- Here’s a short piece about “The Panic of 1873"
From the issue dated October 17, 2008 The Real Great Depression
The depression of 1929 is the wrong model for the current economic crisis
By SCOTT REYNOLDS NELSON
Posted on 12/17/2008 11:32:28 PM PST by iowamark
What’s the worst that could happen?
That’s a question that James Rickards spends a lot of time pondering these days, as he sifts through the national security implications of the financial crisis facing the United States.
Rickards will lay out his worst case scenarios in a lecture sponsored by the Navy and the Office of the Secretary of Defense for Policy tonight. And his forecasts aren’t for the faint of heart.
Rickards calls it the “A to Z” problem: What are the threats that could make the U.S. economy look less like America and more like Zimbabwe? He sees them everywhere – in the Chinese ownership of vast amounts of American debt, in Russia’s increased centralization of its economy, in Al Qaeda’s long-established fascination with damaging the U.S. economy.
In many ways, Rickards is the ultimate bear. He’s not just thinking about whether the stock market will decline, but whether or not the stock market will survive.
All that puts Rickards decidedly outside mainstream economic and political thinking in America. But he does have an influential audience: the United States intelligence and defense communities.
Rickards is a regular adviser on financial issues to the director of national intelligence's office, and he lends his financial advice to the national security community.
His lecture comes as part of an annual “Rethinking Seminar” produced by the Johns Hopkins University Applied Physics Laboratory. Rickards argues that government is not doing nearly enough to prepare for the worst. “Here’s the policy problem for the United States,” he said in an interview. “We have experts in defense and intelligence, and huge depth in capital markets experience at the Fed and at Treasury. But they’re separated by the Potomac River. And they’re not talking to each other.”
Rickards came by his economic experience the hard way. He was the general counsel at Long Term Capital Management, the hedge fund that collapsed in spectacular fashion in the late 1990s and nearly took the global economy along with it. That near-economic death experience gave him a healthy appreciation for risk. Today, he’s the senior managing director for research at Omnis, an applied research firm.
Four of the scenarios keep him up at night:
The Bait Effect
Terrorists, and al Qaeda in particular, are fascinated with the idea of destroying the U.S. economy. Rickards worries that the economic meltdown in the United States could serve as bait of sorts for a terrorist attack, as plotters calculate that a strike now could have a “force multiplier” effect because of the already skittish U.S. stock market.
The China Syndrome
The Chinese own more than $500 billion worth of U.S. Treasury bonds, and billons more in the debt of other U.S. entities such as those held by Freddie Mac and Fannie Mae. And a general sense of mutually assured financial destruction keeps them from wielding that debt like a weapon: if the Chinese dumped U.S. debt on the global market, their own holdings of U.S. debt would decline in value, the U.S. economy would be damaged, ultimately harming the Chinese economy by reducing American ability to buy more Chinese goods.
They’d have to be crazy to try it. But Rickards points out that governments don’t always do the rational thing. And in the meantime, their holdings give the Chinese incredible power over American decision making.
“It gives the Chinese de facto veto power over certain U.S. interest rate and exchange rate decisions,” Rickards explained. “For example, there’s a limit to how much dollar depreciation the Chinese would tolerate.”
That potentially closes off one American economic strategy: allowing the dollar to decline in value in order to help boost U.S. exporters. And China’s leverage is only growing as each federal bailout adds to the U.S. deficit.
The Existential Crash
A pessimist by nature, Rickards believes that many economic forecasters are wrong, and the recession will get far worse than predicted.
He sees an epic disaster scenario in which the U.S. gross domestic product declines by a staggering 35 percent over the next six to seven years. Crippling deflation could take hold. Unemployment, he says, could approach 15 percent.
That’s a calamitous rate, but it would not be an all-time high: unemployment hit 25 percent during the Great Depression.
“The national security community needs to be conversant with this,” Rickards said. “In defense, intelligence, and national security, you earn your money by preparing for things that may be remote, but pose an existential threat if they come to pass.”
In this scenario, the possibilities for global unrest increase dramatically as a staggering United States retreats from foreign aid and global diplomacy and the list of dangerous failed states grows sharply.
The Alternate-Dollar Nightmare
“The Number One vulnerability is the dollar itself,” Rickards concluded. “We’re printing them and shoving them out the door, and the Fed is basically out of bullets. So why hasn’t the dollar collapsed? The short answer is, global investors don’t have any other choice.” That is, there simply aren’t enough Euro- or Yen-backed securities for investors to shift their money out of dollars and into some other currency.
But what if some kind of global coalition – say a trillion-dollar sovereign wealth fund allied with several countries around the world – banded together to create a gold-backed alternative to the dollar?
Rickards says investors – many of whom already resent that they have no alternative to the dollar – would sell American currency in huge numbers to take advantage of the new opportunity. “If that happens, that’s the end of the dollar,” Rickards said. “You’d have high unemployment, deflation, and interest rates would go up. It would take what already looks like a strong recession and make it a Great Depression or worse.”
Still, even Rickards sees a silver lining to all this. He looks around the world to the problems facing other countries such as Russia, China, Iran, and those in the Middle East.
“There are vulnerabilities for the United States, but also opportunities,” he said. “I’d rather be the United States than any of these other countries.”
If we were to threaten to apply a tarriff to Chinese import, they can threaten to dump their bonds and the tarriff goes away.
If we complain about Chinese economic moves in Africa, they can threaten to dump their bonds and the complaints are silenced.
