It’s the economy, stupid

expat says:

12:40pm | 22/10/12

The two businesses you cannot go wrong with, drugs trade and arms trade. People will always want to get high and countries will always want to shoot at each other.

St. Michael says:

03:40pm | 22/10/12

And some people seem to want to get high while shooting each other.  See: most of the US Army during the Vietnam War.

Tubesteak says:

10:56am | 22/10/12

The middle class was an aberration of the 19th century after industrialisation gave working class people jobs which competed with their traditional home of being farm workers.

Now that middle-class jobs are going to poorer countries where labour is cheap (thanks largely to mechanisation, reduced trade barriers, the lessening of the tyranny of distance and the rise of Chindia) many of these people will feel the squeeze. They will have to adapt and either move up or down the scale (according to choice and ability). There will only be a few jobs remaining that the middle-class once relied upon. There won’t be enough for all of them.

Also, the US economy won’t “recover” until natural demand catches up with the inflated debt-driven demand of the early 2000s. This will take some time.

AdamC says:

01:00pm | 22/10/12

Tubesteak, while I agree that the process of industrialisation created the middle class, I do not believe that de-industrialisation is destroying it, as such. Most of the middle class in western countries are in service industries like education, helathcare and professional services. High-wage, unionised manufacturing workers are a relatively small part of the middle class.

It is true that the offshoring of some jobs threatens employment in some service industries but, in many of these cases, developing countries do not have the same comparative advantages that they enjoy in traditional manufacturing. It is also worth keeping in mind that comparatively little of the output of developed economies is trade-exposed. Most goods and services produced in Australia and the United States are consumed locally.

Governments should not try to predict the future; they should focus on putting in place policy and regulatory frameworks to assist people and organisations to make their own decisions.

sunny says:

12:38pm | 22/10/12

If that line doesn’t work you could try “Hi Tootie Pie, everything under control?”

http://www.youtube.com/watch?v=UhbmIgAz8cU&feature=related

lower_case_andrew says:

11:10am | 22/10/12

“Not only is it unoriginal and boring, it’s a copy of the founding principles of MacDonalds’ KISS philosophy (keep it simple stupid).”

Not true. You are getting upset about nothing, for the wrong reason.

The KISS principle was given its name by an engineer at Lockheed, not “MacDonalds”.

It’s a useful, real-world philosophy (or reminder) when dealing with complex things.

It’s not calling people “stupid”, it’s calling the PROCESS “stupid”.  As in simple, non-complex.  It’s a DESIRED attribute of a process, in order to make the process workable and understandable.

“It’s the economy, stupid” is a mangling, but the idea remains the same: concentrate on the basics. Get your books in order, live within your means, present real-world policies that impact on people’s lives and wallets.

Good advice for any politician.

In particular, the Canberra Greens right about now…

wakeupcall says:

10:48am | 22/10/12

Yes and what is this so called wealth based on?  Currently high house prices that can drop overnight (think U.S, U.K, Hong Kong, Japan) and an overpriced currency. A currency that is overvalued against the USD makes any wealth figure denominated in USD look good. That can change. We have a trillion dollars in super reserves but they are valued in current stock and currency prices that can fall and stay low. But our unfunded liabilities are also vast - aged care, health care and super payments and degraded and aged infrastructure.  We have a ‘headline’ rate of unemployment of 5% only because vast pools of people (part time and casual workers, students and welfare recipients such as invalid, carers, sole parents and those who have stopped looking, all of whom want work or more work) are excluded. The official ABS underemployment and underutilization figures are the true test and they are double and treble (15%). PM Gillard has conceded on the public record that over 1 million are underutilized. We only appear rich if the measure is GDP per head. GDP is completely dodgy since it measures only activity not useful and productive activity that builds long-term real wealth. Any first year economist knows that. We were once truly rich only because of a small productive population relative to land size and resources. No matter how badly Governed we were rich. Big Australia and mass immigration of unproductive people is changing that dramatically. Yes some immigrants are high skilled but they are a small proportion of the overall intake accounting for family reunion, refugees and others. Many of the best return home or send their wealth back home. People are sick and tired of economic boffins who say ‘its the economy stupid’. No it is the nation and its future stupid. It is real world and real wealth stupid.  The truth is above party politics. Both sides are at fault.

