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Dress Rehearsal
February 1, 2010
By Andy Xie
The first decade of the 21st century ended with a near-death experience. But financial markets that collapsed in 2008 have roared back in the decade's closing year, with Time magazine naming Ben Bernanke "Man of the Year" for "saving" the American and global economies. The mood symbolizes the ‘free lunch forever'ethos of the decade-long party that crashed and burned, only to be bailed out to party again. Bernanke is viewed as a savior because no one wants to take responsibility for what happened and wishes Bernanke could erase the past.
The magic ingredient for resuscitating the financial markets and the world economy has been trillions of dollars of bailouts. That money, not a better economic future, saved the financial markets. It has led to an emerging markets bubble that is supporting the global economy. It will take time for the money to become inflation, but when it does it will show the true cost of the crisis. With the world economy still not structured for another growth cycle, stagflation may stalk the world for a decade.
The two decades following the fall of the Berlin Wall will be remembered as a gilded age. After the ideological struggle of the Cold War, the world embraced globalization and making money in any way possible. The pursuit of profit became the most powerful force shaping the world. Factories were moved to wherever wages and environmental standards were lowest. Local neighborhood shops were put out of business by superstores on the outskirts of towns. Wherever regulation stood in the way, deregulation took its place in the name of efficiency.
This relentless cost-cutting has meant a rising share of income for capital and a declining one for labor. If this trend is left unchecked, deflation will follow to destroy returns for capital, as working consumers have less income to buy the abundant products that capital produces.
Financial capitalism, though, extended the profits firms were making. By shifting capital into paper assets, it killed two birds with one stone. Workers could support their consumption by borrowing against asset appreciation, supporting the returns on productive assets. Capitalists could deploy their surpluses into paper assets, indirectly lending to consumers, rather than physical assets that would hamper returns. This happy combination continued to shift income from labor to capital. The boom laid the seeds for its own destruction. The capitalists were unknowingly paying for their profits by lending to consumers with overvalued paper assets as collateral.
Two decades of income shifting to capital and asset inflation came to a halt last year when derivatives were exposed as frauds rather than ingenious designs that reduced risk to capitalists with no cost. The lower level of consumption in the future will significantly lower capital's returns. And without asset appreciation to supplement lower wages, workers will demand higher pay. Contrary to the popular belief that a weak economy means low inflation, the opposite will occur this time.
The right response to this crisis would have been to nationalize failing financial institutions, restrict speculation with implicit or explicit government guaranteed funding, subsidize employment, and expand unemployment benefits. Capital mis-pricing is the root cause of the serial bubble phenomenon. Reforms that lead to the right pricing of capital would trigger real economic restructuring and lay the foundation for a new growth cycle.
However, the "bubble establishment" had the clout to obtain government bailouts that saved their skins but cost taxpayers trillions. Taking advantage of the public panic in the crisis, they sold the story that only reviving the financial sector could stem the economic slide. It was a lie. Directly supporting the unemployed would have cost a fraction as much, while also stabilizing the economy. The remaining fiscal capacity could be used to support economic restructuring.
This round of financial capitalism won't last. The lag between printing money and inflation may be long in the era of globalization, but it will come. China was a disinflationary force for a decade due to large quantities of surplus labor and over investment; American prices for manufactured goods declined to China's level through factory relocation. This process is over. China's prices are the world's; its production costs are sure to rise as manual labor dries up and land prices rise. China can no longer hold back inflation during a period of rapid monetary growth.
Global inflation will begin to rise next year. Central banks may raise interest rates, but they will be behind the curve – rates will rise slower than inflation. At heart they will want to maintain loose monetary policies to help growth. Raising rates will be propaganda for cooling inflation expectations – fooling savers into holding onto depreciating bank deposits. But procrastinating about fighting inflation will only cause inflation to surge. By 2012, inflation might be high enough to cause public panic. Central banks will be forced to raise rates quickly, and a second financial collapse could follow.
The world had a near-death experience in 2008. It may not be so lucky in 2012.
http://www.cibmagazine.com.cn/Column...rehearsal.html
February 1, 2010
By Andy Xie
 |
| Chinafotopress |
The magic ingredient for resuscitating the financial markets and the world economy has been trillions of dollars of bailouts. That money, not a better economic future, saved the financial markets. It has led to an emerging markets bubble that is supporting the global economy. It will take time for the money to become inflation, but when it does it will show the true cost of the crisis. With the world economy still not structured for another growth cycle, stagflation may stalk the world for a decade.
The two decades following the fall of the Berlin Wall will be remembered as a gilded age. After the ideological struggle of the Cold War, the world embraced globalization and making money in any way possible. The pursuit of profit became the most powerful force shaping the world. Factories were moved to wherever wages and environmental standards were lowest. Local neighborhood shops were put out of business by superstores on the outskirts of towns. Wherever regulation stood in the way, deregulation took its place in the name of efficiency.
This relentless cost-cutting has meant a rising share of income for capital and a declining one for labor. If this trend is left unchecked, deflation will follow to destroy returns for capital, as working consumers have less income to buy the abundant products that capital produces.
Financial capitalism, though, extended the profits firms were making. By shifting capital into paper assets, it killed two birds with one stone. Workers could support their consumption by borrowing against asset appreciation, supporting the returns on productive assets. Capitalists could deploy their surpluses into paper assets, indirectly lending to consumers, rather than physical assets that would hamper returns. This happy combination continued to shift income from labor to capital. The boom laid the seeds for its own destruction. The capitalists were unknowingly paying for their profits by lending to consumers with overvalued paper assets as collateral.
Two decades of income shifting to capital and asset inflation came to a halt last year when derivatives were exposed as frauds rather than ingenious designs that reduced risk to capitalists with no cost. The lower level of consumption in the future will significantly lower capital's returns. And without asset appreciation to supplement lower wages, workers will demand higher pay. Contrary to the popular belief that a weak economy means low inflation, the opposite will occur this time.
The right response to this crisis would have been to nationalize failing financial institutions, restrict speculation with implicit or explicit government guaranteed funding, subsidize employment, and expand unemployment benefits. Capital mis-pricing is the root cause of the serial bubble phenomenon. Reforms that lead to the right pricing of capital would trigger real economic restructuring and lay the foundation for a new growth cycle.
However, the "bubble establishment" had the clout to obtain government bailouts that saved their skins but cost taxpayers trillions. Taking advantage of the public panic in the crisis, they sold the story that only reviving the financial sector could stem the economic slide. It was a lie. Directly supporting the unemployed would have cost a fraction as much, while also stabilizing the economy. The remaining fiscal capacity could be used to support economic restructuring.
This round of financial capitalism won't last. The lag between printing money and inflation may be long in the era of globalization, but it will come. China was a disinflationary force for a decade due to large quantities of surplus labor and over investment; American prices for manufactured goods declined to China's level through factory relocation. This process is over. China's prices are the world's; its production costs are sure to rise as manual labor dries up and land prices rise. China can no longer hold back inflation during a period of rapid monetary growth.
Global inflation will begin to rise next year. Central banks may raise interest rates, but they will be behind the curve – rates will rise slower than inflation. At heart they will want to maintain loose monetary policies to help growth. Raising rates will be propaganda for cooling inflation expectations – fooling savers into holding onto depreciating bank deposits. But procrastinating about fighting inflation will only cause inflation to surge. By 2012, inflation might be high enough to cause public panic. Central banks will be forced to raise rates quickly, and a second financial collapse could follow.
The world had a near-death experience in 2008. It may not be so lucky in 2012.
http://www.cibmagazine.com.cn/Column...rehearsal.html
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