I've been interested in the latest trends with the economy, for a few reasons. Naturally I have to be interested because my employer, Circuit City, is hurting real hard and the self-preservationist in me tells me I need to have an assessment of the situation. Mostly it interests me because the economy plays a very important role in the political climate, it is a mover that works outside the politico nonsense we often see ourselves confronted with. Likewise, after gaining a very clear understanding of capitalism after years of exposure to the ideas of Adam Smith, the Austrian School's thinkers, and libertarianism in general, I've been trying hard to both understand the modern economy and how it all fits together. I think I've got it mostly squared away.
Time Magazine came out with this cover the day after I wrote and posted this article, so I had to add it in. If you want to know why, check out prediction #6 below...
Our economy is dictated by our monetary policy. The monetary policy of old, which capitalism worked in, had our money based on fixed valuables. We were able to lend and buy with units measurable ultimately in gold savings (or other valuable metals). It wasn't a perfect system but it was extremely stable. After the thorough corruption of that system by Keynesian school of thought monetary policy itself was radically changed. You will find that none of our money supply is backed by gold, silver or any other valuable good. Today, money comes into the market as a representation of not what we have, but what we don't. Most, if not all of the money of in circulation today originally came into circulation by borrowing the money from banks in the form of loans. In other words, where money used to equal a reserve of gold, it now just equals reserved debt. Your employer, for instance, is paying you mostly out of money they directly borrowed from a bank, or got from those who owe ultimately their financial liquidity to their credit lines. The government, in total control of interest rates and money production, did not opt to put hard limits how much can be printed or given out by linking the money supply to a fixed commodity, instead allowing this money, through the banks, to be lent to those who it believes will earn it back. This gives the government more say over monetary matters, but also creates an incredibly unstable economy. We've managed well up to the point of recent events, all things considered.
The instability of an economy based on debt is based on the notion that all lending is speculative in how much actual production it will create, so you don't really know what you are investing in. In this situation, the credit major corporations get from banks around the country bolster their strength in disproportionate amounts to their earnings. No matter how hard credit lenders try to match up the two, we get a corporate marketplace where investment is based largely on investor confidence and where money comes from a response to that confidence level, creating a cycle where we are booming (being overconfident in lending to and investing in prosperous businesses) or busting (where the bubbles of malinvestment pop when suddenly our money isn't where it is producing the most for us). This is coupled with steady, cancerous inflation, constantly depreciating the money supply and encouraging more credit spending, increasing the instability.
Large failures in our lending policies are what leads to a depression (in lines with what we saw with the Great Depression, bad credit lending policies initiated the decline), but the failures have to be large enough to topple banks if we are going to see it become anything other than another bust/recession. This happened recently when the subprime mortgage market fell through. Now we have banks going bankrupt, credit lines seizing up, and when credit seizes up, so does spending, investment. This creates a cycle of increased unemployment, decreased spending, and in a stock market based entirely on consumer confidence, it breaks the system. Prices deflate like a blown out car tire, correcting years of inflation, but wiping out most everyone's money supply and putting millions out of work in the process.
This holiday season I believe we enter an environment where this process is beginning. What people don't get about economic crisis is that in this style of economy the true crisis is not just that everything is going down, down, down (going down is merely the symptom of the problem). It's that things are becoming unreliable, and when the market is unreliable no one knows where to invest, so most people don't invest at all. This takes a lot of money out of the marketplace, money that for a lot of people equals life savings, which kills the liquidity of the market and causes complications for the working sector of society.
So given all this doom and gloom, and especially given all the poor lead-ins, we would expect that the holiday season would be slow, especially for retailers like Circuit City, right? Well, I wouldn't be so quick to assume this. Going back to the previous point, the economic crisis is not failure, it is uncertainty. A lot of money out of the stock market and in people's bank accounts might not be productive, but it combined with deflationary prices in nearly every market (like gas, back to $2 a gallon if you can believe it) and a month or two of having felt "frugal" could together make a perfect storm of completely stupid spending. Let me just throw out a few personal predictions for this holiday season, which I will be watching to see if they come true, and for what reasons. Predictions are a great way, after all, to test the basis of one's theories...
1. The holiday season will bring optimism and better spending than expected by consumers. Our economy behaves counterintuitively at times and I believe this is one of those situations. Even though we are hitting a point of great pessimism as people's money supplies fall short and unemployment is on the rise, we're finding that deflation is bringing prices across the board down, making the adjustment easier. This is entirely unhealthy, and if I'm right, would mean disasterous things for the economy in the long-term. People should be saving their money right now, but I just do not think Americans can do so, especially for many rich Americans who should be sitting on a stockpile of cash in their bank account that represents a good chunk of their life savings. Yes, that should be saved, but it will probably be spent. We bank too much money on the wisdom of others, when we should be betting on their foolishness. After weeks of patting themselves on the back for figuring out ways to save, consumers I think will be eager to spend. Unemployment counteracts this scenario, though, and while the newly poor will be unable to participate in the festivities, they are not the core constituency driving the market. The people who do most of the spending still have jobs... for now. Consumer credit is flowing enough for this scenario to be a reality, so I'm considering it "likely".
