Wednesday, January 16, 2008

maybe a depression is the solution

Anna Schwartz, a very influential and very old economist whose expertise is the first depression and how the Fed Reserve Bank caused it, has gone on record stating that we are in a similar position today and the Fed Reserve Bank is not doing enough to avoid the doom:

"The lesson of the 1930s is that swift action is needed once the credit system starts to implode: when banks hoard money, refusing to pass on funds. The Fed must tear up the rule-book. Yet it has been hesitant for three months, relying on lubricants - not shock therapy."

in the last three months, the Fed has dropped the reserve rate twice and held loan auctions for institutional banks (essentially providing very low cost capital to banks). these actions are referred to as lubricants because they add liquidity (money that can be moved).

the claim is that at least some of the banks are insolvent (their debts are greater than their assets) or soon will be. in this case, no amount of liquidity will help. lubricants are useless.

so, she recommends "shock therapy." unfortunately, this part of the analogy goes undefined, except obliquely as requiring that they "tear up the rule book."

in sum, possibly the highest living authority on the subject thinks that we are on the brink of a depression, that the institution charged with pulling us away from the edge is acting ineffectually, and that there is no specific rule in the rule book for how to respond.


ultimately, the only action the Fed can take is to provide cheaper loans to banks and i'm not convinced that is such a great way to get out of problems that have been created by too many people taking out too many loans. maybe we need a depression to clean our system of our excess debt and to pull us away from our consumption-driven lifestyle economy.

if we include peak oil, climate change, and social security and medicare commitments into the discussion of a 5-10 yr housing price stagnation or decline, all of a sudden the first depression doesn’t sound so bad anymore. as a nation, we are insolvent and getting more so.

all we had to deal with for the first depression was leveraged asset speculation, a drought, and a dumb Fed. you could say that the situation this time is much much worse.

70% of our economy is consumer spending. a serious recession, it seems, could lead only to a major depression as lending standards and purchasing power across the board contract and our highly leveraged economy is forced to unwind.

maybe a depression is the solution.

that being said, i was in a starbucks for the first time in almost a year last night and it was bumping. standing room only. if there are recessionary fears and cutbacks in consumer spending, this crowd certainly hasn't heard about them yet. at $5/cup for a 50 cent commodity, this should be one of the first luxuries to go.


TheBehst said...

Then it's settled. I will keep reading your blog. I will come down with my own personal depression. The whole future will be resolved. I live happily ever after.

Wow! This is the first time I've made concrete plans for the future.

shaun said...

just be wary of any extremely old lady economists who say they've got just the right therapy for you.