The Five Stages of Collapse

1.
Hello, everyone! The talk you are about to hear is the result of a lengthy process on my part. My specialty is in thinking about and, unfortunately, predicting collapse. My method is based on comparison: I watched the Soviet Union collapse, and, since I am also familiar with the details of the situation in the United States, I can make comparisons between these two failed superpowers.

I was born and grew up in Russia, and I traveled back to Russia repeatedly between the late 80s and mid-90s. This allowed me to gain a solid understanding of the dynamics of the collapse process as it unfolded there. By the mid-90s it was quite clear to me that the US was headed in the same general direction. But I couldn't yet tell how long the process would take, so I sat back and watched.

I am an engineer, and so I naturally tended to look for physical explanations for this process, as opposed to economic, political, or cultural ones. It turns out that one could come up with a very good explanation for the Soviet collapse by following energy flows. What happened in the late 80s is that Russian oil production hit an all-time peak. This coincided with new oil provinces coming on stream in the West - the North Sea in the UK and Norway, and Prudhoe Bay in Alaska - and this suddenly made oil very cheap on the world markets. Soviet revenues plummeted, but their appetite for imported goods remained unchanged, and so they sank deeper and deeper into debt. What doomed them in the end was not even so much the level of debt, but their inability to take on further debt even faster. Once international lenders balked at making further loans, it was game over.

What is happening to the United States now is broadly similar, with certain polarities reversed. The US is an oil importer, burning up 25% of the world's production, and importing over two-thirds of that. Back in mid-90s, when I first started trying to guess the timing of the US collapse, the arrival of the global peak in oil production was scheduled for around the turn of the century. It turned out that the estimate was off by almost a decade, but that is actually fairly accurate as far as such big predictions go. So here it is the high price of oil that is putting the brakes on further debt expansion. As higher oil prices trigger a recession, the economy starts shrinking, and a shrinking economy cannot sustain an ever-expanding level of debt. At some point the ability to finance oil imports will be lost, and that will be the tipping point, after which nothing will ever be the same.

This is not to say that I am a believer in some sort of energy determinism. If the US were to cut its energy consumption by an order of magnitude, it would still be consuming a staggeringly huge amount, but an energy crisis would be averted. But then this country, as we are used to thinking of it, would no longer exist. Oil is what powers this economy. In turn, it is this oil-based economy that makes it possible to maintain and expand an extravagant level of debt. So, a drastic cut in oil consumption would cause a financial collapse (as opposed to the other way around). A few more stages of collapse would follow, which we will discuss next. So, you could see this outlandish appetite for imported oil as a cultural failing, but it is not one that can be undone without causing a great deal of damage. If you like, you can call it "ontological determinism": it has to be what it is, until it is no more.

I don't mean to imply that every part of the country will suddenly undergo a spontaneous existence failure, reverting to an uninhabited wilderness. I agree with John-Michael Greer that the myth of the Apocalypse is not the least bit helpful in coming to terms with the situation. The Soviet experience is very helpful here, because it shows us not only that life goes on, but exactly how it goes on. But I am quite certain that no amount of cultural transformation will help us save various key aspects of this culture: car society, suburban living, big box stores, corporate-run government, global empire, or runaway finance.

On the other hand, I am quite convinced that nothing short of a profound cultural transformation will allow any significant number of us to keep roofs over our heads, and food on our tables. I also believe that the sooner we start letting go of our maladaptive cultural baggage, the more of a chance we will stand. A few years ago, my attitude was to just keep watching events unfold, and keep this collapse thing as some sort of macabre hobby. But the course of events is certainly speeding up, and now my feeling is that the worst we can do is pretend that everything will be fine and simply run out the clock on our current living arrangement, with nothing to replace it once it all starts shutting down.

Now, getting back to my own personal progress in working through these questions, in 2005 I wrote an article called "Post-Soviet Lessons for a Post-American Century". Initially, I wanted to publish it on a web site run by Dale Alan Pfeiffer, but, to my surprise, it ended up on From The Wilderness, a much more popular site run by Michael Ruppert, and, to my further astonishment, Mike even paid me for it.

And ever since then, I've been asked the same question, repeatedly: "When? When is the collapse going to occur?" Being a little bit clever, I always decline to give a specific answer, because, you see, as soon as you get one specific prediction wrong, there goes your entire reputation. One reasonable way of thinking about the timing is to say that collapse can occur at different times for different people. You may never quite know that collapse has happened, but you will know that it has happened to you personally, or to your family, or to your town. The big picture may not come together until much later, thanks to the efforts of historians. Individually, we may never know what hit us, and, as a group, we may never agree on any one answer. Look at the collapse of the USSR: some people are still arguing over why exactly it happened.

But sometimes the picture is clearer than we would like. In January of 2008, I published an article on "The Five Stages of Collapse," in which I defined the five stages, and then bravely stated that we are in the midst of a financial collapse. And ten months later it doesn't seem that I went too far out on a limb this time. If the US government has to lend banks over 200 billion dollars a day just to keep the whole system from imploding, then the term "crisis" probably doesn't do justice to the situation. To keep this game going, the US government has to be able to sell the debt it is taking on, and what do you think the chances are that the world at large will be snapping up trillions of dollars of new debt, knowing that it is being used to prop up a shrinking economy? And if the debt can't be sold, then it has to be monetized, by printing money. And that will trigger hyperinflation. So, let's not quibble, and let us call what's happening what it looks like: "financial collapse".

