Tuesday, October 07, 2008

The Sick Patient: the Global Economy

Today, watching some of the coverage of CNBC of the global financial crisis, we had the address of the Fed Reserve Chairman, who said all the money he injected will somehow be reabsorbed but it is not his primary concern i.e. inflation. The message hit the markets like a ton of bricks because the abandonment of the inflation as the primary concern and instead a focus of "reflation" implies a deflation going, on top of the crisis in confidence in the credit markets.

That crisis has been going on since February when the commercial paper market hit a dead end, with new issues not being accepting by banks on credit concerns of the underlying company's and the lack of the ability to float/resell the paper to institutional investors. In February, the Fed in concert with other central banks injected $600 billion dollars in high powered money into the world economy, a stimilus package that in Canada we see in a 3.5% inflation rate so far, with likely more to come i.e. higher rates.

Today the Fed announced an open ended intent to purchase Commercial paper, but in a scary thought, on what terms? Is this a take over of the purpose of a bank in a transaction with a bank's customer? The banks that are solvent, must be scratching their heads on this one, because this must have been a profit centre for their clients. Now they deal with the Fed? Why bother with a bank?

The US nationalized in effect their mortgage industry, wiping out enormous investor wealth.

This is not all going well with markets reacting by reducing the financial assets of investors by another 5% in the US.

Investors only? How about pension plans? And individual RRSP's?

With reactive actions around the globe to increase amounts guaranteed for cash investments in banks, the rush to cash is on.

I look at the above, and realize that this world, is a monetarists managed world. Its not neo-Keynesian, and for those who are not familiar with those terms, John Maynard Keynes was the preeminent thinker to turn around the Great Depression in the 20th century. His tax and spend theories of course were not popular with the elites as they ended up paying a great share of taxes, that governments then spent to reflate, to cause economic growth and jobs to recover.

A neo-Keynesian approach is well overdue for discussion and the Central bankers of the world have to keep their focus back on the price level or we will have serious price inflation, and economic stagnation if not depression like conditions.

The nationalizations and destructions of the financial institutions in the most dynamic economy as President Bush calls his America, is not the solution to the mess. It is causative of more destruction in confidence and in wealth.

I cannot believe there are no more investment bankers left in the United States. Who would have thought that possible a year ago?

The bottom line here is of course the militarism that the US chose to pursue as the answer to a foreign threat that went overboard. While some estimate this as an annual Trillion dollars expenditure, it would seem by cutting taxes, no one is willing to actually pay for that. With an $11 Trillion dollar economy, the US had better refocus on what it can truly pay for and is willing to pay for. A flight to US Treasury securities, might just end with all governments globally backing their own banks cash, as they have started to do.

This is an epic mess.

With respect to Canada, the US has a very bad virus, and when it has to chose between home and abroad, it has always chosen home. We face a very tough time coming. Our Central Bank Governor has also "pushed on a string" by injecting money at a problem that is not solvable my mere money. The lessons of the 70's have been totally lost, and the fix of 80's is going to be painful to relive.

The Central Bank of Australia has cut interest rates by one full percent. The Yahoo article noting this says what I have noted above: "they" are looking for monetary solutions, to pour more money at the problems, and this is very wrong headed in my beliefs.

And Harper is sliding in the polls for his passive approach to the economy. Some pundits who deal with the polls are seeing a Liberal government as Dion has not been resting on his laurels or lack thereof. Resting on what one has done, i.e. contribute to the problem, is not a solution to political success. Cutting taxes in good times especially for those that do not need more money, is not saving the fiscal measures, for when they are needed.

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