St. Michael says:

10:57am | 22/10/12

“Earlier this month the International Monetary Fund showed that Australia had overtaken Spain to become the 12th-largest economy in the world.”

Big deal.  The Atlantic recently noted that Australia’s banking sector is now quite literally the size of the EU’s own: http://www.theatlantic.com/business/archive/2012/08/australias-banks-are-now-worth-more-than-europes-how-is-that-possible/261137/

And note the reasoning in that article: again, it ain’t because we have a superawesome economy, it’s because pretty much every other nation in the EU has an economy that’s shrunk.  Once again we are thinking floating at the top of the toilet tank is superior to being stuck to the bottom with the rest of the turds.

andye says:

02:05pm | 22/10/12

@St Michael: “Once again we are thinking floating at the top of the toilet tank is superior to being stuck to the bottom with the rest of the turds.”

Seems superior to me. You want your metaphorical turd to escape its bowl? How do we do that? Secede from the Earth?

St. Michael says:

02:21pm | 22/10/12

@ andye: No, I’m proposing that the turd divest itself of US-dollar-denominated assets and start deregulating itself into the sort of nation which encourages massive investment that stays here in Australia.  Not Mal Farr’s beloved “education, tourism, and mining” which are all export industries with no value added—I mean fostering development and playing to our comparative advantages in the market.

That way, when the toilet gets flushed, we might well bob back up to the top again as turds sometimes do.  In one sense, the coming US crisis is an opportunity that only happens once in a generation, and we are very foolish—as the Federal government is—not to be gearing up for it.

St. Michael says:

10:58am | 22/10/12

Congratulations! You’ve figured it out! Now contemplate what would happen if the US dollar’s value tanked, as in the country basically entering a hyperinflation/depression cycle.  I’ve been saying this for years.

St. Michael says:

11:36am | 22/10/12

P.S.: Also, Mahrat: considering China holds roughly 1 trillion in US bonds—i.e. the US owes them about 1 trillion dollars in debt—their continued economic development is tied to the US both financially *and* in having a place for all those melamine-tainted sweets to go.

Tubesteak says:

12:45pm | 22/10/12

You’ll find that China’s reliance on US and European consumption of their goods isn’t that big. Not only is China starting to look inward but they are also looking closer to home.

The real question is the relevance of the US and Europe in the future. If both countries don’t get their act together and stop being hotbeds of middle-class welfare where the citizens vote more taxpayer funds for themselves then they will end up falling far behind.

St. Michael says:

11:05am | 22/10/12

On most of this I agree with you, Greg, except for two sentences:

“The US economy is in terminal decline, no matter who wins the election. Not even Ron Paul could save the US now.”

Here’s the issue on which I disagree: the US has amazingly good fundamentals for an economy.  Indeed those fundamentals are why it’s managed to be both the world’s net creditor and the world’s net debtor in less than fifty years.  First, it’s strategically unassailable, particularly with the doctrine of MAD.  Second, unlike Australia, vast swathes of land through its interior are arable.  Third, unlike Australia, it has a surplus of natural resources to it.  Fourth, and most importantly, it was founded on libertarian principles and the revolutionary (quite literally) idea that a man could come to the US and have a shot at “life, liberty, and the pursuit of happiness”.

All it requires for America to rediscover those amazing resources is, unfortunately, a financial crisis.  That crisis—which is coming—would hopefully then spark a Wirtschaftwunder period in the US economy, in that all of a sudden the government would not be able to afford and would not be suffered to impose all the draconian restrictions on labour, entrepreneurship, and profit that currently hamstring them.  Hopefully, oligopolies would tumble and America would be back to becoming a nation where small business drives its recovery on a massive scale.

In spite of my doom and gloom predictions, I’m an optimist on this front.  It’ll be a very, very rough ride for the US and, to a lesser extent, the world between now and then, but I think the US will be back.

Greg says:

12:10pm | 22/10/12

St. Michael, I can’t agree that the US has good economic fundamentals.

Its national debt is increasing exponentially, its budget is in deficit and is forecast to remain in deficit for at least another decade, and its balance of trade is negative and declining. These are all long term established trends.

