That we live in an age of miracles has become common knowledge. A man may sit on a beach near Sydney, with nothing but the bucket bottom of the universe over his head, and still carry on a casual conversation with an Eskimo near the North Pole. Using an Internet-based phone service, he may do so at negligible cost. If this were not miracle enough, he may now grow himself a new nose, if he needs one, on his own arm.
In this age of miracles, people seem ready to believe that anything is possible. Recklessly crossing the street at the end of the Late Bubble Epoque, the world economy got hit by a cross-town bus. Now, the feds propose to reverse and run over the poor fellow again. It will be as if they had reversed the film; the economy will be as good as new, they say.
But we are suspicious. And we begin today's rumination by examining the bus driver's motives.
In its naked form, government is not evil; it is merely a self- interested parasite, like a bank lobbyist. Its main value comes from its ability to elbow out other parasites. Of course, the typical citizen is no saint either. Instead, he is merely a parasite in the larval stage. If he is lucky enough or cunning enough, he could grow into a parasite himself. The citizen, generally, doesn't mind being lied to and robbed - just so long it is by someone he elected. Or at least by someone whom tradition or local connivance put in place. He does not usually resent his homegrown government, even though it routinely costs him a substantial part of his output. On the contrary, he grows so fond of it he even dons his helmet from time to time to protect it. Naturally, the feds return the favor.
The basic business model of government is to keep order, protect campaign contributors and lure supporters with the promise of other peoples' money. The game plan of the typical citizen is even simpler: to be on the receiving end, not the paying end. Over time, more and more of them get into position. And the whole society becomes more costly, and more corrupt.
In the United States, entire industries now operate as wards of the state. They may have too little capital. Or, their operations may be too costly. Or, their products may be simply out-of-date and unattractive. Still, government keeps them going - even at the cost of at the expense of competitors. And the money doesn't only go to business. Cities stay solvent only by the grace of federal government grants. Whole sections of the population depend on government - including 34 million who draw their rations directly from the federal food stamp program. The spectacle is breathtaking and alarming at the same time - like a Pakistani bus on a mountain road, freighted with passengers clinging to the roof. The old rust bucket could tip over at any time, but what politician would tell a voter to get off?
That preface on the state out of the way, we turn to the state of the economy. The key to understanding the great credit bubble of 1945-2007 is to capture the codependent relationship between China and the United States of America. It seemed to serve both parties well. Each enabled each other's excess. China added mightily to the world's supply - far more than was actually needed. America, meanwhile, did heroic work on the demand side. While the growth in the United States was led by consumer spending, the growth in China was led by capital investment; factories expanded, towns were built, and output was revved up. But there was a flaw. Americans ran out of money. After the '70s, they could only increase their buying by going into debt. This they did with insouciance bordering on insanity. Total debt rose 370% of GDP and then blew up in 2007, with major lenders forced into bankruptcy and mergers, while GDP sank at its fastest pace since the end of WWII.
Now, the old formula no longer works - neither for Americans nor for the Chinese. Despite the urging of their government, Americans cannot be expected to take on more debt in order to consume more stuff from China. As savings rates grow toward 10%, demand from the United States will collapse by an estimated $1 trillion per year. With the China trade now accounting for 83% of America's non-oil trade deficit, you'd think the Chinese would panic. They already have as much as two times the output capacity needed to meet real demand. They should trim their manufacturing sector, not expand it.
We draw out that relationship only to show how hopeless it would be to draw it out further. Borrowing to consume is merely tricking stuff from the future to enjoy in the present. By 2007, some $30 trillion worth of spending that would have occurred 'in the future' had already occurred in the past. Factories that would have produced consumer items for 2009 discovered that they had already produced more than enough of them in 2005 and 2006.
It would be better to invite the future in...let her collect her debts...and then get on with things. Yet government officials on both sides of the Pacific continue their numbskull efforts to revive the bubble economy. On the US side, the feds are trying to stimulate demand for more stuff. On the far side, Chinese stimulation is going into producing more stuff. As if the world didn't have too much stuff already.
But the role of government is neither prosperity nor plausibility...but protection of the pests and parasites. They will keep paying them off and carrying them along...until the bus runs off the road.
