It has helped cause the stock market bubbles and the housing bubbles with the recent one, being one of the prime reasons we find ourselves in this mess as Greenspan and Co decided we had to pump cheap money in the system to ensure 'Price Stability' to combat these deflationary forces. They expanded the money supply so much that the West quite simply misallocated its resources in the wrong areas, hence the major correction we are now going into. Capital should always be scarce despite what people say, as it tries to direct a scarce amount of resources in the real economy into the required productive channels.
Then we come onto his other comment regarding if we going to see a big surge in inflation, in which he doubts we will. His reasoning is that we will be able to mop up any excesses like Japan. Like Japan did? As I have mentioned before, and unfortunately our governments have begun implementing this policy, Japan cut interest rates to 0% and tried to inflate to cure their downturn in the 90's but all it did was kill the economy. They also tried the new buzz word in the media "Quantitative Easing" which is effectively printing money, as I have earlier warned about. The reason Japan didn't experience inflation domestically, was that they exported this excess money to the world. Japan exported inflation to the world. You have probably heard of the Yen Carry trade well this is what it was in effect, people buying up huge amounts of Yen at cheap rates and putting the money to use in other countries where the returns were higher. It was also the reason for the Yens surge this year, and the deleveraging we saw in the autumn and winter of 2008 as these returns evaporated and the Yen increased in value against all currencies - people had to sell to cover these loses. This is also one of the causes of our asset booms in the stock market and housing. If it wasn't for this and the fact Japan is a huge creditor nation who have a trade surplus, they would have experienced huge inflation. So then we ask the question, how will the West mop up this excess money if the majority of the worlds economies are doing it? Quite simply, they can't, once this money is in the system along with less goods and services (which is what is happening at the moment as businesses won't invest) inflation is inevitable. The only way to stop it is by raising interest rates to double digits, a policy politicians don't particularly like, as Margaret Thatcher found when she became a demonised figure.Our economy is based around debt, so they are not going to be doing this for some time.
"Don't know the book. But people are always writing things like that. My favourite is William Rees Mogg's Great Depression of the 1990s, which never materialized (rather the reverse). Usually the predicted event doesn't happen. Sometimes it does -- though by 2010 I suspect we'll be out of this hole and Harrison's book will be out of print."
The comments above are in regards to Fred Harrison's book, Boom Bust: House Prices, Banking and the Depression of 2010, this is also a book I have read. Yet if Prof. Ferguson had done sufficient research and indeed read the book before passing judgement, he would have discovered that there is a very set pattern for the gap between each housing boom, specifically 18 years which Fred Harrison shows in his book. The book was also written in 2005, just as the housing market was slowing down and many thought it would collapse, however Fred stated that it would carry on for another two years, the period he terms as the "winners curse". He also said it would carry on with double digit rises, when everyone said it would slow to more moderate growth, as he claimed hysteria would grip the market once more. He also wrote a book back in the early eighties, The Power in the Land, in which he predicted the recession of the early nineties, so this is not a one off.
The assumption that we will be over the worst by 2010 is wrong and sounds like he has been listening to the Labour Government. This stagnation will go on for years in the West. 2009 will be even worse, with more bank failures, huge unemployment, and rising debt. Government finances will be in a hideous state and 2010 will be a grim year too, with in all probability the beginning of what will be years of inflation, as 2009 winds down.
"No, we are in a very different situation from the world in 1929, although the potential was certainly there for a Great Depression 2.0. The key difference is that the Federal Reserve System and the U.S. Treasury are doing everything in their power to combat the collapse of the banking system. And so far they've done a pretty good job. I find it hard to believe that this time next year will be so worried about deflation and depression. The conversation may even have switched to inflation and the need to reverse some of the stimulus that was injected."
The final sentence of the above comment concurs with the first statement in this article, however it is his comments regarding the authorities' interventions that I wish to tackle, as he quite clearly has a incorrect interpretation of history. As I have shown in a previous post the Great Depression was caused by government intervention, the Federal Reserve slashed interest rates from 6% to 1.2% and took all sorts of financial instruments from the banks to prop them up. Prof Ferguson seems to place a belief that they have done a good job, however President Hoover was saying exactly the same at the end of 1930. It wasn't until the second half of 1931 when things really were desperate, and the previous measures had quite clearly had no effect. Governments make the situation worse, which I will dedicate a post at a later date to fully explain why free markets should never be interfered with, even during a bust. He's right in once aspect that later in 2009 we shouldn't be worried about deflation, the monetary expansion along with the depletion of goods should ensure a resurgence in inflation again. We are facing a depression, even if the authorities never admit it, but it will be an inflationary depression.
These were just three of the comments he made in the web chat, I didn't feel the need to choose anymore comments as the post would have been too long. There were some good points regarding the Socialist Chilean President Salvador Allende from various posters and from Prof. Ferguson himself. His successor, General Pinochet was a tyrant and an oppressor of personal liberty, but Allende would not have been the Socialist Utopian alternative, as so many among the left like to believe. Before the coup, Chile was already showing signs of Totalitarianism, along with the classic hallmark of Socialist overspend resulting in the escalation in inflation. There was quite an extensive debate on this subject matter, with some emotions running high.