Since WW2, US economic success has been based upon the acceptance of the US dollar as the standard international currency, and the willingness of foreign countries to invest in US treasury bonds. However, this willingness of other countries to fund US debt is coming to an end. The value of the US dollar is falling, just as the British Pound Sterling did after WW1. The only thing delaying a collapse is the lack of a viable alternative international currency, as the Yen and Euro have their own problems.

I agree that the US is still the most powerful country in military terms, but military strength cannot survive unless it is supported by a strong economy. There are numerous historical examples of this fact, and furthermore the US military is in fact a huge drain on the US economy, consuming 20% of all tax revenues.

Arable land and natural resources are not always associated with economic success, as indicated by countries such as Nigeria and Zimbabwe. A better indicator would be a country’s culture and work ethic, which were crucial to the US economic achievement in the first place.

That is the primary reason why I don’t expect the US to recover, as it has from previous economic disasters. The US is not the same country that it was in the 1930s. Half of its population depend on welfare, and have developed an entitlement mentality. Demographic trends indicate that this number will increase. Free trade agreements have resulted in outsourcing of jobs to foreign countries. Government red tape has increased exponentially.

Unfortunately the US is no longer the land of the free. It has abandoned its founding principles. It is an empire in terminal decline. Whoever wins the Presidential election should ask for a recount.

St. Michael says:

01:36pm | 22/10/12

@ Greg: “Half of its population depend on welfare, and have developed an entitlement mentality. Demographic trends indicate that this number will increase.”

That, paradoxically, is the reason for my creepy optimism.  Eventually, the US won’t be able to afford those entitlements.  It will have to stop them—whether to avoid hyperinflation or after it happens, those entitlements will end.

When that happens, either the foundational US fighting spirit will get the country back off the ground, or bilions will starve.  It is as simple as that.

Greg says:

02:16pm | 22/10/12

@St. Michael, well it seems that we agree that a major US economic collapse is pending, the point at issue is whether they will recover from it.

I sincerely hope that you are right, and that they will recover. The alternative will be bad for everybody, at least in the short to medium term.

It’s not that I undervalue “the foundational US fighting spirit” or “libertarian principles” or whatever we call that culture and creed that brings success, on the contrary, I believe that it is essential.

I just don’t believe that there will be enough of it remaining to trigger a recovery, certainly not nationwide across the USA anyway. It’s possible that some regions could recover, if they are not held back by other regions.

Just like the Roman Empire could never recover after it collapsed at the end of the 5th century, the creed of its founders had become too diluted or just forgotten and replaced by a creed that “everybody wanted to live at another’s expense”.

Extended lengths of economic success makes people lazy and wasteful. They become content and avoid confrontation, and they attract parasites. Eventually the parasites overwhelm the host, and that’s where the US is now.

You can’t expect the parasites to become a new host after they have sucked it dry. It’s not in their nature. They will just die if they can’t find another host.

Esteban says:

02:21pm | 22/10/12

Greg. No civilisation ever stands the test of time.

St. Michael says:

02:33pm | 22/10/12

@ Greg: well, at this point it’s crystal ball gazing by both of us, so we might leave it at that.

Although perhaps the most pessimistic scenario, and probably unlikely, is the breakup of the US into several nuclear-armed constituent small nations, similarly to the way the Roman Empire did.

...okay, the Roman Empire didn’t have nuclear weapons, but you get the point.

Mount says:

10:19am | 22/10/12

“Obama’s wasteful stimulus”

Yeh, he should have gave ALL the money to the banks,
It’s what Mitt would have done.

evelyn says:

10:59am | 22/10/12

Who cares whether it is Obama or Romney who does the wrong thing. I don’t. Neither side of politics should do the wrong thing by privatizing profits and socializing losses. Obama has done just that with his ‘too big to fail - Geitner can do no wrong’ philosophy. But neither side will be held properly to account if they can simply continue to evade accountability by inducing people simply to take sides in a mindless left v right battle.

Esteban says:

11:56am | 22/10/12

I don’t think it is the many small things Monty.

The big problems are causing the biggest problems and you touched on one of them in health.

People think the US defence budget is a problem but it is tiny compared to the two biggest lines of expenditure in medicare and medicaid.

How often when Governments meddle they have the opposite effect in the end. Health care is less available despite the massive sums of money pumped into it.