2.
So here are the five stages as I defined them almost a year ago. The little check-mark next to "financial collapse" is there to remind us that we are not here to quibble or equivocate, because Stage 1 is pretty far along. Stages 2 and 3 - commercial and political collapse, are driven by financial collapse, and will overlap each other. Right now, it is unclear which one is farther along. On the one hand, there are signs that global shipping is grinding to a halt, and that big box retailers are in for a very bad time, with many stores likely to close following a disastrous Christmas season. On the other hand, states are already experiencing massive budget shortfalls, laying off state workers, cutting back on programs, and are starting to beg the federal government for bail-out money.

Even though the various stages of collapse drive each other in a variety of ways, I think that it makes sense to keep them apart conceptually. This is because their effects on our daily life are quite different. Whatever constructive ways we may find of dodging these effects are also going to be different. Lastly, some stages of collapse seem unavoidable, while others may be avoided if we put up enough of a fight.

Financial collapse seems to be particularly painful if you happen to have a lot of money. On the other hand, I run across people all the time, who feel that "Nothing's happened yet." These are mostly younger, relatively successful people, who have little or no savings, and still have good paying jobs, or unemployment insurance that hasn't run out yet. Their daily lives aren't much affected by the turmoil on the financial markets, and they don't believe that anything different is happening beyond the usual economic ups and downs.

Commercial collapse is much more obvious, and observing it doesn't entail opening envelopes and examining columns of figures. It is painful to most people, and life-threatening to some. When store shelves are stripped bare of necessities and remain that way for weeks at a time, panic sets in. In most places, this requires some sort of emergency response, to make sure that people are not deprived of food, shelter, medicine, and that some measure of security and public order is maintained. People who know what's coming can prepare to sit out the worst of it.

Political collapse is more painful yet, because it is directly life-threatening to many people. The breakdown of public order would be particularly dangerous in the US, because of the large number of social problems that have been swept under the carpet over the years. Americans, more than most other people, need to be defended from each other at all times. I think that I would prefer martial law over complete and utter mayhem and lawlessness, though I admit that both are very poor choices.

Social and cultural collapse seem to have already occurred in many parts of the country to a large extent. What social activity remains seems to be anchored to transitory activities like work, shopping, and sports. Religion is perhaps the largest exception, and many communities are organized around churches. But in places where society and culture remain intact, I believe that social and cultural collapse is avoidable, and that this is where we must really dig in our heels. Also, I think it is very important that we learn to see our surroundings for what they have become. In many places, it feels as if there just isn't that much left that's worth trying to save. If all the culture we see is commercial culture, and all the society we see is consumer society, then the best we can do is walk away from it, and look for other people who are ready to do the same.

3.
There is nothing particularly deep or magical about the five stages I chose, except that they seem convenient. They correspond to the commonly distinguished aspects of everyday reality. Each stage of collapse also corresponds to a certain set of beliefs in the status quo, that is about to go by the wayside.

It is always an impressive thing to observe when reality shifts. One moment, a certain idea is seen as preposterous, and the next moment it's being treated as conventional wisdom. There seems to be a psychological mechanism involved, where nobody wants to be seen as the last fool to finally get the picture. Everybody starts pretending that they've thought that way all along, or at least for a little while, for fear of appearing foolish. It is always awkward to ask people what caused them to suddenly change their minds, because with the fear of looking foolish comes a certain loss of dignity.

The most compelling example of lots of minds suddenly going "snap" is, to my mind, the sudden demise of the USSR. It happened with Boris Yeltsin standing atop a tank, and being asked the question: "But what will become of the Soviet Union?" And his answer, pronounced with maximum gravitas was: "Henceforth I shall only refer to it as the FORMER Soviet Union." And that was that. After that, whoever still believed in the Soviet Union appeared as not just foolish, but actually crazy. For a while, there were a lot of crazy old people parading around with portraits of Lenin and Stalin. Their minds were too old to go "snap".

Here in the US, we are yet to experience any of the really major, earth-shattering realizations, the ones that look preposterous immediately before and completely obvious immediately after they occur. We have had minor tremors, mostly relating to financial assumptions. Is real estate a good investment. Will private retirement allow you to retire? Will the government bail us all out? All the major realizations are yet to come, or, as my die-hard Yuppie friends keep telling me, "Nothing's happened yet."

But by the time something does happen, it will have been too late for us to start planning for it happening. It doesn't seem all that worthwhile for us to sit around waiting for the happy event of everybody else feeling foolish all at the same time. Arrogant though that may seem, we may be better off accepting their foolishness before they do, and keeping a safe distance ahead of the prevailing opinion.

Because if we do that, we may yet succeed in finding ways to cope. We may learn to dodge financial collapse by learning to live without needing much money. We may create alternative living arrangements and informal production and distribution networks for all the necessities before commercial collapse occurs. We may organize into self-governing communities that can provide for their own security during political collapse. And all of these steps put together may put us in a position to safeguard society and culture.

Or we can just wait until everyone starts agreeing with us, because we wouldn't want them to look foolish.

4.
The important dynamic, when it comes to financial collapse, is obvious by now. It's the collapse of credit pyramids, "the whole house of cards" as President Bush put it. The technical term is "deleveraging," and the response is the bailout. The federal government will be bailing out the banks and the insurance companies, the auto companies, and state governments. Call it the bail-out treadmill: we are borrowing faster and faster just to keep from falling down. The treadmill is actually a good metaphor. Imagine what would happen if you went to a gym, got on a treadmill machine, and just kept punching up the speed, as high as it will go. What happens is you trip and fall, and find yourself flying backwards.

