Long-Term Crisis Remains Strong

The near-term crisis is over.

Libor is coming down. Mortgage rates are coming down. Bond market of all maturities and for all stripes of borrowers has thawed. Prime consumer credit is moving. CDS spreads have come down from hysterical/historical levels, although it's likely never to come back to pre-crisis levels -- before it disappears. There are still a few anomalies remaining in the market, most notably the spread between nominal and inflation-indexed treasuries. But these anomalies are generally understandable and temporary.

This is not to say all problems are over. Employment and housing will lag at least a few months. The on-going earnings season will be ugly. The tsunami may very well reverberate around the globe back and forth another round, or two. But, barring human stupidity (which can never be barred), these are problems, not crisis.

Oh, another powerful socio-psychological support: the society so much wants Obama to succeed that Citi (C), BofA (BAC), and JP Morgan (JPM) all decided to move their bad earnings up to Friday, before the inauguration. Wow, that's powerful, meticulous command and control from Obama's still-shadow government, as well as incredible cooperation from our good corporate citizens. Can we assume the remaining bank earnings (Goldman (GS), Wells Fargo (WFC)) will be good?

On the other hand, the long-term crisis remains healthy and strong, completely unharmed. In fact, I'd say it's been strengthened tremendously by all the scrambling trying to avert the short-term one.

1. Corporate governance.

Lack of shareholder visibility and control, loss of board independence, de-coupling of risk-taker and reward-taker, maturity mismatch between (shareholders and debt-holders) risk and (decision-makers) reward, grossly inadequate risk management systems and techniques, massive built-in systemic chain reaction mechanism... do you see any improvement? Me, neither.

2. Government debt.

Yes, somebody has to pay. That somebody is most likely our later selves and our children and grandchildren, in the form of massively diminished purchasing power and high inflation.

3. Inflation.

Yes, right now it's deflation. An expanded M0 money base alone doesn't cause inflation; more important factors in modern economy include leverage and velocity of money. But greed will drive us to leverage up and churn money as soon as the economy seems to show the first sign of life. And this inflation will be particularly punishing to the poor and polarizing to the society because it will be first and foremost driven by commodities. Will the Fed have enough foresight and political will to jack up interest rates soon enough and fast enough? No chance. In fact, inflation is the path of least resistance to eliminate the massive internal debt. In order to do this, the real interest rate needs to remain negative for a long time. It needs to be an integral part of fiscal policy. I'm not saying it's the right thing to do. It's just the thing people will do.

4. Devaluing dollar.

Yes, right now the dollar is strong for lack of alternatives. But this is bad for US economy and the unsustainable global imbalance. Service economy is a mirage. It's simply impossible to sustain an economy the size of US with lawyers, management consultants, middlemen, and McDonalds and Walmarts. We have to make some stuff, from iPhones to good cars to, yes, steel and toys. To do that we need a significantly devalued dollar to kick start it. Furthermore, there's no easier way to eliminate the massive external debt than devaluing dollar. Yes, it's a scam and everybody knows it but what can they do about it...

5. Savings deficit.

No, we refuse to learn to save. It's un-American. If the government let the crisis blow up, allowed the market to work through its wrongs, and gave people the chance to learn from pain, maybe we would've learned to save. But no, we the people will not allow the government to give us that chance. We are a democracy damnit. The society at large will continue to borrow until the government bails them out, again and again. And the government will continue to bailout the irresponsible until nobody is willing to lend us anymore. And Asia will stop lending, some day.

6. Democracy.

Our democracy failed. It failed when it allowed Bush to invade Iraq and erect Patriotic Act. It failed epically when it re-elected Bush after the disastrous first term. If Bush had just given up in face of pathetic ratings and done nothing about the crisis, instead just followed his inborn, legendary apathy and ignorance, he would've done one virtuous service to the country by giving the capitalist system a chance to work its way through. But hell no, he had to mess up our long-term prospect one last time with the massive, rapid-fire, headless-chicken bailouts.

But mostly I'm upset that all the government interventions screwed up the system and made it even more irrational in the long-term. Capitalism requires a minimum degree of rationalism. Arbitrariness increases risk. Arbitrariness from world governments is the ultimate systemic risk. Excessive regulation increases societal cost of doing business. Without all the political headless chickens mucking around, it would've been very painful in the short-term for sure, but the long-term future would've been much clearer and more stable.

Stock position: None.

Comments

[Ricard:]

I'm glad I added you to my watch list.

