Saturday, April 10, 2010

The Great Debt Bailout

This blog was created in late 2006 in order to "vent" my frustration over the huge debt bubble and what I  perceived to be the risks it posed to the global economy.  In summary, I claimed that the economy had become hooked on debt to create additional GDP growth - or "growth" in quotation marks - and that the finance "tail" was wagging the real economy "dog".  

Soon thereafter, the bubble burst - first in the U.S. and then everywhere else. What followed was the worst economic crisis since the Great Depression.  And we are still in the midst of it, albeit in ever-mutating form, so today's post is meant as a tour d'horizon, a quick summary of how I see things shaping up today.

I believe all that has happened so far is The Great Debt Bailout.  Governments and central banks have issued trillions in new government-backed debt, some to replace private debt gone bad (bailouts for billionaires) and some to finance massive budget deficits (pennies for penniless).  It is a policy mishmash produced by the combination of  (a) Bernankean revulsion to monetary deflation and (b) Keynesian aversion to economic recession.  

This veritable flood of new and replacement public money averted the occurrence of an immediate, catastrophic Great Deflation, but at the cost of sharply higher sovereign risk.  Debt was not allowed to be destroyed through default or voluntary cancellation but, instead, was transferred onto the shoulders of the public at large. The gross amount of credit risk, therefore, has remained essentially the same as at the height of the credit bubble, ameliorated somewhat by the fact that government debt usually carries lower interest rates and can thus be serviced more easily. But relative to the shrinking economy, total debt has gone higher still. 

Look at the chart below: Total credit market debt in the U.S. has hardly budged in the last two years after its previous rapid rise  (blue bars), but because the economy slumped debt to GDP kept rising (red line).

The same debt-fever condition is inflicting just about every western economy, from Japan to the U.K.

And this is why the Greek debt crisis is so important right now, despite the country's relatively  small economy (its GDP ranks it 27th in the world and amounts to just 3% of total EU output).  It is the first significant sovereign debt crisis, occurring as it does in a country that mostly adopted the free-markets, debt/asset /finance sector bubble model to boost its economy.  Yes, there are important details unique to Greece, such as a bloated public sector, graft and a rather inefficient economy, but the big picture is not unlike that of the U.S. or the U.K.  To wit, Greece is suffering from a South European variant of the Anglo Disease.

We are, therefore, about to witness the first significant sovereign bailout (see this, too) in what is shaping as the next domino to fall during this Great Recession.  What will come next I have no clue, but I should point out that many - if not all - western nations are in similar straits, i.e. their total debt is simply too large to be serviced properly by earned income.  And as the masthead of this blog says: "A sustainable economy is not possible with unsustainable debt".  Or, to put it another way, you can't cure a debt bubble by blowing more debt into it..


Debra said...

Thanks for this clear, concise summary of your perception of the global situation.
Thanks, too, for not giving in to the temptation of making predictions...
The European link was really interesting ; it is in my backyard, and I didn't even know it was there.

Debra said...

There is a post in the saloon about magic and money, if you care to take a look.

Tiago said...

Funny that you mention EuroTrib. A few years ago I tried to sell your blog to that audience. I personally am not very fond of their complete devotion to the European Union or their idea of political activism (which is essentially trying to have letters to the editor accepted on the FT). Also their profound devotion to anything coming out of academia strikes a very bad nerve with me. Anyway, there is a lot of good analysis going on there.

Regarding the future: hyperinflation might be caused by a complete distrust in the (fiat) value of money. Which might happen if they keep printing, printing, printing and bailouts, bailouts, bailouts.

Anonymous said...

The post is clear, concise -- and wrong.

Economic math models may treat all debt as the same, but it is not. The majority of the debt causing the "debt bubble" was debt on debt -- money chasing money, the removal of usury laws which pushed money into financial instruments/institutions instead of real production and investment in production.

Real production growth and investment, which typically sits at about 3% simply cannot complete with 30 to 1 leveraging. People started to invest money on money and expected and were promised at least 8%, and often made 12% or greater -- pure ponzi, because, in the first analysis, the value of money can only be secured by production, long-term productivity, and work, not debt.

Instead of incurring debt to build human capital and infrastructure, debt was and is being incurred for fleeting materials, and day-to-day spending. And instead of viewing a life well-lived as a job well-done, the ideal life was one of being the gentry -- the idle rich, with the promise of easy money and retirement at 30. Doing well by doing good has not been part of the US character for quite some time, and cheap is the sole criteria for determining value.

flute said...