It is instructive to ask the question, Who are we borrowing this bail-out money from? People will tell you that we are borrowing it from "the taxpayer." But it's not as if federal tax receipts have automatically shot up by a few trillion over the past couple of months, and so this begs the question, Who is "the taxpayer" going to borrow this money from in the meantime? From other Americans? No, because our savings rate has been abysmally low for quite some time now, and what little we have saved is in housing equity, which is dwindling, and in stocks and bonds, through mutual funds and 401ks and such, which are down by a third or so. The value of these investments is crashing, and if we dumped these investments to raise the cash to fund this new debt, that would just make them crash even faster. In effect, we'd only be moving money from one pocket to another. So, really, the bailouts have to be financed by foreigners. And what if these foreigners decide not to trust us with any more of their savings? Then our only recourse is to "monetize" the debt: to print money.

And so the next question is, how much money would we have to print? The purpose of the bailouts is to provide liquidity to insolvent companies, to avoid deleveraging. To understand what that means, we have to understand that for every actual dollar within the economy, in the sense of it not being borrowed, there are over 13 dollars of borrowed money, which only exists while the debt can be rolled over. If our credit is maxed out while the economy is growing, that's bad enough, but the US economy is shrinking because of the recent oil shock. A smaller economy cannot carry as much debt, and this is part of the reason why we have deleveraging. Once the process of debt going sour gets started, it is hard to stop, and if deleveraging were to run its course, we would be down over 1300%. To monetize that much debt would require over 1300% inflation. And once that gets started, it becomes very hard to stop.

And, that, believe it or not, is actually the good news. Because most of our debt is denominated in our own currency - the US dollar - the US will not have to declare sovereign default, like Russia was forced to do in the 1990s. Instead, we can inflate our way out of national bankruptcy, by printing a lot of dollars. We will repay our national debt, but we will do so in worthless paper money, bankrupting our international creditors in the process. There is sure to be plenty of pain for everyone, especially everyone who is used to having plenty of money, because their money will no longer make the world go around. Once the US has to start earning foreign currency in order to pay for imports, you can be sure that imports will become quite scarce.

5.
Here are before and after snapshots of the most salient characteristics of financial collapse, as they will affect the vast majority of the population. Here, I am assuming that commercial and political collapse are slower in arriving, and that government is still there to step in with emergency aid of various sorts, and that a market economy of some sort continues to function. It could come down to everyone walking around with their little food stamps debit cards, and the only place they can use them that's within walking distance is McDonalds, but I am assuming some semi-stable period during which other adjustments can occur before other stages run their course.

The adjustments would have to do with major aspects of the living arrangement, from where we live to how we grow food to how we relate to each other. With money scarce and not particularly potent, other ways of winning the cooperation of others would need to be evolved in a hurry. The financial realm can be seen as a complex system of fences: your bank account is fenced off from my bank account. This arrangement allows you and me to not worry too much about each other, provided each of us has enough to live on. Though this is largely a fiction, we can fancy ourselves to be independent economic players on a level playing field. But once these conceptual fences become irrelevant, because there is nothing behind them, we become each others' burden, in an immediate sort of way, that would come as a shock to most people. The indignity of such physical interdependence would be psychologically devastating to many people, raising the human toll from financial collapse beyond what you'd expect from a problem that really only exists on paper. This is going to be particularly hard for a nation brought up on the myth of rugged individualism.

6.
Commercial collapse, when it arrives, will again cause much more of a psychological crack-up than you'd expect from a purely organizational problem. The quantities of immediately available goods and services right before and right after the collapse would remain about the same, but because market psychology is so ingrained in the population, no other ways of coping would be considered. Hoarding would become widespread, with looting as the obvious antidote. There would be an instant, huge black market for all sorts of necessities, from shampoo to vials of insulin.

The market mechanism works well in some cases, but it doesn't work at all when key commodities become scarce. It leads to profiteering, hoarding, looting, and other pernicious effects. There is usually a knee-jerk reaction to regulate the markets, by imposing price controls, or by introducing rationing. I found it quite funny that the recent clamoring for re-regulating the financial markets was greeted with cries of "Socialists!" Failing at capitalism doesn't make you a socialist, any more than getting a divorce automatically make you gay.

If by the time commercial collapse is upon us, there is still enough of the political system left intact to implement rationing and price controls and emergency distribution schemes, then we should count these among our blessings. Such heavy-handed governance is certainly not a crowd-pleaser during times of plenty, when it's also unnecessary, but it can be quite a life-saver during times of scarcity. The Soviet food distribution system, which was plagued with chronic underperformance during normal times, proved to be paradoxically resilient during collapse, allowing people to survive the transition.

7.
If prior to commercial collapse the challenge is finding enough money to afford the necessities, afterward the challenge is getting people to accept money as payment for these same necessities. Many of the would-be sellers will prefer to be paid in something more valuable than mere cash. Customer service comes to mean that customers must provide a service. Given that most people won't have much to offer, other than their now worthless money, should they still have any, most purveyors of goods and services decide to take a holiday.

With the disappearance of the free and open market, even the items that still are available for sale come to be offered in a way that is neither free nor open, but only at certain times and to certain people. Whatever wealth still exists is hidden, because flaunting it or exposing it just increases the security risk, and the amount of effort required to guard it.

In an economy where the vast majority of manufactured items is imported, and designed with planned obsolescence in mind, it will be difficult to keep things running as imports dry up, especially imports of spare parts for foreign-made machinery. The pool of available equipment will shrink over time, as more and more pieces of equipment become used as "organ donors." In an effort to keep things running, entire cottage industries devoted to refurbishing old stuff might suddenly come together.