"No, we refuse to learn to save. It's un-American. If the government let the crisis blow up, allowed the market to work through its wrongs, and gave people the chance to learn from pain, maybe we would've learned to save. But no, we the people will not allow the government to give us that chance. We are a democracy damnit. The society at large will continue to borrow until the government bails them out, again and again. And the government will continue to bailout the irresponsible until nobody is willing to lend us anymore. And Asia will stop lending, some day."

So true...



"Lack of shareholder visibility and control, loss of board independence, de-coupling of risk-taker and reward-taker, maturity mismatch between (shareholders and debt-holders) risk and (decision-makers) reward, grossly inadequate risk management systems and techniques, massive built-in systemic chain reaction mechanism... do you see any improvement? Me, neither."

I would like to proffer an opinion - the only way to solve this problem is for a massive controlling non-government shareholder to exist. Management has been able to take control of the board because no one has enough of an interest to fight it. Notice BRKA has no problems on this regard...the board has a near-majority interest in the company. Very few public boards can make such a claim.

Jan 19 05:56 AM

[athena:]

"Headless-chicken bailouts"
priceless...

Jan 19 08:21 AM

[tdillian:]

very well written!!

"But hell no, he had to mess up our long-term prospect one last time with the massive, rapid-fire, headless-chicken bailouts.
"

I agree with your statement of Bush... but now that the messaih is taking over, and with his new ONE TRILLION stimulus package (on top of the 700 billion by bush)... I am curious what the author's take on the "hope and change" message of the messaih is??

600,000 new government jobs... one of the things in this new stimulus package is a mob museum in nevada.. who the heck is running this show???!?!

the more I am seeing this.. the I get the sense Obama is just Bush III, yeah there will be some foreign policy changes, but not really... we are already so much in debt.. and now I found out that Obama and Biden have a :
845 BILLION DOLLARS POVERTY ACT TO GIVE TO THE UN!!

WHY IS THIS NOT IN THE NEWS?? WE ARE BROKE!

Jan 19 09:30 AM

[ain't no fo...:]

Great perspective, great article.

Jan 19 10:35 AM

[kelm:]

We are broke and when global investors and governments wake up to that fact we will see a true currency crisis. One thing that has bothered me lately is that we are taking all of our "lessons" from the great depression. I think perhaps that Germany's experience in the 1920's with hyper inflation may be an instructive read.

Excellent article!

Jan 19 11:00 AM

[cpeacollins:]

I thought your article was interesting and informative - right up to the very end. Let me remind you of something very important that everyone seems to forget - well, make that two things.

1. Bush has kept this country safe for the last 7 years since 9/11. His policies were effective in many ways and it made you and your family and friends safer. After all, the biggest threat to our economy is terrorism. Just ponder what will happen in LA when we have our first suitcase bomb. That kind of event will make the bailouts and Katrina look like child's play.

2. Sadam Hussein mass murdered several hundred thousand of his own people. That is Hitlerlike and I am very happy that he is gone. Yes, the intelligence was awful and lots of American kids have died. The war was badly run before the surge. However, we might just wind up with a democracy in the middle east and we could use that right now.

So, stick to your economic thoughts and opinions. When you add politics to the mix, you lose.

Jan 19 11:32 AM

[scootie2008:]

Your items 2 through 5 are the same issue from different angles; the US financial position.

Inflation and devaluing the dollar are the same. Manipulating the value of the money is not working. We have an unprecedented financial crisis and the “easiest” money ever. Money is being poured on every bank. Where is the inflation that everyone is so hyper about? Why is the dollar so strong?

The US owes a lot of money. The options are: pay it or default. Default = collapse of the world financial system.

Democracy is fine. Obama will be sworn in tomorrow.

Jan 19 12:32 PM

[mr freddo:]

I think that this was first class emotional rant with some very good points made, the most important of which is the point about getting back to inventing, and making important stuff that the rest of the world needs. My generation's (baby boomers) biggest mistake was allowing our best and brightest to be siphoned off into law, wall street, and finance. We did a great disservice to our engineers by not valuing the profession. Instead, we almost made our engineers obsolete by shipping our manufacturing oversees for short-term savings. At first, companies saved. You send your engineers over to see that things are running smoothly. But eventually, your engineers retire or move on and the memory of engineering driven innovation diminishes until finally, nobody at the home office understands what they are making.

We need to reclaim our technological superiority. Let's give engineers and teachers a 20 year tax holiday while increasing the taxes on investment bankers and lawyers to 95%. (I'm willing to compromise on this proposal but it does make a lot of sense doesn't it?)

While I'm at it, let's legalize and tax hemp, raise the taxes on cigarettes and booze 10 fold, and send that money to the healthcare/medicare system for technological upgrades. ( I spent a few days with my mother in the hospital recently. She was interviewed for patient history no less than 10 times the first day, and 20 times over 4 days. Each doctor/nurse asked the same questions.)

