Bi-Flation

Wealth Yes/No

Remember the summer of $4 gas and the Lehman bankruptcy, when things seemed so crazy that we elected a wannabe Socialist without adult experience and watched a nominally Republican administration push nearly a trillion dollars in bailouts? I didn't like TARP at the time, but I held my nose and swallowed because the alternative seemed equally unthinkable. Now that opening those particular floodgates seems to have ushered in an endless round of mindboggling "stimulus" spending, I suppose I'll be wondering for the rest of my life what might have happened if we'd just said "no" and taken our lumps.

It's a daunting job to imagine, but I have been appreciating Bill Bonner's essays on the need for an honest global deleveraging, painful but unavoidable. He argues that what the world opted to try in 2008 was to replace private debt with public debt rather than destroy the bad private debt once and for all. The experience of Japan, however, shows that you can avoid the pain of deleveraging only by accepting an unconscionably extended stagnation instead. I realize this opinion is not original with Bonner, but he expresses himself clearly enough for me to follow, which is not true of most economists:

After Lehman went down, the whole street was ready to fall. Households, businesses, banks - trillions in debt might have been wiped out overnight; we'll never know.

Instead, we're headed for Tokyo where they've had bailouts, boondoggles and counter-cyclical fiscal stimulus for 20 years. And for what?

"It would have been worse had the Japanese authorities not acted," say the neo-Keynesians.

How they know that is a mystery to us. As it turned out, Japanese investors lost nominal wealth equal to three entire years' GDP. And the economy today hasn't grown in 17 years or created a single new job.

Nor has the debt been reduced. Instead of permitting the private sector to destroy and pay off its debt, the public sector fought against it...borrowing heavily to try to bring about a recovery. Result: no recovery . . . and almost exactly the same amount of debt. But while the private sector paid off its debt, the public sector picked up the borrowing. Now it's the government that owes money all over town.

Is that progress, or what?

What. In the U.S., 24 million households own their homes outright, 51 million have a mortgage, and 37 million rent. (I focus on home mortgages here because our banks seem now to have nothing but mortgages and sovereign debt left in their portfolios.) Of the homeowners with mortgages, 11 million are under water. Bonner quotes an estimate that it will take more than eight years to clear the market of foreclosed, distressed, and defaulted homes so that supply-and-demand forces can kick back in and start driving housing prices back up. If we keep propping the housing prices up with more "Cash for Cottages" programs, maybe we can stretch that period to a Japanese-flavored 17 years.

More cheerfulness from ZeroHedge, which notes that bonds are signaling deflation while stocks are signaling inflation:

[U]nlike a Schrodinger Thought Experiment, you can't live in a world in which assets predict both inflation and deflation at the same time. Perhaps all it takes is for some person with a dose of common sense to "observe" this discrepancy and collapse the wave function of the insanity that our market has become. The snap back will be violent.

The comments to that last thread are memorably bleak. Here's my favorite: "As long as they keep the box closed we can't see the dead cat. So maybe in order to prevent this from going any further someone were to shake the f*** out of the box." Another commenter believes the bizarre shape of the market results from banks drawing cash from the Fed window and using it, not to loan into the economy, but to buy treasuries. I keep reading about that last one and wondering about what it means, too.