One of the terms coined in the series is that of "Chimerica", or the union of China and America in recent times. Ferguson paints a rosy picture of this relationship, although he does mention the possibility of a Third World War between the two without the mention of possible alliances. In one of his books "Colossus: The Rise and Fall of the American Empire", he evidently can see that America is on its way out as the worlds superpower, displaying signs of overstretch and faltering economic growth, similar to Britain's decline, decline that I suspect we will see over the coming decades (as empires always decline in over a long period of time). In the book he doesn't use the term Chimerica but acknowledges the China effect and the deficits that America is running with the rest of the world. This is one point he doesn't make an issue of in the series, which in my view is a major point. Britain, when it began its decline, was a large creditor nation with assets all over the world. America, on the other hand, is a huge debtor nation the largest in history with very little in terms of overseas assets. America, is in a far worse state than Britain was during its decline. Yet Ferguson seems to believe that America will be the main economic powerhouse for years to come. I disagree, and think he has overlooked this fact, or forgot to mention this historic parallel. The globalisation of today is far different to the one before the first world war. He mentions British trade with China, however the Chinese were very restrictive back then, only allowing European merchants to trade at key ports. They had no access to mainland China, and shifted their goods through the local merchants. In this recent revisit of Globalisation, the situation is very different. China now produces and exports huge amounts of goods to the West, and have modern economic capabilities. They are becoming self sufficient, while the West now relies on their productive facilities to make goods. This is why this time it is more experimental, as the West slowly loses its status as the economic center of the world.
In the final series Prof. Ferguson detailed the various financial events of the past two decades, from the Savings and Loans Crisis, the Asian financial crisis, the Russian Government Default, LTCM collapse, the dot com bubble, Enron then finally the housing bubble. Yet he didn't link into what caused these events, and how they kept reoccurring. Again the Federal Reserve has fostered these, and persistently distorted the market causing the major downturn we are now seeing today. All the above is created by Greenspan and Co who kept bailing the markets out. People were amazed that Lehman Brothers went bust last year, but half of those US investment banks should have gone bust 10 years ago, along with LTCM at the time. He instead pins the mistakes on human behaviour and markets. This is not true, as the market would have corrected these excesses long ago, instead the Central Banks kept bailing out everyone. In other words they took the risk out of the free market. The free market therefore did not price risk, which is a reason why the banks have so many issues we see today. This omission was fatal, as it explains the bust we are going into is not a product of the true free market, or the product of Capitalism (as many anti-capitalists have begun prophesying its downfall) but the product of Central Bank intervention. The market would have corrected all the above long before, thus we would have never had house values escalate as high as they did and an economy orientated so heavily towards these asset prices. These banks would have gone bust long before and along with it more sensible lending standards, with a more balanced economy.
After viewing the series I don't think I will be buying the book, and will probably wait until it becomes available at my local library. I was also disappointed that the series did not go into the details of fractional reserve banking, Central Banks and the artificial market forces that China have been exerting in recent years in order to grow their economy quicker. There was also a lack of history towards recent financial events, which would explain more clearly the predicament we find ourselves in. However, Prof. Ferguson is an academic, not an economist. His book Cash Nexus, another book that I have read, he declares gold as an old relic with comments such as "Gold has a future, of course, but mainly as jewelry". This was in 1999, around the bottom in Golds price, since which Gold has increased around 400%-500% in Sterling a decade since these comments. Other recent comments such as "Money is trust, not metal", is true with our modern fiat currency, however only metal ever keeps its value over history. Another historical point Prof. Ferguson misses.
Alan Greenspan, who helped cause the current issues we see, understood the damage central banks and a fiat monetary system can cause. Back in 2002 Ron Paul asked him about Gold and Economic Freedom, an essay he wrote (in which I have taken an extract from), and if he still believed it to be true and valid for today. He responded with "I wouldn't change a single word". It's a shame many mainstream commentators such as Prof. Ferguson can't see the flaws in our current system. Greenspan could.
"But prior to World War I, the banking system in the United States (and in most of the world) was based on gold and even though governments intervened occasionally, banking was more free than controlled. Periodically, as a result of overly rapid credit expansion, banks became loaned up to the limit of their gold reserves, interest rates rose sharply, new credit was cut off, and the economy went into a sharp, but short-lived recession. (Compared with the depressions of 1920 and 1932, the pre-World War I business declines were mild indeed.) It was limited gold reserves that stopped the unbalanced expansions of business activity, before they could develop into the post-World War I type of disaster. The readjustment periods were short and the economies quickly reestablished a sound basis to resume expansion ... In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value." Alan Greenspan, Gold and Economic Freedom, 1967 Note: The Federal Reserve was established in 1913