In fact it is the pumping of more money into the system that creates the medical inflation that makes it more inaccessable. The government’s response of course is to pump more money into it and the problem compounds.

Here in Australia we can see that medicare is the foundation of medical inflation and if you time travelled back to the pre medicare days you would find that most people had greater access to health care then than now.

The answer is to start paring back on the size of government except in things like defence which we don’t want in the hands of the free market.

sunny says:

12:47pm | 22/10/12

The clue (albeit a subtle clue) that people with a poor credit rating might not pay back their loan lies in the fact that they are people with a poor credit rating.

http://www.youtube.com/watch?v=wqeQ7s9V7kw&feature=relmfu&t=05m43s

HC says:

11:49am | 22/10/12

Meh, they’re idiots, the great thing about idiots is watching the horror on their faces as they find out these things for themselves

The anarchist in me would love to see what happens if the US really tanks, should be good for a laugh or three… and I know, human misery and mutually-assured-destruction and all that crap, but still…

St. Michael says:

12:03pm | 22/10/12

HC: I understand schadenfreude, but it’s not quite so funny when you consider that if the US gets hit, China gets hit, and therefore we get hit by the implications of this crisis.

craig2 says:

12:39pm | 22/10/12

They are saying early next year the US will crash along with Europe, so your on the right track.

Esteban says:

12:58pm | 22/10/12

the Federal reserve has felt emboldened to undertake QE3 because “inflation” has not taken off yet despite QE 1 and QE2.

Like Australia “inflation” is measured by a limited basket of goods and also like Australia there is debate that it does not represent the true inflation picture.

But where is it written that inflation caused by QE will flow directly to inbflated consumer prices?

Is the US seeing inflation in gold and share prices? Is this the starting point of QE initiated inflation to be followed by commodotity price increases (look at oil)  then finally consumer prices by which time it will be too late to stop QE.

In any case if the definition of inflation was “increasing the money supply” then in reality QE must be seen as inflation not the cause of inflation.

Why are there no really smart people putting up there hand to be US president? Because if you are smart you would never do the job given the way events are going to unfold.

Re elect Obama and then they can blame it on the black guy.

St. Michael says:

01:34pm | 22/10/12

@ craig2: I’m not talking about a market crash resulting from people being taxed more, mate.  I am talking about a run on the US dollar resulting from major institutions finally concluding that the US will not or can not pay its debts.  That’s a scenario distinct from QE 1, 2, and 3, mostly because a run on the dollar will also kick the Fed’s money printing operations into high gear.

Maybe the fiscal cliff will cause that, maybe not; at this point it’s a matter of which straw breaks the camel’s back, not if it will.

St. Michael says:

11:51am | 22/10/12

David Murray was right, and so is your post.

Well, aside from what Tony Abbott’s going to have to do.  Frankly I don’t trust either of the bastards to do the right thing by Australia; just as America has a choice of two parties which would be seen as different shades of The Right, Australia has a choice of two parties which are different shades of The Left.

AdamC says:

12:04pm | 22/10/12

David Murray’s comments are true and untrue. For one thing, Australian governments have swum in cash during periods of lower commodity prices. Remember the Howard era? The difference, of course, is that the exchange rate was much lower and we were in a very nice, very long upswing in the business cycle.

Your point about the cash churns that occur due to family tax benefits is accurate, but is really an argument for simplification, rather than removing assistance to families with children. DINKdom would become a tax shelter were that to happen.

PJ says:

12:53pm | 22/10/12

Good points

Howard had the advantage of not having huge borrowings with accompanying interest, that have help to drive the High dollar during the current Labor era.

St. Michael says:

01:31pm | 22/10/12

Well, for full disclosure, I recommend John T. Reed’s website (http://www.johntreed.com) under his “headline news” articles for education in this area.  His self-published, self-distributed book “How to prepare against hyperinflation and depression” is well-researched and convincing, albeit it deals solely with the US problem.  The bibliography of the book alone reads like a complete course on monetary policy and economic theory.  You’ll find a lot more about the subject there.

Not sure where exactly to start with your query, but let’s start with one historical truth: there is no government on this planet, going back to Constantine in 300 AD and further, that at some point has not screwed its own people by manipulating the currency.