8.
It is sometimes hard to discern political collapse, because politicians tend to be quite good at maintaining the pretense of power and authority even as it dwindles. But there are some telltale signs of political collapse. One is when politicians start moonlighting because their day job is no longer sufficiently gainful. Another is when regional politicians start to openly defy orders from the political center. Russia experienced plenty of each of these symptoms.

One thing that makes political collapse particularly hard to spot is that the worse things get, the more noise the politicians emit. The substance to noise ratio in political discourse is pretty low even in good times, making it hard to spot the transition when it actually drops to zero. The variable that's easier to monitor is the level of political embarrassment. For instance, when Mr. Nazdratenko, the governor of the far-east Russian region of Primorye, stole large amounts of coal, made strides in the direction of establishing an independent foreign policy toward China, and yet Moscow could do nothing to reign him in, you could be sure that Russia's political system was pretty much defunct.

Another telltale sign of political collapse is actual disintegration, where regions declare independence. In Russia, that was the case with Chechnya, and it led to a prolonged bloody conflict. Here, we might have a "Reconquista" where former Mexican territories become ever more Mexican, the South might rise again. New England, California, and the Pacific Northwest might decide to go their separate ways. Once the interstate highway system is no longer viable and the remaining domestic airlines are extinct, there is not much to keep the two coasts together. What once united the country was the construction of the continental railroad, but railroads have been too neglected to hold it together now. A country consisting of two halves tied together via Panama Canal is de facto at least two countries.

Yet another thing to watch for is foreign incursions into domestic politics. When foreign political consultants start stage-managing elections, as happened with Yeltsin's reelection campaign, you can be sure that the country is no longer in charge of its own political system. In the US, there is a gradual surrender of sovereignty, as sovereign wealth funds buy up more and more US assets. That sort of thing used to be considered akin to an act of war, but these are desperate times, and they are allowed to do so without so much as a nasty comment. Eventually, they may start making political demands, to extract the most value out of their investments. For instance, they could start vetting candidates for public office, to make sure that we remain friendly to their interests.

Lastly, the power vacuum created by the collapse of legitimate authority tends to be more or less automatically filled by criminal syndicates. These often try to commandeer the political establishment by getting their heads elected or appointed to political offices. Examples include Russian oligarchs, such as Boris Berezovsky, who got himself elected to Duma, the Russian parliament, and Mikhail Khodorkovsky, who thought he could use his oil wealth to buy his way into the political establishment. Luckily for Russia, Berezovsky is in exile in England, and Khodorkovsky is in jail.

9.
A great many people in the US insist that they do not need government help, and that they would do just fine if only the government would leave them alone. But this is really just a pose; there is a great deal that that government does to make their lives possible. In the United States, the federal government keeps many people alive through programs such as Medicaid, Social Security, and food stamps. Local governments provide for trash removal and water and sewer line maintenance, road and bridge repair, and so on. Police departments try to defend people from each other.

When all of that starts to unravel, it is likely to do so from the bottom, not from the top. Local officials are more accessible than remote Washington bureaucrats, and so they will be the first to be overwhelmed by the anger and confusion of their constituents, while Washington remains unresponsive. One likely exception may have to do with the use of federal troops. It seems almost a given that troops repatriated from the more than 1000 foreign military bases will see action right here at home. They will be reassigned to domestic peacekeeping duties.

10.
Aside from the big government programs, there is little available in the US to help those in need. Again, Americans make a big show of their philanthropy, but, compared to other developed countries, they are in fact quite stingy when it comes to helping those in need. There is even a streak of political sadism, which, for example, shows up in people's attitudes toward welfare recipients. This sadism can be seen in the so-called welfare reform, which has forced single mothers to work jobs that barely cover the cost of daycare, which is often substandard.

Aside from the government, there are charities, many of which are church-based, and so they have the ulterior motive of recruiting people to their cause. But even when a charity does not make any specific demands, its real purpose is to reinforce the superiority of those who are charitable, at the expense of those who are the recipients. There is a flow of forced gratitude from the beneficiary to the benefactor. The greater the need, the more humiliating is the transaction to the beneficiary, and the more satisfying it is to the benefactor. There is no motivation for the benefactor to provide more charity in response to greater need, except in special circumstances, such as immediately following a natural disaster. Where the need is large, constant, and growing, we should expect charities to matter very little when it comes to satisfying it.

Since neither government largesse nor charity is likely to provide for those who cannot provide for themselves, we should look for other options. One promising direction is a revival of mutual help societies, which take membership contributions and then use them to help those in need. At least in theory, such organizations are vastly better than either government aid or charities. Those who are helped by them do not have to surrender their dignity, and can survive difficult times without being stigmatized.

To make it intact through times of great need, the only reasonable approach, it seems to me, is to form communities that are strong and cohesive enough to provide for the well-being of all of their members, that are large enough to be resourceful, yet small enough so that people can relate to each other directly, and to take direct responsibility for each other's well-being.

11.
If this effort fails, then the outlook becomes dire indeed. I would like to emphasize, once again, that we must do all we can to avoid this stage of collapse. We can allow the financial system, and the commercial sector, and most of the government institutions to collapse, but not this.

What makes this particularly challenging is that the existence of finance and credit, of consumer society, and of government-imposed law and order has allowed society, in the sense of direct, mutual help and of freely accepting responsibility for each others' welfare, to atrophy. This process of social decay may be less advanced in groups that have survived recent adversity: immigrant and minority groups, or people who served together in the armed forces. The instincts that underlie this behavior are strong, and they are what helped us survive as a species, but they need to be reactivated in time to create groups that are cohesive enough to be viable.