2. Even if we do poorly in holiday sales I believe that, so long as we at least come close to the previous year's performance, the holiday season will be regailed in the news media as having revitalized the economy. Santa saved Wall Street, they'll say. After all, gas will be cheap, and so will a lot of goods. However, as we found out in 1929, even a dead cat can bounce if dropped from a great enough height. Our economy will appear to be bouncing back, but we'll find it's mostly dead weight.
3. After that, around mid-year 2009, we will either start to see a recessionary recovery period, or we will see something worse start to happen. If this financial decay has rotted the enamel of our economy enough, a depression-sized cavity will set in. I believe a major crash will happen in our lifetime... like I've told most everyone, I'd prefer now rather than later for such a thing to happen. Still, I have no say in the matter. Whether or not the economy recovers from here will largely depend on what happens over the next few months.
4. If we do enter a depression, it won't be as "great" as the depression of your great grandparents. You cannot reverse technological progress, our markets all have too broad a bottom for society just to flop over and everyone to go to bread lines. Major businesses might merge, and shift around, job turnover rates will be high, but most institutions we know today can and will survive a depression and the labor market will stay mostly intact. I think the real crisis people face during a modern depression would be payment of credit debt, because we are too used to long periods of inflation where our money depreciates in value over time. When our money is losing value over time due to inflation, buying in big purchases on credit is very sensible. If a depression hits, we will experience deflation, which turns the tables. We'll be stuck with credit card bills and loans when all of a sudden everything, due to massive deflation, is cheap, and because we'll be paying back those debts we'll not be able to fully utilize our spending potential. The margins in which most of us will be making our paycheck to paycheck lives will be more narrow and each dollar will mean more, and unfortuately most of those dollars will be stuck paying back debts and bills that give no productive aim to society. It'll be a sucky, glum time, but not really like a "dying in the streets starving and begging" time.
5. Despite positive marks I project in spending, I do NOT think retailers like Circuit City will have an easy time, they just face a different challenge than we were believing they would. Many retailers are going to have problems procuring product - not because the product will be unavailable, oh no - they simply won't be able to afford it. What they can get will fall in price noticably, as businesses, including mainstream manufacturers, try to be more competitive with one another. As for getting it though, good luck. This will certainly cut down on the profitability of the holiday season, but that isn't necessarily bad news. To the consumer public, the holidays will seem busy... even if they aren't. Perhaps moreso just because we are paying attention to these details. That is all the financial news media and economists will need to speculate goodness. What it means in reality is that everyone will be shocked when companies post mediocre Q4 results sometime early 2009.
6. Regardless of the scale of the economic problems we're facing now, it is a big enough issue that I fully expect President Obama to take action. Any major iniative Obama takes will draw on Franklin Delano Roosevelt for inspiration; it'll be an era for a New "New Deal". The scale of stupidity and senselessness that the Democrat-run government will take on to help "save" our economy will know no bounds. These iniatives I think will play a big role in politics for the next 4 years. They will not work although there will be enough nonsense that most Democrats will faithfully bound themselves to the servitude of these agendas, and history will probably look back on such acts as favorable, all without any real evidence demonstrating how these things actually benefitted the economy. So, I'm getting prepared, today, to be annoyed by those who will invariably consider this a great time for "change", mostly involving the actions of weighty, unyieldy government bureaucracy. Update: Not more than 24 hours after I post this, Time magazine reveals their centerpiece article depicting Obama as FDR, with the title "New New Deal", the main article suggesting Obama take tips from FDR to save us from economic depression... little do they realize that FDR did little, aside from get us involved with WWII, to help our economy (he did a lot to increase the size and scope of government, however). Still, pretty interesting to see that more than me thinks this, and that people are so on-board with it already that they're calling for it like I said they would be...
Well, that's how I see things. We'll see how things pan out, I could be wrong on some or all of this, of course. I think I have my bases covered though, and I wanted a time to lay this all out before the holiday season officially hits, so I can have something to point to later should I wind up being right. If I'm wrong, I'm sure I will learn something valuable, so it works out for me nice both ways. As for you, well, I hope you are as good at being poor as I am. Because frankly, we're all going to be pretty poor soon, no matter how you split things. Later,
- Phoebus Apollo