Saturday Morning Essay: The Hall of Mirrors Economy

Once upon a time in a blog post far, far away, I made a prediction which was stunning in both its scope and later accuracy. I wrote that the stock market would fall at least 35% from its 2007 Dow high of 14,000.  I made this prediction long before the stock market started falling.  As it turned out, the Dow "over-corrected" and kept heading south from 9,000 or so.

My prediction was based mostly on a single data point which I had gleaned from the writings of Kevin Phillips, in books he published in 2004 and 2005.  Perusing this very intelligent man's writings, I was struck by the essential role which the Housing Bubble played in the maintenance of the "consumer economy" which gave the United States its illusion of prosperity.  Mr. Phillips informed us that between about 2000 and 2005 about half the apparent "income" fueling the consumer jamboree was actually money derived from re-fi, house sales, and equity lines of credit (LOC); in other words, the house as piggy bank.  Since it seemed to me that the Bubble could not be sustained (because it depended on financing tricks such as "teaser rates" and variable interest loans which would reset and bring reality crashing down on the borrowers), when it popped about half the money apparently in circulation would vanish.  Since consumerism is 70% of the American economy, this implied a 35% drop in the economy.  To the extent that the Dow reflected underlying economic fundamentals, it would show up there as a massive sell-off.

My ideas were not based on "conspiracy theories;" indeed, I was trying to find, to the limits of my ability, the underlying Reality of the U.S. economy.  Meanwhile, the Grand Poo-Bahs of the intellectual elite in America were doing their best to confuse the issue.  This effort was led by the New York Times and its Gaggle of Morons in the Op-Ed department.  Maureen "I Hate Men" Dowd, Tom "Globalization" Friedman, Paul "Just Print Money & We'll Be Fine" Krugman, David "Even If In the Middle Is Over the Cliff, That's Where I Want to Be" Brooks, Gail "Here's Another Fatuous Column" Collins, and their ace staff of reporters who provided the echo chamber for the Bush Administration's sale of the Iraq War.  As Bob Somerby, he of the felicitous turn of phrase and nice fall-away jumper, put it in The Daily Howler, "We are where we are because of these people."  The moral of the story is straightforward:  Just listen to varsity basketball players from the Mid-Peninsula League of the mid-1960's and you'll be fine.

Paul Krugman and his academic chum in the Princeton Economics Department, Ben Bernanke, failed to see the housing bubble until it was much too late.  Since Kevin Phillips is not one of their Economic Mandarins, they thought he could be safely ignored, even if Phillips was much smarter than both of them put together.  As the housing bubble burst, Ben Bernanke was assuring Congress in live testimony that it was not bursting.  Few men have been so utterly wrong about something so fundamental in such a public way.  His chagrin at his stupendously wrong call must have produced a determination in Bernanke that history could be reversed, as in a sci-fi movie, and he could re-engineer the housing bubble, the stock market bubble, and, for that matter, the Bubbles of Lawrence Welk and the Champagne Orchestra.

Cheered on by Krugman & the Morons, Bernanke began printing money and becoming a one-man enabler of profligate federal spending by buying up every Treasury bond he could find and scarfing up all of the country's shitty loans smooshed together in mortgage-backed securities (MBS).  Goddammit, he muttered, I'll show them.  Krugman provided the intellectual cover for this insanity by insisting that the ultra-low rates paid by the federal government had nothing to do with the Federal Reserve's role as the ultimate buyer of 75% of the Treasury issuance, or as establisher of the nation's short-term interest rates.  Nothing to do with the Fed's position now as the world's single largest holder, by far, of Treasury bonds.  And as for printing money, the U.S. economy is exactly like a baby-sitting co-op in Washington, D.C., so there's no problem.  Go ahead: google "Krugman and baby-sitting co-op" and see what happens.  I dare you.

Thus, Tom Friedman, perhaps the stupidest influential writer in the history of the Republic, gave us globalization, that Royal Road to Perdition on which we have traveled since about 1980.  And Krugman has given us the The Return of the Bubbles.  Bob Somerby:  nuthin but net. 

Fortunately, we have Gail Tverberg, writing at Our Finite World, to provide much needed doses of clarity and common sense.  In one stunning post (her latest), entitled "Twelve Reasons Globalization Is A Huge Problem,"  she dispenses with the illusions of globalism and money-printing in two simple paragraphs:

 At this point, high oil prices together with globalization have led to huge US deficit spending since 2008. This has occurred partly because a smaller portion of the population is working (and thus paying taxes), and partly because US spending for unemployment benefits and stimulus has risen. The result is a mismatch between government income and spending (Figure 11, below)...

Thanks to the mismatch described in the last paragraph, the federal deficit in recent years has been far greater than the balance of payment deficit. As a result, some other source of funding for the additional US debt has been needed, in addition to what is provided by the reserve currency arrangement. The Federal Reserve has been using Quantitative Easing to buy up federal debt since late 2008. This has provided a buyer for additional debt and also keeps US interest rates low (hoping to attract some investment back to the US, and keeping US debt payments affordable). The current situation is unsustainable, however. Continued overspending and printing money to pay debt is not a long-term solution to huge imbalances among countries and lack of cheap oil–situations that do not “go away” by themselves.

Krugman and Bernanke will never admit that a plain-spoken insurance actuary from the Midwest can run circles around them analytically, and so we'll continue crashing into walls in our Hall of Mirrors Economy, which will stagger along for a while yet (as long as the U.S. has the reserve currency and the rationale for buying our scrip in order to participate in the global oil market persists).  But, as Gail says, "it's not a long-term solution."  We don't have any long-term solutions.  Take it from the two-guard.  I've got a clear look at the hoop, and this one's money.