12.
Culture can mean a great many things to people, but what I mean here is a specific very important element of culture: how people relate to each other face to face. Take honesty, for instance: do people demand it of themselves and others, or do they feel that it is acceptable to lie to get what you want? Do they take pride in how much they have or in how much they can give? I took this list of virtues from Colin Turnbull, who wrote a book about a tribe in which most of these virtues were almost entirely missing. Turnbull's point was that these personal virtues are also all but destroyed in Western society, but that for the time being their absence is being masked by the impersonal institutions of finance, commerce, and government.

I believe that Turnbull has a point. Ours is a cold world, in which the citizens are theoretically expected to fend for themselves, but in reality can only survive thanks to the impersonal services of finance, commerce, and government. It only allows us to practice these warm virtues among family and friends. But that is a start, and from there we can expand this circle of warmth to encompass more and more of the people who matter to us and we to them.

13.
In his amazing book about the legacy of European colonialism, Exterminate all the Brutes, Sven Lindqvist makes the stunning observation that violence renders one unrecognizable. The aggressor, whether active or passive, becomes a stranger.

The violence does not have to be physical. One subtle type of mental violence that abounds in our world is the act of refusing to acknowledge someone's existence. We may believe that it makes us safer to walk past people without making eye contact. That is certainly true if our look is blank and indifferent, and it is then better to avert one's gaze than to look, and in effect to say: "I do not recognize you." That definitely does not make you any safer. But if your look says "I see you, you are OK," or even "I recognize you," then the effect is quite the opposite. Dogs understand this principle perfectly well, and so should people.

14.
When I was doing a radio tour to promote my book, a lot of the AM radio motor-mouths who interviewed me would sum up the interview with something like "So this is all doom and gloom, isn't it." And then I would have maybe 15 seconds for a rebuttal. So here is my standard 15 second rebuttal: "No, my message is actually quite hopeful. I want to let people know that they can find ways to lead happy, fulfilling lives even as this doomed system crumbles all around them." Here, I can give you a longer answer.

I believe that the financial pyramid scheme and globalized consumerism are done. But I think that having no government at all is not an option. Forget entitlements, forget military bases on foreign soil, forget the three-ring circus that passes for representative democracy here, but we will still need agencies to print passports, to control the nuclear stockpile, as well as many other mundane but essential services that only a central government can provide. For most other needs, local self-government may be the best we can do, but that may not be bad at all.

Commercial collapse need not be final. It is quite possible that a new economy will arise spontaneously, one without all the frills and the waste, but able to provide for most of the basic needs. In the places that are socially and culturally intact, this is almost inevitable, as people take charge and start doing what's necessary without waiting for official sanction.

As far as social and cultural collapse, as I already mentioned, to some extent they have already happened, but this is being masked, for the time being, by the availability of finance, commerce, and government. But they can be undone, not everywhere, of course, but in quite a few places, because the instincts are there, and a dire common predicament can be the catalyst that changes society, bringing it closer to the human norm.

15.
Knowing what to expect can provide us with peace of mind, even in the midst of collapse. Wallowing in nostalgia over the good old days, or denying that sweeping changes are before us -- these responses are definitely unhealthy.

If we know what's coming, we can start ignoring the things that we will not be able to rely on. If we do enough of this, we may find ourselves in a different world, quite possibly a better one, rather quickly. Here is a personal example. Some years ago, I decided to give up the car, finding it quite impractical, and started bicycling instead. It wasn't that easy at first, but once I got used to it, a strange thing happened to my perception: I started seeing cars quite differently. On the way to work in the morning, I would ride along a stretch of highway, which was always packed with cars. When you are driver, you see it as normal, because you are part of this herd of mechanized insects. But what I saw was sheet metal boxes with people imprisoned inside them, strapped down to a chair inside a tiny padded cell, and most of these poor crazies were just pictures of misery: an angry, desperate, lonely mob, condemned to move about in circles. And then I would happily pedal away, through a park and around a pond, and leave that horrible, dying world behind.

And so it is with a great many things. We can wait until the lifestyle that is killing the planet and is making us crazy and sick is no longer physically possible, or we can opt out of it ahead of time. And what we replace it with can be difficult at first, but quite a lot better for us in the end.

16.
So let us summarize our findings. Financial collapse is already quite far along, and is guaranteed to run its course. Bailouts can make insolvent institutions look solvent for a time by providing liquidity, but one thing they cannot provide is solvency. For instance, no matter how much we bail out the auto companies, making any more cars will still be a bad idea. Similarly, no matter how much money we give to banks, their loan portfolios, loaded down with houses built in places that are inaccessible except by car, will still end up being worthless. By continuously nationalizing bad debt, the country will make itself into a bad credit risk, and foreign lenders will walk away. Hyperinflation and loss of imports will follow.

17.
Commercial collapse is likewise guaranteed to happen. One key import is oil, and here the loss of imports will cause much of the economy to shut down, because in this country nothing moves without oil. But it should be possible to come up with new, far less energy-intensive ways to provide for the basic needs.

18.
Political collapse is guaranteed as well. As tax receipts dwindle, municipalities and states will no longer be able to meet the minimal maintenance requirements for existing infrastructure: roads, bridges, water and sewer mains, and so forth. Municipal services, including police, fire departments, snow removal and garbage collection, will also be curtailed or eliminated. The better-organized communities may be able to find ways to compensate, but many communities will become impassable and uninhabitable, generating a flood of internal refugees.

Currently, the political class couldn't be farther from understanding what is about to happen. I listened in on one of the recent presidential debates (I don't have a television set, but I caught a chunk of it on NPR). It struck me that the two candidates spent most of the time arguing over ways of spending money that they don't have. For me, listening to them was a waste of time that I didn't have. I suspect that my book, would sell better if McCain got elected; nevertheless, I choose to remain selflessly apolitical. National politics is a distraction and a waste of time.

