Until This Debt is Reduced, Americans Will Be Reluctant to Borrow or Spend

Zero is a perfidious number. Nobody likes it. Nobody wants to be "a zero." Nobody wants to get a zero on a test...or zero returns on his investments. It is a line that leads nowhere...with no substance in the middle of it. You can add a zero...or multiply by zeros; it gets you nowhere. And is a zero? Is it something? Or nothing? No one knows.

Some remarkable news in the history of zeros appeared this week. Mr. Gideon Gono, head of the Reserve Bank of Zimbabwe, suddenly shifted from adding zeros to subtracting them. Within the space of 76 hours, Zimbabwe led the world in two opposite directions. On Monday, with prices rising at 231 million percent per year, Zimbabwe was the world's hyperinflation record holder. On Wednesday, it led the world in deflation...with prices falling 99.999999999% overnight.

Once again, we are profoundly grateful to the nation of Zimbabwe and to its central banker. The latter has turned the former into a marvelous laboratory for bizarre monetary experiments.

The pile-up on the global financial highway has yielded its toe tags and broken mirrors. More than $30 trillion has been lost. Of course, the world's monetary cops have been on the scene for about a year and a half - trying to get the traffic moving again. But just read the paper. Instead of a recovery...every day brings more skid marks and fresh collisions.

A little bit of the old juice from the central bank will cure a typical recession. It is nothing more than a pause in the inventory cycle, allowing businesses to clear their shelves before they are restocked. But this is not an inventory-driven recession; this is a balance-sheet depression. The problem is not really an absence of credit, but an excess of debt. Throughout most of the post-WWII period, private sector debt in the USA, for example, equaled about 80% of GDP. In the '90s and '00s, debt rose to 140% of GDP. The difference is about $6 trillion. Until this debt is reduced, Americans will be reluctant to borrow or spend.

And it is not just the debt itself that must be eliminated. There are too many factories producing too many goods for too many people who can't pay for them. You can see excess capacity in the unemployment lines too. Suddenly, the world seems not to need so many sales clerks, or welders, or financial engineers. The United States alone may have $1 trillion of excess output capacity and 10 million people too many in the workforce.

Debt and excess capacity can be liquidated quickly - as they were in the panics of the 19th century - through bankruptcies and defaults. But, today, liquidation would have to take place over the dead body of U.S. Fed chief, Ben Bernanke. While that would be our preferred method; alas, it's not going to happen.

Another way to eliminate debt and excess capacity is to work your way out of them. Unfortunately, that process takes a long time - especially with the feds keeping zombie firms alive and fighting the correction every step of the way. Japan has been working off its excess capacity for the last 19 years. Property prices in major Japanese cities began going down in 1991. They fell for the next 13 years, bottoming out in 2004, 87% below their peak.

Few policymakers will want to follow the Japanese example - certainly not those of the USA. Americans lack several things the Japanese had...such as patience, a favorable trade balance and a thick cushion of domestic savings. On the other hand they have one thing the Japanese did not have; America can pay its debts in a currency it alone controls. If it chooses, it can resort to a third way to get the traffic moving; it can inflate away the debt.

"We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation," wrote Bernanke. But with $7 trillion in excess in debt and spare capacity, neither business nor labor has any pricing power. Normally, it would take a long time before inflation returns.

Mr. Gono's experiment, however, proves that if a government is determined enough...it can always destroy its own currency. Only a few weeks ago, Zimbabwe produced a monetary freak - the world's first one trillion dollar note. Then, it had a value of about 26 euros. Now, you can use it to buy a cup of coffee in Harare - provided you also have $3 US. On Wednesday of last week, banks were supposed to begin distributing the new currency - in which all 12 zeros on the trillion-dollar note have been lopped off.

The architect of this monetary madness was recently asked his views:

"I sit back and see the world today crying over the recent credit crunch, becoming hysterical about something which has not even lasted for a year, and I have been living with it for 10 years....I had to find myself printing money. I found myself doing extraordinary things that aren't in the textbooks. Then the IMF asked the US to please print money. I began to see the whole world now in a mode of practicing what they have been saying I should not."

Mr. Gono added so many zeros to the national currency, he practically gave inflation a bad name. But now it is inflation that people want - desperately.

And day by day, the world glances over Mr. Gono's shoulder. First curious...then appalled...and finally, admiringly.

We will do "whatever it takes," says new US Treasury Secretary Tim Geithner.

Here come the zeros.

Bill Bonner
for The Daily Reckoning Australia

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