Taking Stock of Our Trading Times

Taking Stock
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'May you live in interesting times'. The purported Chinese curse which is not Chinese at all and can be cited no further back than 1950 to British science fiction author Eric Frank Russell, is a perfect distillation of the past two years.



Interesting times, historic events. Lehman, Bear Stearns and Merrill, Bank of America, TARP and the 2008 election will be analyzed and written about for decades. The fears of Ben Bernanke, and Hank Paulson as markets collapsed and the end of the world financial system seemed a matter of hours will be told and retold to generations on Wall Street. But surprisingly these dramatic events have not left traders, bankers, regulators and politicians with a true sense of the vulnerability of the global financial structure and the revolution which has taken place.

Simply because the world did not end in 2008 it will continue just as it was before, seems to be the operating opinion in finance and government. We have a sense of returning normality not of danger, of continuation for our financial system and methods not of their end. The sharp break that actually took place a little more than a year ago has been concealed by the restoration of economic growth in most countries and the survival of almost all pre-crisis institutions.

But has the world resumed its pre-crash ways and can the developed nations look forward to a restoration of normal economic and political life?

If the West has lost both the ability to finance its own expenses, which Europe and the United States it certainly have, and also the resolution to recoup its budgetary position or to ensure fast enough economic growth to accomplish the same, the retention of past attitudes and expectations for economic expansion and consumption are just so many left over mental habits.

The financial crisis was the cataclysm that revealed the unstable foundation of the modern Western economy. Nations cannot fund a burgeoning welfare state on the back of permanently loose credit. No matter how tame inflation appears to be, the result is always a bubble market and then collapse. Cheap money does not foster economic growth. Consumption without the requisite economic expansion to pay for it is a dead end, as is a state that rewards non-productive activity over work as social policy.

But before we write the end of Western economic dominance let us look at where the United States and Europe are at this moment.

It has been almost three years since the sub prime housing crisis in the United States and its ramifications catapulted the world into the longest economic crisis in three generations. We have, thus far, escaped the worst that was thought to be imminent in fall of 2008. The global financial system did not fail; unemployment in most of the developed world while severe is nowhere near the levels of the 1930s. The destruction of GDP has been minimal compared to the Depression and even equities have fared much better than in the fall that followed upon October 1929, when the Dow lost 90 percent of its pre crash value and did not return to the level of the Roaring Twenties for twenty five years.

For the spendthrift US and European governments either solution to their deficit and debt problems will damage what potential for economic growth is left. The more debt governments amass the greater the chance for a high interest rate future as investors demand heightened return before taking on government debt. And if a government cuts benefits and spending enough to dent the deficit, the crash in government expenditures will deepen and prolong the recession. There are no good fiscal and economic choices.

In Europe and the United States growth has resumed but with little indication that it will be sufficient to reduce the huge burden of unemployment on consumption and economic growth. World trade will not provide the engine for economic progress. Exporting nations cannot improve their domestic economy by sending goods overseas if there are few buyers and if export expansion is the goal of all nations at the same time. The Obama administration's stated idea of improving US exports enough to bolster the American manufacturing sector is optimistic and naïve because it assumes foreign buyers where there are none.

The European conception of austerity for Greece, but not for Spain, Italy and Portugal is a pleasant fiction. If Greece receives assistance, if German workers who can retire only at 65 are forced to subsidize Greek workers who can retire at 58 then the entire European democratic social construct is bankrupt. The European economies do not generate enough cash to support their own social payments. The choices are stark, cut social spending and reveal to the population that there are few jobs and little chance for economic improvement, or permit sovereign bankruptcy and endure the financial and social chaos that will follow. The prescribed austerity will inflict a damaging recession on Greece and any other country that is forced to accept a bailout from the EMU. In a trading bloc like the EMU austerity for some must damage growth for all.

American economic growth in the fourth quarter, revised to 5.9% is far more fragile than apparent. More than half the quarter's expansion was generated by restocking of business inventory. Real final sales, the actual expansion of consumer spending grew by only 1.7% in the fourth quarter. New home sales and existing home sales have plummeted. Government support for the housing market in the form of a tax credit for home buyers only succeeded in pulling future home sales forward, not creating economic activity. Jobless claims have climbed since January and consumer confidence in February was at the lowest point in 30 years barring the extreme lows in the fall of 2008 and the following spring.

Europe or the United States no longer have self-sustaining economies. This has been true for a number of years as borrowing has risen faster than economic growth and therehas been no political will or consensus to curb spending. But it took the financial crisis to reveal the extent of the Western economic rot.