Actually, I should be gratified. A while ago I proposed a whimsical Collapse Party. The Collapse Party platform featured planks such as the freeing of prisoners to whittle down the prison population before a general amnesty becomes necessary due to lack of funds, a jubilee - forgiveness of all debts - to wipe the slate clean of all these bad loans, and a few others. Elsewhere, I proposed that it is a good idea to stop making new cars - just run down the ones we already have, and we'll run out of cars just as we run out of gas. I am happy to report that this has been banner year for the Collapse Party. Without fielding a single candidate, we managed to push through much of our agenda: many states are releasing prisoners due to the fiscal crisis, the federal government is now involved in avoiding foreclosures, a huge credit card debt write-off is in the works (not quite a jubilee, but still...) and now automakers are ready to consolidate or declare bankruptcy. Next year, perhaps we will repatriate troops and shut down overseas military bases, also in line with the Collapse Party platform.

19.
Continuing with our recap, I see social collapse as avoidable, but not in all places. In many places, the task is to reconstitute society before the first three stages run their course, and it may already be too late. But this is where we need to make a stand, if only to be remembered for something more than the sum total of our mistakes.

20.
Lastly, cultural collapse is something that's almost too horrible to contemplate, except that in some places it seems to have already happened, and is being masked by the various institutions that still exist, for the time being. But I believe that a lot of people will come around and remember their humanity, the better parts of their natures, when dire circumstances force them to rise to the occasion.

Also, there are some intact pockets of culture here and there that can be used as a sort of cultural seed stock. These are communities and groups that have seen some adversity in recent times, and have some social cohesion left over from the experience. They may also be those who made certain conscious decisions, to simplify their living arrangements in order to lead saner, more fulfilling lives. We must do all we can to avert this final stage of collapse, because what is at stake is nothing less than our humanity.

21.
I hope that, if you have been following along, by this point this slide is self-explanatory. Collapse is not one monolithic thing. Each kind of collapse requires a response, be it jumping clear ahead of time, sitting it out, or opposing it with all you got. At this point, if anyone in this room got up and tried to tell us what to do to avoid financial collapse, we would probably find that quite funny. On the other hand, if we stand by and let social and cultural collapse unfold, then what's the point of any of this?

That's all. Thank you for listening.

"This whole mess could be easily rectified with a return to market interest rates combined with investment tax incentives (mainly reduction of the corporate taxes and elimination of the long term capital gains tax). We would also suffer an inflationary burst as this happens but that should be a one time event. Economies cannot grow on credit, only suffer booms and busts and in our condition a bust could end our financial system."

No.

The core problem is global overcapacity. Markets respond to overcapacity with deflation.

Governments fight deflation for political reasons, but deflation will continue globally until excess capacity is removed from the economy.

Tax credits, as you pretend above, could help...or could do harm if they are designed to encourage additional manufacturing, housing, or service expansion.

Expanding capacity when you already have overcapacity will simply accelerate deflation.

This isn't theory; it's real-world fact. Japan today has done *precisely* what you suggest above with industrial tax credits, and Japan has now given itself 12% annual deflation.

This is unsustainable, globally.

What Business Schools never told the MBA kids was what happened when you built too many factories. It was as if it wasn't possible to build too many houses, or too many shopping malls, or too many cars, or too many ships, or too many memory chip fab plants.

And building even *more* such capacity as above will accelerate deflation...the enemy of all *productive* wealth.

"There is also reduced demand as you point out for imported products (and therefore shipping) and other discretionary goods. That is indeed deflation due to the recession, but very minor as I pointed out above. Most importantly there is no deflationary spiral like the 1930's."

You are kidding yourself if you believe that GM isn't squeezing its auto parts suppliers.

You are kidding yourself if you believe that Wal-Mart isn't squeezing its consumer goods suppliers.

You are kidding yourself if you believe that consumers aren't squeezing their retailers. Neiman Marcus lost a half Billion last year. Consumers squeezed retailers by moving down-market. High end shoes for women have fallen from $600/pair to $160/pair.

Likewise, employers are squeezing their employees by cutting hours, cutting bonuses, cutting salaries/wages, and by cutting employment. 401k contributions are likewise being stopped.

Companies are squeezing their shareholders by cutting dividends, too.

And that's your deflationary spiral. Less consumer spending causing businesses to cut dividends and employment and squeeze suppliers, who in turn are unable to spend as much as before.

Doubly true when reduced credit availability (e.g. no more HELOCs) is factored in. Tough to live large for a lot of wannabes when they can't use their home as an ATM of endless credit.

And that's your deflationary spiral. Less consumer spending causing businesses to cut dividends and employment and squeeze suppliers, who in turn are unable to spend as much as before.

All less than 1982 and trivial compared to the Great Depression. Yet our financial system needed a bigger bailout than ever before to survive. The spiral you need to look at is relatively minor asset price corrections causing credit defaults due to massive overleverage (up to 100 to 1). The resultant defaults wipe out default insurers and cause massive hits in financial balance sheets. The result is insolvency and potentially more defaults (until the Fed swapped out at least $10 trillion in bad assets for treasuries). The result of de facto nationalization of banks is loss of equity leading to insufficient equity to debt ratios.

The consumer retrenchment and consumption pattern changes are a relatively minor result of the housing and equities busts. Unlike the Fed intervention, they are a long run positive for the economy resulting in more savings and investment and greater production efficiency in new and retooled industries.

