Category: Ponzi Finance

Countries caught in the grip of financial crisis, with austerity measures compounding their problems, are continually being told to follow Iceland’s example. The assumption is that if a state can disregard the claims of the banking sector, it can address the threat of financial crisis relatively painlessly and get back to ‘normal’ quite quickly. Iceland is held up as an example, but the situation is actually far more complex. As such, it is worth exploring the situation in Iceland in all its complexity. It is an example in some sense, but not necessarily in ways which are transferable. It does, however, illustrate a number of lessons for post-bubble economies, and there will be many of those over the next few years. Continue reading “Ragnarok – Iceland and the ‘Doom of the Gods’”

Unknown Detroit, Corner of Michigan and Griswold 1920

On July 18th, the city of Detroit filed for Chapter 9 municipal bankruptcy, the largest such filing in US history. After kicking the can down the road, with increasing desperation, for many years, then end of the line has been reached. The city is finally admitting that far too many financial promises have been made, and that the majority of these simply cannot be kept. It does not matter whether the promise-holders have a good case for receiving services or needing payments, or whether those promises are legally protected. Promises that cannot be kept will not be kept. It is as simple as that. To complicate matters, however, the architecture of the financial system prioritises promises, in a perhaps counter-intuitive, and certainly self-serving, manner. This will make the task of allocating extremely scarce resources to stakeholders lower down the financial food chain very much more difficult. It is time for a good look at the range of promises made, the competing needs of the recipients, the leverage enjoyed by powerful players in shoring up their own position, and the real world implications for municipalities far beyond Detroit. Continue reading “Promises, Promises … Detroit, Pensions, Bondholders And Super-Priority Derivatives”

This is the 1000th post at The Automatic Earth, so it seems appropriate to review our message and update our projections – to look back and then look forward. Since the beginning of TAE in January 2008, and before that at The Oil Drum Canada, our purpose has consistently been to warn people that a decades-long credit expansion is ending, and that, as a consequence, we are in the grip of a very serious financial crisis.

The first leg down (October 2007- March 2009) was just a foretaste of what credit crunch really means, and the long sucker rally has been enough to put people back to sleep again, secure in the mistaken belief that supposedly omnipotent central bankers could postpone any kind of reckoning indefinitely.

Financial bubbles are not a new phenomenon, but are in fact quite common in the historical record. Every few decades, a new generation rediscovers the magic of leverage, igniting a rapid expansion of credit, and therefore debt. Every time humanity experiences a bubble, it fails to recognise the pattern.

The lessons of the past are sadly never learned. Each time the optimism is highly contagious. In the larger episodes, it crescendos into euphoria, leading societies into a period of collective madness where risk is embraced and caution is thrown to the wind. Sky-high valuations are readily rationalised – it’s different here, it’s different this time.

We come to believe that just this once there might be a free lunch, that we can have something for nothing. We throw ourselves into ponzi finance, chasing the mirage of speculative gains, often through highly questionable and outright fraudulent practices. Enron, Lehman Brothers, and recently MF Global, are but a few egregious examples of what has become an endemic phenomenon.

The increasing focus on chasing speculative profits parasitizes the real economy to a greater and greater extent over time. After all, why work hard for small profits in the real world, when profits on money chasing its own tail are so much greater for so little effort?

Who even notices the hollowing out of the real economy, or the conversion of large amounts of capital into waste, or the often pointless depletion of non-renewable resources, or the growing structural dependency trap, when there is so much short term material prosperity to pursue? Continue reading “Look Back, Look Forward and Look Down. Way Down”

Some time ago, Gonzalo Lira wrote a couple of interesting pieces on hyperinflation, and I promised to respond to them. This has taken me a while, as there is much material to go through, many arguments to pick apart, areas of agreement and disagreement, differences in definitions and matters of timing. The first article, How Hyperinflation Will Happen, is a long, thoughtful and detailed piece that I found interesting. There are many aspects I fundamentally disagree with, however, some for reasons of substance and others for reasons of timing.