Be it explicit defaults or implicit defaults on their debts, governments always eventually run out of money to pay for their promises.  Historically their response to that crisis is the same every time: devalue the currency, pay back debts with worthless coinage, and blame the resulting price rises on other classes of society or (in our era) big business.  It is, in short, a theft from a nation of the value of the dollars they hold in their pockets.

Constantine—who people will probably recognise as the first “Christian” Roman Emperor—did it by demanding his citizens turn in all their currency, which he then halved the metal content in—silver, from memory—and then reissued the currency with half, keeping the other half for himself.  In a stroke, he had doubled the supply of money, and halved the buying power of his own people.  He had, in effect, created a 100% inflation rate more or less overnight.  And he did it to pay his way out of trouble, because the one thing a Roman emperor had to fear was not the mob, but the prospect of the legions being unpaid.

At its simplest, we are seeing the same theft of value with QE 1, 2, and 3.  When the government introduces a *lot* of money into the economy—whether by spending too much, or simply printing money—it destroys the value of that currency.  The $20 note in your pocket is suddenly no longer worth $20—it’s only worth $15, or $10.  This is because money is subject to supply and demand like any other commodity on the planet: the more there is of something, the less it’s worth.

It’s very important to understand this, because the value of currency rests only on trust.  There is no gold backing a US or Australian dollar.  Your dollar’s $20 of value only rests on the promise of the government not to devalue that piece of paper.  When people think a government has or is about to break that promise, what happens is a run on the currency: people desperately try to get rid of that currency before it becomes worthless.  They try to trade it for hard commodity goods (smart), other currencies which are stable (smarter), or gold (not smart.)  Credit becomes useless, because the one thing a lender fears is that you’ll pay them back in worthless coinage; nobody can work out what the interest on a loan should be.

This is the nightmare of hyperinflation.

A debt-to-GDP ratio is a liars’ tool at the best of times, but it’s worth understanding.  I term government debt, or national debt, as the money that a Federal government owes, whether in straight out loaned money or in bonds—term deposits drawn on the government—to people, foreign or domestic.  But bonds are like shares; they, too, can be bought and sold.  Where you have large volumes of bonds issued—as Spain and Greece did—then you are vulnerable to a run on the bond market, i.e. people panicking and selling off their bonds at successively lower and lower prices.

GDP is gross domestic product—the entire money produced by a country.

Now, if, as with the US, you have a debt-to-GDP ratio of 100%+, your country has so much debt that if that debt were called in at one time, taking literally every dollar out of the country could not pay the debt.  Admittedly, all of that debt being called in at once is unlikely, but as that ratio gets successively higher and higher, the likelihood of you getting the money you lent to the government (by bonds) gets lower.  It becomes more and more likely the government will outright default on its debts, or inflate its currency to pay you back with worthless money, which amounts to the same thing.

More later…

St. Michael says:

02:17pm | 22/10/12

Part 2…

GDP, it must be remembered, is not the government’s income.  The government only gets income from one source: the taxes it raises on its population.  Government produces nothing and holds no intellectual property; that is the domain of the private sector, thank Christ.

The only other methods a government has for raising money (aside from taxation) are to devalue (or debase, as it’s sometimes called) the currency, or loan that money.

So how much money does the Australian government owe, for example? Easy - go to http://www.aofm.gov.au.  It has the number right there on the front page: the total “issued securities”, in other words, the total number of bonds it has issued - money it is holding from investors, whether Australian or overseas.  Our issued securities are about $250 billion or so at the moment, so think of that as Australia having $250 billion on its credit card.  (Our credit card limit—as set by the Loans and Securities Act 1906—is actually at this mark: $250 billion as well, raised very quietly by 25% in the last budget.)

How much income does the Federal government have?
If you look at the ABS and the AOFM, it wavers between 245 and 264 billion per year.  You read that right.  Australia, as a Federal government, owes the equivalent of roughly its entire annual Federal income on its credit card.

The analogy is not perfect, I grant you: like I said, bonds theoretically aren’t able to be called in immediately.  But Australia is seen, at least at the moment, as a good credit risk: our debt-to-GDP ratio is about 20% or so, which historically doesn’t uuuusually result in sudden economic crashes.