Here's the funny part. After the collapse, he says things will work if we:

I believe that the financial pyramid scheme and globalized consumerism are done. But I think that having no government at all is not an option. Forget entitlements, forget military bases on foreign soil, forget the three-ring circus that passes for representative democracy here, but we will still need agencies to print passports, to control the nuclear stockpile, as well as many other mundane but essential services that only a central government can provide. For most other needs, local self-government may be the best we can do, but that may not be bad at all.
Commercial collapse need not be final. It is quite possible that a new economy will arise spontaneously, one without all the frills and the waste, but able to provide for most of the basic needs. In the places that are socially and culturally intact, this is almost inevitable, as people take charge and start doing what's necessary without waiting for official sanction.

Doesn't that sound a LOT like the small government conservatism many of us have been wanting?

"The core problem is overleverage and the subsequent systemic risk from derivatives and fractional reserves."

Nope. You can't get surplus leverage if there is a deficit of supply for the underlying factor. E.g. you can't get a loan with 0% down (infinite leverage) for an office building and then get in financial trouble if a dozen tenants are constantly bidding to get into your building.

Instead, where you get into trouble with leverage is when demand for your building subsides.

So, again...the core problem is global overcapacity.

Loaning the money wildly comes in a distant 2nd place...and derivatives are financial zero sum non-events. Derivatives, even with massive notional values, are trivial because the money merely moves between players instead of wealth being created or destroyed.

"Yet our financial system needed a bigger bailout than ever before to survive. The spiral you need to look at is relatively minor asset price corrections causing credit defaults due to massive overleverage (up to 100 to 1)."

Propping up zombie banks is pricey. I wouldn't do it, but I'm not God making all decisions, obviously.

To supply liquidity, I would have used a large fraction of the bailout/surplus monies to make a new federal bank that had no prior liabilities rather than propping up an insurer (AIG) and a few zombie banks that still aren't loaning out money.

Heck, you *want* zombies to die. Pouring money into them only makes political, not economic sense.

As for leverage, 10% down and 90% financed is 9 to 1 leverage. 3% down and 97% financed (a typical FHA loan that has been around for decades prior to this crisis) is almost 33 to 1 leverage.

And "no money down" loans are infinite leverage.

Works great in inflationary periods. The asset rises but the loan doesn't.

Fails entirely during deflation, however. See Japan 1989 to today, as well as the U.S. today.

...moreover, all business models fail during systemic deflation. You can't "buy and hold" during deflation. Buying a building to lease out to tenants is a good business model during inflation, but when the building loses more value each year due to deflation than it takes in rent, the business model falls apart.

So it's not just leverage or overleverage that fails during deflation...though the drama is certainly there. Everything fails.

Collection agencies and cash work during deflation. Not much more.

You can have overleverage and still have a viable economy, in contrast...the difference is that overleverage can work (potentially) during inflation.

Ergo, overleverage isn't the core problem. Deflation, however, is said beast. And you always get deflation when you have overcapacity.

Instead, where you get into trouble with leverage is when demand for your building subsides.

So 100 to 1 leverage would have worked provided that demand never decreased to reduce asset values by 1%. And if demand looks like it is about to go down, we can just increase leverage to create more demand. You are right, leverage is second place so long as demand increases monotonically. In that case asset prices will never get ahead of demand so they will never drop and wipe out the principle.

Sounds nice, but unfortunately impossible in the real world. So the leverage becomes a problem, the more the leverage, the bigger the problem.

You can have overleverage and still have a viable economy, in contrast...the difference is that overleverage can work (potentially) during inflation.

Can work to create more inflation (including money velocity increases) which creates spurious demand. Can also work to misallocate resources including investment dollars which drives up costs for all business whether leveraged or not. A short term gain for long term pain. You are quite close to understanding the problem and you also realize that the current solutions will basically just add debt to the federal balance sheet. Pretty soon you will close the loop and see how today's solutions are what created the original problem.

Derivatives, even with massive notional values, are trivial because the money merely moves between players instead of wealth being created or destroyed.

Understood. I only mention derivative and fractional reserves because they create systemic risk. Under the current circumstances, Citi cannot fail without bringing down the other large banks and other financial entities (e.g. insurance companies). There is no deflation risk from derivatives, but massive derivative positions ensure financial collapse when there is enough deleveraging to bring down a large player. No spiral, just collapse.

"So 100 to 1 leverage would have worked provided that demand never decreased to reduce asset values by 1%. And if demand looks like it is about to go down, we can just increase leverage to create more demand. You are right, leverage is second place so long as demand increases monotonically. In that case asset prices will never get ahead of demand so they will never drop and wipe out the principle. ... So the leverage becomes a problem, the more the leverage, the bigger the problem. "

Yes, the leverage *becomes* the bigger problem...after...after overcapacity is reached.

As long as home prices are going up, leverage is a plus, not a negative.

As long as office rents are going up, leverage is a plus, not a negative.

But once you reach surplus capacity with too many office buildings, too many houses, too many cars, too many cargo ships...prices start to fall (deflation).

After that excess capacity inflection point is reached, then the game is reversed. Suddenly leverage that was a positive is now a giant liability.

What this means is that overleverage isn't the core problem. Overleverage does the most damage, the fastest, but only under the circumstance of the deflation inflection point being reached first.

And deflation is merely the Markets reacting to surplus capacity.

Too many automobile manufacturers making too many cars.

Too many shipbuilders making too many cargo ships.

Too many contractors and real-estate investors building too many shopping malls and too many office buildings.

It is only when you reach the point of first having "too much" of something that deleveraging debt comes into play.