Excuse me now. I have to go start digging that hole in the backyard where I am going to bury my gold, beans, and whiskey. This year is going to be something...

Jan 19 01:33 PM

[Bo Peng:]

tdilliian, I try to keep an open mind on Obama. I'll see what he can/will do.

Actually I voted for him. So why did I say the above? Because the problems are so deep and wide, and expectation so high, chances of him disappointing are excellent. Bickering between many democrats in Congress and his team, before he even starts, shows how shallow the phenomenal "support and goodwill" actually is in some segments of the society.

If he fails, a most likely direct cause is democrats in Congress. He needs to start a grassroots movement to replace them. After all, by and large they cooperated with Bush for all eight years didn't they?

He ran against the democratic party establishment, not unlike McCain ran against the republican party establishment. Now let's see how long he can remain his own man before the democratic establishment assimilates him. Based on his cabinet choices, it doesn't look too good.

But still, the world so much wants him to succeed that he still has a chance to make some meaningful changes, at least in theory. So I'm keeping my, uh, hope for change damn that's so lame...

Jan 19 01:44 PM

[JOSEPH FOSTER:]

BUSH DID NOT KEEP US SAFE FROM TERRORIST, THE TERRORIST
MADE ONE BIG HIT 9/11 THERE IS NO PROTECTION FROM OTHER ACTS DO YOU SEE HOMELAND SECURITY AT SHOPPING MALL, OR TRAIN STATION TO PROTECT YOU.
HOMELAND SECURITY IS UNABLE TO STOP THE INFLUX OF ILLEGAL
ENTERING THE USA.
THE TERROIST HAS MORE RESOURCES THAN THE ILLEGALS CROSSING THE BORDER.
WHAT 9/11 DID WAS TO GET BUSH TO LOOSE HIS HEAD AND BEING SUCKED INTO TWO USELESS WARS WERE THOUSANDS OF AMERICANS HAVE DIED FAR MORE THAN THE 9/11 INCIDENT.
FURTHER MORE IT HAS DAMAGED OUR ECONOMY.
WHY SHOULD THE TERRORIST WANT TO MAKE ANOTHER ATTACK
ON AMERICA WHEN THEIR FIRST ONE DID THE TRICK FOR THEM TWO WARS ETC.
HAD BUSH KEPT HIS COOL WE COULD HAVE USED A MORE EFFECTIVE WAY BY COVERT METHOD IN GETTING SADAM AND BIN LADEN.
HOME LAND SECURITY WILL HAVE YOU BELIEF THAT THEIR OPERATION IS PREVENTING AN ATTACK UTTER GARBAGE.

Jan 19 05:33 PM

[User 340470:]

Great article! To CPea: We never had a significant terrorist attack within the US BEFORE Bush. If you would read a few books on the subject ,consult 911scholarsfortruth or check the writings of Paul Craig Roberts (Treasury sec under R.Reagan) you might have a different view of 9-11.


On Jan 19 05:33 PM JOSEPH FOSTER wrote:

> BUSH DID NOT KEEP US SAFE FROM TERRORIST, THE TERRORIST
> MADE ONE BIG HIT 9/11 THERE IS NO PROTECTION FROM OTHER ACTS DO YOU
> SEE HOMELAND SECURITY AT SHOPPING MALL, OR TRAIN STATION TO PROTECT
> YOU.
> HOMELAND SECURITY IS UNABLE TO STOP THE INFLUX OF ILLEGAL
> ENTERING THE USA.
> THE TERROIST HAS MORE RESOURCES THAN THE ILLEGALS CROSSING THE BORDER.
>
> WHAT 9/11 DID WAS TO GET BUSH TO LOOSE HIS HEAD AND BEING SUCKED
> INTO TWO USELESS WARS WERE THOUSANDS OF AMERICANS HAVE DIED FAR MORE
> THAN THE 9/11 INCIDENT.
> FURTHER MORE IT HAS DAMAGED OUR ECONOMY.
> WHY SHOULD THE TERRORIST WANT TO MAKE ANOTHER ATTACK
> ON AMERICA WHEN THEIR FIRST ONE DID THE TRICK FOR THEM TWO WARS ETC.
>
> HAD BUSH KEPT HIS COOL WE COULD HAVE USED A MORE EFFECTIVE WAY BY
> COVERT METHOD IN GETTING SADAM AND BIN LADEN.
> HOME LAND SECURITY WILL HAVE YOU BELIEF THAT THEIR OPERATION IS PREVENTING
> AN ATTACK UTTER GARBAGE.
>
>
>

Jan 19 05:52 PM