But it's not prosperity that government really cares about. The big bus keeps trundling along - picking up pests and parasites along the way. It will keep going until it runs off the road.
Until next time,
Bill Bonner
for The Daily Reckoning Australia
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About the Author
Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.
Comment by Zhu, Bajie on 24 August 2009:
The author makes it sound like America and China together makes up the universe. Americans consume way too much, there's absolutely no doubt about that. It is clear that China has a long term plan of replacing this unsustainable market with others. If lending the buyers money to sustain a market worked for decades with America, imagine that formula duplicated, albeit with a more efficient formula with the other 200 nations in the world. Further imagine doing the lending in RMB, instead of US dollars.
That's why buying Chinese stocks is wise today.
Comment by Lachlan on 24 August 2009:
Brilliant Bill!
Comment by John on 25 August 2009:
Bill,
I'm sorry to say, but it sounds like you need to revisit Say's Law again. Economically, there can't be such a thing as "too much stuff". Perhaps too much of one thing combined with a shortage of another, but never "too much" of everything in the aggregate. Henry Hazlitt covered this pretty extensively in his "Failure of New Economics", discrediting Keynes' idea of a "general glut" of supply. Supply creates its own demand. The only thing China is doing wrong is supressing their own currency, which is artificially supressing demand by undermining the purchasing power of the Chinese population.
Comment by Ross on 25 August 2009:
John, the flipside to your pointing of the bone at China is that they can rationally claim that their actions on the 2 key fronts that have kept the Yuan suppressed have been entirely justified. The first is their purchase of UST's. The second and longest running historically is the defence against US merchant bankers and CFR/RAND/AIPAC strategists that would have used funny money USD's to buy up Chinese assets and sew deadly inflation into China and bring down the state. The defensive capital controls were entirely justified and there is no denying that the US walked up to bat on the strategy because it can be measured and the policy implemntations were reactive rather than proactive. Now however it has gone past the point of no return and China can't keep throwing good money after bad into UST's so they are using them before they officially deflate buying up commodities and they are recognising funny money for what it is and always was and buying up foreign assets with their reserves just l;ike the Americans did before them. Here is one report reflecting the change : http://www.nytimes.com/2009/08/22/business/economy/22charts.html?ref=business
Comment by John on 26 August 2009:
Ross, that doesn't make much sense. First, their purchase of USTs has NOT been a wise move, they will lose money on that deal as the dollar loses value (think about it - they lent money to a borrower that can't pay it back). The second point is a bit half-baked, since the Chinese assets would have been more expensive to buy with USDs if the RMB has been stronger vs the dollar. China's supression of the yuan had actually enabled these US groups to purchase MORE Chinese assets, not less, even assuming that the conspiracy is true, which is a big "if". To give you an analogy, you can buy a lot more Chinese stocks today with current USD than you will be able to in the future when the USD loses value.
Comment by Ross on 26 August 2009:
John, I will try to find something on the nature of the Chinese capital controls for you and post it later. It prevented foreign parties from opening their chequebook buying Yuan to bid up Yuan asset prices. UST's fate will likely not prove to be a good end game for everyone globally but the effect still supported the USD and hence US consumer purchasing power allowing for China's rise and it inversely suppressed the RMB. If you track Chinese port figures (incl Hong Kong) from the mid 90's until today you will truly be stunned. If you look too at what they have achieved with infrastructure development and rural reforms you could brand their incremental gains as finally being a real deal version of "the great leap forward".
Comment by Ross on 26 August 2009:
John, go down to section 4 in this which has a good summary of the capital controls. US Fed & RBA current account / debt fueled consumption normalisers and excusers and the off balance sheet hot money factories love to scapegoat China's capital controls but the bottom line is that capital controls no.1 priority is the defence against hot money. Just look what happened in the Asian financial crisis. Just look what happened to Australian equity markets exploded bubble in resource stocks and banks last September. Just look at the rout of the AUD and the climb of the USD until the hot money jocks got back in charge with recharged lqiuidity generated out of the expanded Fed balance sheet. No wonder a Goldman guy came out yesterday "predicting" that the fed could double its balance sheet again to 4 trillion from 2 when it has already expanded from 1 to 2 in the last year.
http://faculty.washington.edu/karyiu/confer/beijing06/papers/xiao-kimball.pdf