Compare that with the US, which has a Federal debt of $17 trillion, and only collects about $2 trillion annually, which has to service that debt *and* pay for all of the US Federal government’s operations, including its massive war machine, its massive retirement benefits accruing to that war machine, and (the biggest debt) its Social Security commitments.

Would the “Ryan plan” of the Republicans fix that? Nope.  Ryan’s plan is to balance the US budget 28 years from now - not repay the national debt.  All it will do is slow the growth of that debt slightly.  And Obama is not planning to slow the spending at all.

Can the US grow its way out of that debt, as the Left generally says? Nope.  Hauser’s Law, that’s why.  The economic growth required would be in the order of double digits—10% or better—which historically just does not happen.  The Chinese themselves, in the biggest boom period they’ve ever had, and with a draconian legal system supporting them, only pulled around 7 or 8%.  There is not a snowball’s chance in hell the US will match that without dismantling most of its paraphenalia surrounding labour, environment, and government regulation.  And even if it did the government, per the Laffer Curve, would be unlikely to collect enough tax to pay down the debt enough.  More of the calculations surrounding this are in the book “The Coming Generational Storm”.

The only way it can be fixed, to stop the debt going any higher, is to immediately cut all US Federal spending by 50%.  Given the parties are contemplating doom just on the end of tax cuts, there is no chance a US political party will ever go to Congress with a plan to cut that deep.  The problem is, eventually they’ll have to do so; the government simply will run out of borrowed money and borrowed time alike.  Leaving it longer only increases how deep the cut has to be.

What is happening in Greece and Spain is similar to what the US faces in a couple years’ time, with one crucial distinction: Greece cannot hyperinflate, because it does not control its own currency.  It either cuts its spending, or it leaves (and thereby probably collapses) the EU.  The euro can only be printed by the EU itself, which Germany and France largely control.

Up until recently, they had been resisting the temptation to print—but, on pressure from every other debt-ridden country in the EU, not to mention pressure from Obama himself, it now looks like they will be printing Eurobonds, i.e. printing money.

Greg says:

05:33pm | 22/10/12

St. Michael, while don’t you like gold?

It’s just another currency, and it is the only one without counterparty risk. What other stable currency is there?

There is nothing magical about gold, but it was selected out of all of the other hard commodities throughout history because it had the best monetary properties.

It is durable. It is easily divisible. It has concentrated value, making relatively large amounts of wealth portable. It is rare, so its value cannot easily be diminished vis inflation. And it is uniform, so an ounce of gold is worth the same as another ounce.

Politicians hate gold because it prevents them from inflating the currency, so it has some powerful enemies, but it is the only store of wealth that has stood the test of time.

St. Michael says:

06:05pm | 22/10/12

@ Greg: Rather than blow out the page length hugely, I’ll simply direct you to this page about the disadvantages of owning gold as a hedge against inflation and hyperinflation: http://www.johntreed.com/golddisadvantages2.html

Some of it is in the US context, but much of it is translatable to Australian conditions.

Note in particular one thing that the above article doesn’t mention: we have provisions in Australia to unilaterally seize gold of all kinds from private citizens: section 40 of the Banking Act 1960.

The finance minister claims that section is currently “suspended”.  That is a lie.  There’s no such thing at a “suspended” legislative provision.  Either a law is on the books or it’s repealed.  And if it’s on the books, it can used.  Not to mention that if it’s “suspended”, it would probably take five seconds on the phone to Ms Gillard to un-“suspend” it. 

Section 40 authorises the Governor-General—not the Parliament—to make orders for gold seizures.  And the GG acts on the PM’s command (absent 1975).  No vote in Parliament required.

You are exactly right when you say governments don’t like people owning gold because it provides a means of trade in other than the government’s debased currency.  But you don’t think governments have thought of this, too? For that very reason, governments always seize gold first when capital controls or financial repression become necessary; see the history of Executive Order 6102 in the Great Depression—Americans themselves were not permitted to own gold again until 1972.

We are one of the few nations in the world that have similar such capital controls available, and for that reason, amongst others, you would be foolish to set store in gold as something the government will let you keep if there is an Australian financial crisis which having gold could avert.

Added to that, gold is well above its historical mean value at present.  It therefore is way overpriced, and in financial crises, reversion to mean is fast and swift for everything including gold.