Prior to that point the debt is fine...even beneficial. But alas, all good things must come to an end.

Welcome to deflation...what you get after saturating the surplus capacity inflection point even if your government is pouring $12.8 Trillion in freshly printed money into the economy during the previous 12 months...a remarkable time for prices to decline.

So all of these people are mindlessly saying exactly the same thing...saying something that fails to explain the U.S. in 1945...saying something that fails to explain Japan today, last year, last decade, and last 20 years.

One big overriding but all important difference between Japan in the 80s, the US in 1945 and the US Now. EXPORTS. Both Japan and the post war US had massive trade surpluses. These helped to finance the spending spree and draw off excess production. Hence keeping inflation in check. The US today has some of the largest trade deficits in the world. The effect is just the opposite. Even mild inflation will make it harder to get oil, which will drive up prices, causing more inflation and onward into a spiral.

"Understood. I only mention derivative and fractional reserves because they create systemic risk. Under the current circumstances, Citi cannot fail without bringing down the other large banks and other financial entities (e.g. insurance companies). There is no deflation risk from derivatives, but massive derivative positions ensure financial collapse when there is enough deleveraging to bring down a large player. No spiral, just collapse."

No. Derivatives can be thought of as mere insurance policies. That's an oversimplification, but the point is that your insurance company failing isn't systemic...it won't cause *you* to file bankruptcy just because Mutual of Omaha or Hartford goes bankrupt.

You'd be irritated if you had a claim that couldn't be paid, of course, but having a claim is rare, having an unpaid claim even moreso, and needing to file personal bankruptcy just because your life insurer filed bankruptcy is pretty much unheard of.

And so go derivatives. Even if the counter-parties file bankruptcy, the buyer of the derivatives and the borrower on which the derivative is based will likely both remain solvent (or perhaps it would be better to say that they won't become insolvent directly *because* of the failure of a counter-party).

So no, derivatives do *not* create systemic risk.

Derivatives are an insurance policy...a backstop. The pitcher throws the ball. The catcher misses the catch. That's the action. You don't lose the game (systemic risk/failure) just because the backstop failed. Heck, you might play the whole game and never even need the backstop.

"One big overriding but all important difference between Japan in the 80s, the US in 1945 and the US Now. EXPORTS."

No. Japan has been printing money from 1989 to today, and will be doing so tomorrow, too. But Japan has a current account *deficit* this year. Just like the U.S.

Japan is importing more than it exports this year, yet Japan has 12% deflation this year.

So one errs when one says that Japan and the U.S. pursuing the same policies will somehow magically get different results (e.g. deflation in one, inflation in the other) based upon trade balances.

What this means is that overleverage isn't the core problem. Overleverage does the most damage, the fastest, but only under the circumstance of the deflation inflection point being reached first.

Overleverage causes malinvestment which causes surplus capacity. The malinvestment also strangles other industry which slows economic growth. The economic problems start with the overleverage and start to get fixed at the excess capacity inflection point (provided the market is not interfered with to produce even more excess capacity).

Derivatives can be thought of as mere insurance policies. That's an oversimplification, but the point is that your insurance company failing isn't systemic...it won't cause *you* to file bankruptcy just because Mutual of Omaha or Hartford goes bankrupt.

If my house burns down and my insurance company fails, then I will still owe on the mortgage and have no place to live, so I will have to file for bankruptcy. Naked credit default insurance allows me to get paid if YOUR house burns down and you are right that if I gamble on your house burning down and the insurance company fails, I should not have to declare bankruptcy. However, the systemic risk is increased anyway because I now have an economic incentive for making your house burn down.

"Overleverage causes malinvestment which causes surplus capacity."

That *can* happen, but it's not a hard and fast rule. Other causes of malinvestment are possible beside overleverage...e.g. currency manipulation.

China undervalues its Yuan so investors flock to the "cheap" labor. Investors typically use their own cash, though they may invest in some proven activities with limited borrowing (banks aren't investors...investors are like stock owners whereas banks are like bond owners...different beasts).

But you'll still get malinvestments even without overleverage due to that currency manipulation.

Heck, you can get malinvestments simply from poor investment decisions...again...overleverage is not required to get malinvestments.

So you can't just claim that overleverage is the cause of malinvestments. Overleverage will exacerbate the pain once a malinvestment is discovered, of course, but you can get that bad investment with zero leverage (i.e. using just your own cash). Penny stock players find this rule out the hard way every day. Suckers!

"If my house burns down and my insurance company fails, then I will still owe on the mortgage and have no place to live, so I will have to file for bankruptcy. Naked credit default insurance allows me to get paid if YOUR house burns down and you are right that if I gamble on your house burning down and the insurance company fails, I should not have to declare bankruptcy. However, the systemic risk is increased anyway because I now have an economic incentive for making your house burn down."

That's not "systemic" risk. To be systemic, all houses would have to burn down after all insurance companies filed bankruptcy, or one house burning down and one insurance company failing to honor one policy would have to trigger other insurance policy failures and house burnings (or would have to at least trigger some greater event such as your one house fire causing a bank to fail).

Limited risk is *not* the same as systemic risk. One house burning down bites hard, and your insurance company not honoring your insurance policy on said house sux even harder, but that's limited risk, not systemic risk.

More to the topic at hand, a limited risk event causes no grand chain reaction. It sux that your house burned down, that you got stiffed on your insurance, and that you had to file bankruptcy...but that bankruptcy filing and insurance failure and house fire isn't going to cause all of your neighbors to immediately file their own bankruptcies.

Hence, counter-party failure is *not* systemic.

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