"many - if not all - western nations are in similar straights"
Nearly all, except a few - see the following graph from "Cornucopia".

Tiago said...

flute's chart shows, in my opinion how bonkers and ideologically loaded state debt is.

We are at times where the state is bad, all the rest is good.

Trade deficits are probably much more important. Energy is fundamental in most. But people rarely focus on it.

Also, private debt...

I am not saying that state debt is not important, but is surely not the only one indicator.

Debra said...

Maybe we are dumping on state debt because we have been dumping on the IDEA/IDEAL of the State for such a long time that it comes naturally to us, by association ?
Anonymous, I read your analysis, and I don't see how/why it enters into conflict with what Hell is saying.
I think (but I may be wrong, I am really a lay person on these issues...) that Hell basically shares your opinion on the question of production and the "real" economy. But he can defend himself, I know, and doesn't need me (!) to do it for him.
Your comment ties in to my preoccupation about WHY society NEEDS to reinstate aristocracy-- the rich who don't work-- at some level or another.
I say SOCIETY needs to do it, and not JUST the rich.
It is not simply a question of the "rich" as a horse which has grabbed the bit and is running away, I think that if you observe closely you will see that the middle class AND the poor institute some form of aristocracy as an ideal to be attained ? worshipped from afar ? Difficult to tell.
An idol on a pedestal.
If the whole thing stemmed from a bunch of "bad guys", it would be easier to deal with it...
Which is why, in my book, it is better to have an aristocracy which is founded on something BESIDES the accumulation of wealth (ideologically founded).
The.. Ancien Regime, if you like.

Trebuchet said...

Debra: It's a magical, as in symbolic solution, to have 'leaders by role' such as kings; in ancient European tradition, you could sacrifice the king to ensure the future richness of the crops. Subsequently, if the priest said things were good, things WERE good. In the present mathemagical economy, sometimes that's what's needed. Does that make sense? Or am I getting the wrong sense from you?

Hell: Its 'straits' not 'straights', geographically speaking. :)

Jefferson said...

It is ludicrous to conclude that the current debt fallout from central bank induced bubble economies resulted from the application of free market principles. The problems in Greece arise from the fact that the free markets are not allowed to operate freely to create market efficiencies.

You've got things completely ass backwards. It was interference by government planners and central bankers flooding the financial markets with liquidity that caused the housing bubble, equity bubble commodity bubble and the accompanying debt orgy. Not the workings of the free market.

It is obvious what is going to happen in the developed world. There will be serial sovereign debt defaults eventually resulting in the IMF/BIS/FSB cabal instituting a new global monetary regime based on a single global currency. Any slob can see figure that out.

sr said...


Hellasious said...

Thanks for "straitening" me out. And to think that Dire Straits was one of my favorite bands..


Tiago said...

I wonder what would the main reasons for China going into deficit?

I would suggest that one could be the exchange of worthless paper (worthless in the future) by something that will serve a purpose (commodities, ...).

This of course, only makes sense in a narrative where money will lose value on a global scale sometime in the future.

Hell would disagree with me, I am sure.

Thai said...

@Tiago re: "my opinion how bonkers and ideologically loaded state debt is."

Having committed this sin and been called out by you- amen.

Classic point of view/blindness/tragedy of the commons issue. The sum of the parts is equal to the whole yet you and I selfishly are only interested on our own problems. Therefore you and I are interested in our own debt and the public's debt- we know we are partially on the hook for that as well- but not so worried about other people's debt except when it effects the public. ;-)

Be well


(Another clone from whatever factory you're produce in)

1. I agree with the first 1/2 of what Deb says and the emotion (if not the actual policy recommendation) behind the second.

2. Read the other posts before you fire a sniper shot. Have you ever heard of friendly fire?

I might suggest the reason we are all doomed has more to do than debt.

... Or perhpas you're right, I'm there is no other explanation than American leisure idolatry and we all could have had a V-8.

@Deb- I nominate me ;-)

@Hell re: "but the big picture is not unlike that of the U.S. or the U.K.".

Common, just admit it, you see fractals too. Step one is to admit your a sinner but my personal recommendation is to just jump to step 9 for your coming out party. ;-)

Great post but Anon does make a point worth responding to. You have have a debt benchmark in your mind and you have never really fleshed this issue out.

Does trust change amongst people within society ever change justifiably? If so, does the change the amount of debt that group of people can sustain?

I know you've thought on this so please share.

Be well

Thai said...