If China decides to invade Taiwan, they threaten to dump our bonds and suddenly we can't get the Navy there in time to do anything.
From the issue dated October 17, 2008 The Real Great Depression
The depression of 1929 is the wrong model for the current economic crisis
By SCOTT REYNOLDS NELSON
The current panic suggests a further shift — from the United States to China and India. Beyond that I would not hazard a guess. I still have microfilm to read.
Thanks - interesting stuff.
I don’t give a fat rat’s ass whether we like it here on FR.
The fact is that it passed the US Senate by a vote of 99-zip and Bush signed it into law. It passed the House by an overwhelming margin. This was in 2002, when the GOP was running the show, remember?
SarbOx is now the law of the land. One of the requirements of SarbOx is that a CEO/CFO of any public corporate certify their earnings under penalty of criminal charges. There’s a whole host of bankers on WallSt who knew their business models were going to blow up as soon as the short term money got tight or the curve seriously inverted. There’s plenty of charges that can be brought against these clowns... and the SEC has done nothing. Since SarbOx was passed, Bush’s two feckless idiots in charge of the SEC have allowed banks to more than double down on a bogus business model as well as peddle landmines to everyone as if they were as safe as US Treasuries.
And no one has been charged, despite there being abundant evidence that there was a priori knowledge that they were lying to investors.
Bump!
ping
Thanks for posting that.
For people looking for a common thread between 2008, 1873 and 1932, it comes down to this: over-production and false (ie, debt-supported) consumption.
We have a surplus of productive capacity in the world in all three instances. In 1873, the over-production was in steel and ag commodities. In 1932, it was again ag commodities and now manufactured goods. In 2008, it is homes (in the US, UK and other places), autos, and financial products. Ag commodities are sitting this one out.
In all three cases, the root of the problem was over-production supported by increasing leverage/debt. At some point, there’s a failure in the debt market and suddenly bankers get real conservative in a fat hurry, and the tower of debt collapses in upon itself.
Irving Fisher wrote a great little paper about this in 1935:
http://fraser.stlouisfed.org/docs/meltzer/fisdeb33.pdf
When you read through it, you find yourself saying “Yup... yup, seen that... yea, we got that... uh huh, right...”
We’re plodding down the same road as in 1873 and 1932. So far, the only difference is that this time, the Fed is pulling out the stops to re-inflate.
The theory now being tested is this: does a re-inflation merely postpone the inevitable, or can re-inflation plus policy changes in banking result in a non-crash period of sub-potential growth?
The Japanese experience of the 90’s argues for a “lost decade.”
So far, Bernanke is following the BOJ playbook pretty closely.
The central problem, IMO, is a loss of confidence by the consumer and investor. None of these regulatory actions will re-establish trust in our banks and markets. The mob wants blood, and invariably the monied men get away scot-free.
If the government wants to re-establish trust, they they have to start bringing charges against these clowns on Wall Street who knew their business models were bogus and were going to fail.
But...but...but...0buma’s gonna fix it, right?
“My one concern is that this economic tailspin will be used as a way to introduce a one world currency.”
Hmmmm....
“Euro”....
“Amero”...
and finally,
“Worldo”?????
- John
The zombie banks were kept alive, and the zombie bankers kept their political connections and influence. That seems to be the only real goal of current Fed/Treasury strategy - they would happily settle for a Japan-style "lost decade" at this point.
Somebody in the media should start loudly asking Obama when the SarbOx prosecutions are going to begin - it will lead to some very uncomfortable conversations between the Messiah and his masters behind the scenes. ;)
I agree, but Mugabe never started out Good.
There is no limit to the evil emitting from those who recognize no higher power than themselves, no matter what they call themselves. A brief visit to countries controlled by them in the 20th century will dumbfound anyone who takes a serious glance.
The worst atrocities in the past century have all been from Commies (either open or closet commies).
The only Good Commie is a Dead Commie.
The older I get the more John Bircher I become. You might have a similar problem
Mugabe started off good same as Madoff. Blame corruption
http://en.wikipedia.org/wiki/Robert_Mugabe
I have never been a Bircher, however I have known a lot of them. When I was a Republican County Chairman in the Western Part of NM, they were part of the “always faithful” Republicans.
They had their heart in the right place, but sometimes there brains were elsewhere.
No one ever questioned their Patriotism.
This will be the eternal problem
Too many willing workers plus China can always produce it cheaper if we don't
Asia ensures a world awash in too much productive capacity.....The rest is commentary ......
Such as how are the "redundant" supported. All industrialized nations nave been postponing this day of reckoning. And in their confusion they import Muslims, Aztecs and Mayans thinking they will prop up Social Security but the truth is we are supporting them and their children. Same as in South Africa the founders will be become the host for the parasitic new comers.
Personally..... I would disperse people to the countryside (their services are no longer needed) to hoe cabbages shovel manure and supply food to the higher IQ people who are productive in science and technology
“So why was only mccain bashed when Bush was just as bad if not worse?”
Because McCain would stab conservatives in the bank to the press, on the floor of Congress... pretty much anywhere he could. Immigration, campaign finance, etc.
Now he’s slagging Palin as he kisses up to the NY/DC media to regain his standing as the go-to guy for the media to bash conservatives again.
Try “Zero”!
>If the government wants to re-establish trust, they they have to start bringing charges against these clowns on Wall Street who knew their business models were bogus and were going to fail.<
That would entail having faith in the legal system, which I don’t. I think I read somewhere on FR that you belong to the Church of what is, not the what if.
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