Thursday, October 4, 2012

Depressing Recession Refresher

There's some freaky shit goin' on there man!!!

There’s an election coming. The economy sucks. Everyone has an opinion.


OK.



Why does the economy suck? Because we had (are in?) a recession. 


What is a recession? A recession is a period of time that a nation’s economic output contracts. To put it another way: We make shit. We measure all the shit that we make within our borders in dollars. That measurement is called Gross Domestic Product, or GDP. When GDP goes down for at least six months straight, that’s a recession. Some are short and relatively not that painful, like the one caused by the dot com bubble. Some really, really suck. People lose their jobs. Politicians get voted out of office (Hoover, Carter, Bush 1, and maybe Obama in November).


Politicians love/hate recessions. They are ammo. Hopefully, the gun is pointed at the other guy. Obama is continually blaming the policies of the past. He is referring to Bush 2. However, taken literally, it was the policies of the past that caused the enormous boom that inevitably led the devastating bust. Many are looking to politicians to correct the mistake that the free market supposedly created. Sadly, it is the market’s correction that we have been experiencing. For some, it is a hard pill to swallow: The recession is the correction.



Using different methods, mainly the Federal Reserve System (the Fed), which controls the supply of money in the United States, the US government created a boom of credit. Credit is debt. You borrow money, and the price for borrowing that money is the interest rate that you are charged. The Fed controls interest rates by controlling the stock of money in the country. Increase the supply of money, and the Fed reduces interest rates. However, more money supplied means that each dollar you have is worth less ($1 buys less today than it did yesterday). The more cash the Fed pumps into the economy, the more the banks want/need to lend it (that's how the cash gets out into the economy). In addition to the Fed, the policies in Washington, DC promoted dangerous lending to very risky applicants.



Interest rates were at record low levels, meaning that mortgage loans were real cheap. Again, well intentioned politicians were forcing banks to make loans to very risky applicants in an effort to grow home ownership. Banks, which are in the business of earning a profit (just like the vast majority of businesses), wanted/needed to hedge as much of that risk as possible. They aren't stupid. They knew that a huge amount of mortgage loans were at risk of defaulting. Therefore, many of the banks and financial lending agencies sold these mortgages to Fannie Mae & Freddie Mac, two government supported agencies, as well as other investment banks. Fannie & Freddie owned 40% of all US mortgages. Why? Again, well intentioned politicians wanted to expand home ownership in the US.



What to do with these toxic mortgages that are doomed? Mortgages have been used as backing for investments for years. Banks give a loan for a house; they sell the mortgage to the government through Fannie & Freddie, or to an investment bank. Then, mortgages with similar interest rates are bundled together and sold as investments called mortgage-back securities.



Now, here it gets more fucked up.



Banks created more complicated securities and sold them. Fannie & Freddie sold these securities and lots of people bought them because Fannie & Freddie are “guaranteed” by the US government. So all this risk from sub-prime mortgages (loans made to borrowers with a high risk of defaulting) was spread throughout the economy.



In your 401K. In your IRA. Investment banks. Yada yada. Everywhere.



Guess what happened to all these sub-prime mortgages?



The sub-prime mortgage boom busted. The housing boom busted. The mortgage-backed security boom busted. The banks went into crisis. Fannie & Freddie busted. The Federal Government bailed out a lot of banks and Fannie & Freddie.



The market bitch-slapped politicians and cronies everywhere. But, only you and I feel the burn of the opened-palm slap. Government bureaucrats and some economist think that the Federal Bank and the Federal Government should try to “stimulate” the economy through internal improvement projects and money printing.



But, wait. Isn't that what...? Never mind.



There is an abundance of capital out there: housing, securities, equipment, labor, etc. All was being fueled by, and was fuel for, the sub-prime housing & credit bubble. Once that bubble burst, all that capital was still there. The economy retracts until things like prices adjust to where the market needs them to be. It can take a while for that extra capital to be dealt with. Had the market been left alone in the first place, that capital would have found a use more naturally, where it was valued the highest (we call that “free market capitalism”). Instead of entrepreneurial people and enterprises (like those coveted small businesses) deciding the what, where, why, and how, it was politicians, bureaucrats, and cronies deciding. Capital was redirected from where the market would have moved it to where the benevolent dictators thought it should go.



Any economic expansion, boom, or bubble that is based on, or created by, inflationary practices (the printing of money) will end with substantial amounts unemployment, whose severity depends on the quantity of and duration of said inflation. As the massively influential economist F.A. Hayek pointed out in Full Employment at Any Price, the huge numbers of unemployment "make manifest all the misdirection of labour which inflation of the past years has caused."



Most politicians, and very many economists, can only see the immediate or short-term consequences of their actions. They seldom, if ever, think or speak on the long-term, unintended consequences that may arise. Why would they? They aren't taking any risk with their own resources. They can simply borrow more, print more, and get more subsidies.



When you put your time, effort, and capital into something, you assume certain risk. The politicians, bureaucrats, and cronies never have to asses risk because they know there will always be a minion to take the fall, someone else to point the finger at, or tax money to bail them out.



Many never even acknowledge fault or association when their policies and schemes go a-rye. Because of what I feel is a complicit press and an apathetic public, politicians, whether local, state, or national, are never asked, or expected to answer, a very simple question: 



“Yeah, but at what cost?”

1 comment:

  1. The recession is why I get to own a house- it was great to me and all of the other bartenders who now own shit we weren't supposed to.

    ReplyDelete