Friday, January 9, 2009

How long on the bumpy plateau before we reach the cliff's edge?

Here's a big quote from memmel, commenting on Gail The Actuary's post which I mentioned a day ago.

So I don't see the debt pyramid collapsing for purely financial reasons simply because collapse right now benefits no one I see it coming later and being forced because of high energy prices. How much later is tough I'd say 2011 at the earliest with a range of 2011-2012 it all depends on when energy prices start rising strongly again. As long as they are low the game will continue since people can trade increased energy usage for lower but still decent net profits.

As and example of the fact we probably won't collapse because of a pure collapse of the financial pyramid I'd argue that if it was going to happen it would have already happened if investors where going to demand high interest rates from the US because of fear of default we would be doing that now. Given that the financial system has chosen to allow the US government to print money at will we can assume they will continue to do so until it no longer does any good.

So at the end we I think will see a sort of Indian summer for the next few years even if oil prices rise since financial games will be able to offest rising fuel costs for a time. And as long as oil remains cheap I think the end game won't even start regardless of how many bad things happen in the financial world since we have accepted the Government backstopping everything. Thus with low oil prices I really don't see a end to the ability of the Government to keep things slumping along they could pull it off for at least a decade.

Memmel's writing can be a bit hard to follow, but his very clear thinking makes it worth the effort. Our big problem both as individuals and as business people (see my last post) is trying to work out what is really going to happen to the economy and when. It's worth reading all the comments on Gail's post (there are heaps!): memmel's come fairly far down the list.

One of the comments often heard when discussing the Peak Oil problem and the financial crisis is that human ingenuity will find a way out, and soon we'll all be able to continue again in the same old way once we sort out the current mess. I think this springs from a number of misconceptions about the situation we're in. They are (as I see it)

(a) We're not trying hard enough (people have become lazy/uneducated/selfish)

(b) Powerful interests/corporations are stopping the implementation of known solutions to the problem of oil shortages
(c) The sheer demand for solutions will produce them (science can produce an endless cornucopia of goodies given the will and the funding)

(d) Simple lack of understanding of the Peak Oil issue (by the majority of the population)

(e) Simple lack of understanding of economics (by nearly everyone)

Taking them in reverse order, (e) has arisen because the economic system is now fiendishly complicated, it has grown up on an ad hoc basis over centuries without ever being designed in the conventional sense but simply through the accretion of bits, and those charged with understanding it tend to wear ideological blinkers which prevent them from seeing it as it really is (see my post mentioning Glenn Stevens, Governor of the Reserve Bank of Australia..."I do not know anyone who predicted this course of events"). (d) is due to the scary, intractable nature of the problem (which stops the media and politicians talking about it), its lack of visibility in day-to-day existence and to similar intellectual issues which prevent economists from understanding economics. (c) is simply the casino mentality we've all grown up in, where life gets better because it simply does: that's been our experience all our lives! Why shouldn't it continue? And (b) is the fantasy of the powerless and uneducated. Which brings us to (a).

Like the mythical frog in the slowly heating pot of water, we don't seem to be fully aware of how much harder we are working these days to keep the industrial system functioning. Since the late sixties the amount of income a middle-class family has needed to get by has steadily risen. Way back then, any reasonably able bodied man could support a wife and several children while purchasing a house on a single wage. There may have only been a fraction of the consumer goods and food choices available which we have today, but the basics were fairly affordable. Now we are blinded by a Santa's sleigh full of of tricky toys, and every second person seems to be some kind of food aesthete, but even two young and well educated people will struggle financially to buy a house and while having a family. It's even worse in the USA where private health cover represents a massive burden for a normal middle-class family (see this excellent lecture by distinguished law scholar Elizabeth Warren who teaches contract law, bankruptcy, and commercial law at Harvard Law School).

Hours of work have become longer and longer, because the costs of maintaining the system are constantly rising. But most of us can't see any other way of doing it, and in any case it's all most of us have ever known. We're used to it. We're under the gun of obligations, expectations and massive debt burdens. And although we have more entertainment than ever, from cheap trips to Asia to addictive video games, from 8 Gig iPods to affordable BMWs, from twenty flavours of ice cream to unlimited internet porn, all this does is help distract and numb us to how trapped we've all become. And we have become very good at turning up and doing our bit. Our training is getting more effective, we're more disciplined as a work force, our productivity inches ever upward. Because it has too! But unfortunately externalities, in the form of Mother Nature, are going to impose themselves in a way which we will not be able to surmount. We are going to go bankrupt.

It takes unusual strength of mind to admit you've made a mistake, and that to continue on your current path will lead to inevitable disaster. It's easier to stay in denial, and that is is often the case for those of us who get in over our heads financially (particularly in business the first time it happens! The second time you can at least see it coming): we hope for a miracle to save us until the day the car is repossessed and the mortgagee auction sign goes up on the fence in front of our house. Whole civilisations are no different, and are even less likely to face the fact of unviability. So every thing is done to keep business as usual operating, to keep a smiley face on at all times, to paper over the cracks as they appear.

This is what the bailout of financial institutions world-wide is all about. The people carrying out these emergency measures know full well the risks they are taking and that they are laying up in store an even more dire disaster by avoiding one today, but they see no other alternative! And if they were suddenly to give up the game and walk away, they would be immediately replaced by someone else dedicated to keeping the show on the road no matter what! Because even the stupendously rich are trapped and are cracking under the strain.

We are going into a recession world-wide this year, and we will fret and worry about how we will get through it, but in the meantime governments in industrial nations everywhere, aware of the much graver danger we face (in a way which most of us are not), are fighting tooth and nail to avoid a far more dire financial calamity than a mere recession. They too are hoping for a miracle, even as the measures they are putting in place set the scene for a more complete crash down the road if there is no deus ex machina.

So how much time can their scrambling for bandaids buy us? That is something no-one can say for sure. Memmel's guess is from 3 to 10 years. I tend to agree with him, and while the looming recession will cut into our businesses profitability over the next months or years, I will be planning for the Big One, which will come because we will not be able to fight it off forever.

(For a brilliant, graphic and grim illustration of the last days of a doomed system, which shows how the dynamic plays out through the lives of individuals, watch Downfall)

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