Three Economic Theories in Search of the Facts

(I think the blog post works better if you're playing the Talking Heads while you read.)

I remind myself periodically that "Economy" was the first and longest chapter of Walden.  Thoreau used the term in the broadest possible sense: the nature of the transaction between humans and Earth by which we sustain our survival.

Thoreau was a generalist; indeed, you might say he was the generalist's generalist.  He did it all - farming, building, foraging and maintaining his vital heat under rudimentary conditions in Massachusetts around 1840.  Modern Americans are not so lucky.  As a rule we pick out some narrow specialty by which to earn a living, then use the money received to buy everything that Thoreau garnered through physical effort in a direct, hands-on way from the environment.  Our existences are "mediated."  In a way we're all like household pets: completely dependent on the functioning of our "masters" running huge agri-business, bringing oil from Saudi Arabia, drilling for natural gas deep under the floor of the Gulf of Mexico, then piping it thousands of miles to the furnaces in our basements.

In recent years something seems to have gone wrong with the "organic society," the gizmo made of wheels, springs, sprockets and gears that keeps us all warm and fed.  For many people living in modern Western societies, including denizens of the United States, the system does not appear to be working.  The "specialized" jobs just aren't there.  When you get right down to it, that's the most important function of a modern economy.  It has to give people something they can do through which they can earn money so they can buy all the stuff they need in order to maintain their vital heat, and, if that doesn't take up all their time (which it usually does), to create a little "margin" so they can enjoy the experience of being alive.  (Thoreau reckoned it took him a few hours out of the 168 available weekly to do everything he needed to do to survive.  I leave it to you to judge the wisdom of the modern bargain with Planet Earth.)

As I have noted numerous times in recent weeks, the actual number of jobs in the United States has been stuck at around 132 million for well over a decade.  The employment rate of the working age population (ages 15 to 64) in the U.S. is down around 62%.  Despite this, we're told that the U-3 unemployment rate is 7.9%.  Such a percentage is generated by playing games with the numerator and denominator used to calculate it.  In turn, the games are motivated by political considerations: the desire of the parties in power (always the same two) to look good.  Common sense tells you that the population of the United States has not been stagnant for over a decade.  It grows at a rate slightly over 1% per year, or three million, so while the number of jobs has remained fixed, at least 30 million people have moved into the job pool during the same decade, roughly speaking.

There appear to be three major theories about why America has hit the economic wall.  The first is that a medium-sized investment bank, Lehman Brothers, failed in 2008, and this sent a "financial shock" through the system from which we just can't seem to recover.  This is the favorite, I think, of the academic economists, who like historical perspectives and "cyclicality."  I call this theory the "whistling past the graveyard" approach, since it implies this will all be over soon if we just wait it out.

The second theory concerns environmental/resource depletion factors, and in particular the high cost of the "master resource," petroleum, which is up around $100 per barrel.  This high cost finds its way into virtually everything: food production (fertilizers, transporting food to market); driving cars to work; international shipping; pharmaceuticals; and airline travel.  It represents a huge and hidden tax on everything we do.

The third theory is that America and other Western countries have simply "matured out" of their prime years of affluence.  How many more baubles (expensive cars, McMansions, flat-screen TVs) and unnecessary services (massages, tanning sessions, party planning) are we really planning to buy to give meaning to our lives now that the Baby Boomers (the ones with all the money) have reached the age where all of these things are more annoying than sources of diversion and pleasure?

For my money, I would reject the first theory out of hand as a piece of academic gobbledegook, the kind of thing that professors with very little experience of the real world would argue about in the faculty lounge at Princeton.  The second and third theories together, however, might be combined into one Grand Unified Theory of Economic Senescence which explains the crisis of the affluent society.  And indeed, we've really got a helluva problem on our hands now.

Having severed the natural relationship between Homo sapiens and Earth, we are now dependent, as noted, on the economic gizmo in order to stay alive.  The gizmo, however, is broken and cannot provide, under our capitalist system, the employment necessary for a very large chunk of the population to get by.  The "demand side" liberal economists (Paul Krugman, Robert Reich, Dean Baker) claim that the problem is "inadequate demand" from the population for goods and services.  Yet let me ask you this:  can you think of a single thing, anything, that you need or would simply like to have that you could not find, right now, by driving a few minutes?  What would that thing be?  Food?  An electronic device? A pair of jeans?  A tank of gasoline?  We have all those things in fantastic surplus.  You're probably not producing them and neither am I.  They're just there.  Who is supplying them?  Large monopolistic companies are providing them, that's who.  Large monopolistic companies that are doing everything they can to eliminate the employment of actual people through robots and other automation, who seek to become more and more "efficient" by getting rid of people with their incessant need for 'health care" and benefits and "workers' rights." 

The demand for the products and services of a few large monopolies (Wal-Mart, Costco, Home Depot, General Motors, Toyota, Standard Oil, BP, Shell, Dupont, Cargill, Monsanto, Archer Daniels Midland, Merck, U.S. Airways/American, United/Continental, Apple, Microsoft) is currently enough to keep them in business. They supply everything we need.  The "demand" for the vanished services and products of the Bubble Economy which existed in various forms between about 1992 and 2007 is gone, along with the money.  The Bubble years (dot.com, then the housing bubble) provided cash sources for sustaining all of the "discretionary" economic activities which proliferated when (a) cash existed for the commoners and (b) the cost of energy was cheap so that "discretionary cash" remained relatively plentiful.

Those conditions aren't here anymore. They aren't likely to return.  They were conditions which existed once in a lifetime.  Into the blue again, after the money's gone.