Essentially the central proposition is that the US dollar is in danger of imminent demise due to a widespread loss of confidence, and that treasuries will be dumped en masse within a year, leading to hyperinflation, by which Mr Lira means price spikes. I do not see a loss of confidence in the dollar going forward, at least not soon. We have seen a long slide in the value of the dollar coincident with the rally in stocks. This is a reflection of a resurgence of confidence in being invested rather than being liquid, but this confidence is fragile and subject to rapid reversal. Continue reading “Debunking Gonzalo Lira and Hyperinflation”

“Beautiful credit! The foundation of modern society. Who shall say this is not the age of mutual trust, of unlimited reliance on human promises? That is a peculiar condition of modern society which enables a whole country to instantly recognize point and meaning to the familiar newspaper anecdote, which puts into the speculator in lands and mines this remark: “I wasn’t worth a cent two years ago, and now I owe two million dollars.”

Mark Twain (1873), The Gilded Age: A Tale of Today

I wanted to put our current predicament into historical context, and to demonstrate that the situation we find ourselves in is not novel. It differs quantitatively, but not qualitatively, from what has gone before – many times before in fact. Great cycles of expansion and contraction are part of the human condition, and there are patterns of boom and bust that continually repeat themselves, as they are thoroughly grounded in human nature.

Collective human optimism and pessimism are extremely powerful drivers, acting over very long time scales. They are powerful enough to drive tremendous cycles of socioeconomic expansion and contraction. As population grows and optimism increases during a long expansion phase, pressure emerges that can only be relieved by increasing the elasticity of the money supply, often in spite of existing rules intended to prevent this very dynamic in the name of maintaining sound money.

As a historical generalisation, it can be said that every time the authorities stabilise or control some quantity of money M, either in absolute or volume or growing along a predetermined trend line, in moments of euphoria, more will be produced.

Or if the definition of money is fixed in terms of particular liquid assets, and the euphoria happens to ‘monetise’ credit in new ways that are excluded from the definition, the amount of money defined in the old way will not grow, but its velocity will increase [..]

….My contention is the the process is endless: fix any M(i) and the market will create new forms of money in periods of boom to get around the limit and create the necessity to create a new variable M(j).

Charles Kindleberger, Manias, Panics and Crashes

There have been many examples of this process throughout history and it is instructive to look at such periods. For instance, the medieval expansion of the eleventh and twelfth centuries had very much this character. Continue reading “The Infinite Elasticity of Credit”

There’s an interesting interview at The Energy Report with John Williams of Shadow Stats ( John Williams: Times That Try Our Souls ), which I wanted to discuss because, while there are many aspects are we would agree with, there are other glaring differences with how The Automatic Earth sees the future unfold. It is worth looking at the article in some depth in order to find the source of the disparities.

Mr Williams’ prediction is hyperinflation, although, like us, he is predicting a great depression. One major distinction between TAE’s view and that of many inflationists is the definition of inflation. It is clear from the interview that Mr. Williams’ definition is increasing prices. Readers of The Automatic Earth will know that our definition is a monetary one – an increase in the supply of money, credit and velocity thereof relative to available goods and services. We have consistently pointed out that using a price definition of inflation removes all the explanatory and predictive value from the concept. Prices changes are lagging indicators of changes in the money supply, complicated by other factors, both globally and locally. For instance, global wage arbitrage has been a major factor driving prices down in recent years, despite a tremendous credit expansion. Continue reading “Nicole Foss takes on John Williams: Deflation it is”

The Automatic Earth has been predicting a devastating deflationary period for as long as we’ve been in existence, and prior to that we did so at The Oil Drum Canada. We have always and consistently said that worrying about inflation in the next few years is completely misguided.

The debt deflation that is already underway will be so destructive to our lives and societies that we must be aware of what is coming in the short term and what we can do to prepare for it, instead of worrying about a possible inflationary period that may or may not follow afterwards. Continue reading “Deflation Revisited (The Studio Version)”

A recent article by Gary North, entitled Pushing on a String, has ignited another round in the inflation/deflation debate. My first impression on reading it is that it is distastefully egotistical, dismissive of a position that is obviously not understood, and very likely to cause confusion due to the misuse of terms. Rarely do I find the writing of others grating on a personal level, even if I disagree with their position, but in this instance I would have to describe both the initial article and Mr North’s response to analyst and web writer Mike (Mish) Shedlock’s very valid criticism of it as pompous and ill-informed. Continue reading “The Unbearable Mightiness of Deflation”