Do legitimate changes in the amount of trust different people in a society can have between each other ever occur? And if so, does this change the amount of debt they can justifiably have between each other?

As a thought experiment, what would the debt to GDP look like when looking at a Scandinavian eukaryotic cell with all its cooperating specialized mitochondrial organelles, etc...

And how would this especially compare against a non-cooperative Greco-Roman procaryotic benchmark?

... And remember, your current numbers are still in fiat currency and not in highly regulated incorruptible scientific star chamber Greenbacks. ;-)

Tiago said...


That private debt become a massive public concern is, I think, the understatement of the century...

Would you be more comfortable being costumer of a bank where all other costumers were all in debt or where people were all in credit? It is their private lives and their money, but it might be your money that burns (at least the bit above FDIC-insurance)... And if all banks around you go belly-up because everybody was accruing debt privately... well... private problems become sub-prime public disasters...

Not that I have an easy answer to what is private or public...

Thai said...

I'm sorry my sarcasm did not come through. I think were saying the same thing from a slightly different angle.

I would say some people's private problems will become other peoples private problems whether they like it or not- e.g. we are all swimming in the fishbowl together whether the lifeguard decided to show up or not.

Be well

Tiago said...

One of the problems of this Internet thingy is how much cool things are lost in human communication: body and face language being two of them.

Mis-understandings happen. Worse than pseudo-disagreements are pseudo-agreements: At least in pseudo-disagreements people tend interact until things get clear.

On the other hand, having time to think before communicating is a nice gain...

But I digress...

Anyway, I always appreciate your comments, even when I fail to understand them ;)

Hellasious said...


Why, of course I believe in them. I come from an industry (finance) where "you get 80% of your business comes from 20% of your customers" is pounded daily into one's head.

On the other hand, we all better take good care of that OTHER 80% because they can turn ugly if they get pissed off. The Roman elites understood that very well, thus the mostly free grain they gave out to the plebes (vox populi Deus irae). Oh, and Lenin understood it, too - from the other side of the fence.


Thai said...

Sorry to give you back a little common sense...

Just who do you think spends their whole day with what you call "the other 80%"?

Don't be a banker

Debra said...

Well, it's nice to discover that you know you BELIEVE in fractals, guys...
(But that is a rather problematic statement... just how much do you know that you... BELIEVE in fractals ? There are varying degrees of knowledge and understanding... it's not a one time and it's finished process, understanding.)
Nice to see that Hell has summarized the Golden Rule in his 80%/20% formulation.
I don't know if you realize this, Hell... (and others).
Personally, I prefer Jesus' words.
They are more inspiring.
Something along the lines of the glass half empty, the glass half full.
Plus, Jesus was speaking out of compassion, and a desire to include others, not out of a desire to placate the ignorant masses so that we can go about doing business as usual..
As someone who has had a telescope trained on the U.S. for about thirty years, I can say that there has been a significant increase in... hopelessness, cynicism, and despair in our individual/collective discourse.
There WAS a time when Americans thought that they were specially good.
And that being specially good did not HAVE to mean pointing your finger at the rest of the world to tell others that they were on the wrong track.
I felt this.. HOPE in the 1970's particularly.
It was a (relatively) good time to be in the U.S.
Lots of enthusiasm.
Not lots of cynicism.
I keep saying... cynicism will bring us down.
It is... the other side of the coin for those of you out there who think that sentimentality is EVIL or naïve. Just the other side of the coin. How can it be.. DIFFERENT if it is just the opposite side of the coin ?
We can't afford the big personal and collective self indulgence of cynicism.
Cooperation cannot exist with it.
Gotta get rid of it.
Gotta find something that is going to help us believe in HUMAN BEINGS and not in just fractals.
Gotta reintegrate free will and pull out of this deterministic slump.
Determinism is basically a symptom of individual/collective... despair (depression for those of you out there who like your words psychiatric).

Thai said...

Do you have a debt/gdp benchmark?

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Anonymous said...

It will be interesting to see how this plays out, given the $1 trillion dollar plus handout to Wall Street was sold on the terms that otherwise there would be "disaster". But as you explain it so nicely, in reality they simply blew this bubble up even bigger.

At the time, many intelligent people were saying - let the buggers fail. Now we have corporate welfare, and these layabouts hand each other bonuses.

I am reminded of Milos Forman's movie "The Fireman's Ball". There is a table, with many presents for a fireman that is retiring. Then the lights go out, and all the presents have been stolen.
In reality, the taxpayer plays the fireman.

jburron said...

This is a great chart (total debt to GDP). What is your source?