The Sky Is Falling???

Paul Krugman, a Princeton economist who was awarded the Nobel Prize just today, had this to say about how screwed we all are:



Interviews like this freak me out. Not only are all expert economists saying the worst, they look nervous when they say it. Doesn’t Krugman look rattled? I’ve been trying to make heads and tails of what is going on with the economy and here is what I can figure out.

One: If you are really tied up in either finance or fluctuating mortgages you are in a lot of trouble. This is on the brink of becoming a full scale financial meltdown. One man who made his fortune in finance already snapped, killed his whole family and then took his own life. He left notes all over his house just in case we were wondering why he went nuts: http://www.time.com/time/nation/article/0,8599,1848422,00.html
There is also the story of Addie Polk. She is a 90 year old woman who was being foreclosed on by Fannie Mae. When they came to kick her out of her house they found that she had shot herself in the chest with a shotgun: http://newpaper.asia1.com.sg/news/story/0,4136,179449,00.html
She survived and Fannie forgave her outstanding dept, but this isn’t going to be the only instance of crisis induced suicide. The World Health Organization is already warning of a spike in the international suicide rate as a result of the crisis: http://news.theage.com.au/world/world-crisis-may-cause-suicide-rise-who-20081010-4xru.html

So what if you don’t work in finance or don’t have skyrocketing mortgage bills? Will finance spill over into your life? To an extent it certainly will. Should you start stockpiling cans of food and clean drinking water? Couldn’t hurt. Comparisons to The Great Depression are rampant. Take this one: “it is not fanciful to make comparisons with the Great Depression,” Andreas Whittam Smith, British Financial Journalists and co-founder of The Independent (one of Britain’s major newspapers).

However, there is a difference between an actual crisis and a perceived crisis. Unfortunately, if people perceive that there is a crisis it can cause things like a run on the banks, a refusal to invest, people hiding stocks of cash in their mattresses instead of putting earnings into the economy, etc. This could precipitate an actual crisis. In fact, Washington Mutual likely collapsed because people were (justifiably in this case) afraid of a collapse (see: http://www.npr.org/templates/story/story.php?storyId=95105112).
Fear can freeze up capital. If investors are pulling their money out of the economy and ordinary people are pulling their money out of the banks then there isn’t likely much capital flowing in the economy for regular loans. It’s hard to buy a house or a car. This slows the economy more because these big ticket purchases help drive growth. If banks run out of money for loans they may even have trouble providing routine payroll loans to reliable businesses (like the Sonic on the corner). Here is a real world example:
“Two weeks ago, for instance, I was on the executive floor of a large company, a household name for generations. Decent people run it. It makes substantial profits. I found the directors stunned to discover that they could no longer go on raising short-term loans from time to time to balance out the ebbs and flows of their cash flows. This was a "first" in the company's long history.”
http://www.independent.co.uk/opinion/commentators/andreas-whittam-smith/andreas-whittam-smith-we-could-be-on-the-brink-of-a-great-depression-959311.html

If people can’t get their paychecks then we are in a real economic crisis. However, the government understands these risks. That’s why we are on the line for a $700 billion bailout. Not because these companies deserve charity, but because it is a quick and easy way to inject money back into the economy. It’s also why the Fed is lowering interest rates and why England is starting to partially nationalize their banks. It’s to make sure there is enough money in the banking sector to keep capital flowing through the rest of the economy. This should help blunt the impact of the crisis on the rest of the economy. If you want an optimistic view on the subject check this article out: http://www.nytimes.com/2008/10/13/business/13views.html?ref=business

Not everyone believes this may work though. Ever hear of a “toxic asset”? It is basically an asset that people pretended was worth lots of money even though it’s really worth next to nothing. How does this happen? Lets say a bank loans ½ a million dollars to someone who has not ability or intention of paying it back. The bank may pretend that this is actually worth half a million dollars. In reality, it’s worth nothing. It’d be like if I wrote you a check for 6 Kazillion dollars. You may think you are a Kazillionare, but you really don’t have one more penny as a result of our transaction. Unfortunately, lots of banks are holding lots of these “toxic assets” and are therefore terrified to lend to anyone. Don’t believe me? That “1/2 a million dollars” story is 100% true. Check out this terrifying and eye opening account: http://www.npr.org/templates/story/story.php?storyId=90327686

Will partial nationalizations, trillion dollar bailouts and lowered interest rates fix this? Maybe. Part of the point of the bailout is to take toxic assets off the hands of these lending institutions so they will be willing to offer loans again. However, Stephen King (not that one, he’s the managing director of economics at HSBC and only recently in the business of writing things that scare the shit out of me) wonders “What happens, though, if the banking systems are so overly leveraged that under no circumstances can these bailout policies be made to work? Then, policy-makers will have to consider the nuclear option. In effect, through the sale of bonds to the central bank, governments can "print" money, to be distributed through an economy via tax cuts or, even more effectively, increases in government spending. Think roads, railways, airports, hospitals and the like. Money is pumped into the economy without the need for a banking system. The government allocates capital, the central bank loses its independence and free market philosophies are eviscerated.”
http://www.independent.co.uk/news/business/comment/stephen-king/stephen-king-lessons-from-the-great-depression-of-the-1930s-have-not-been-learnt-959408.html


So are we facing a great depression? I hope not. I have a friend who recently got a great job with her masters degree only to have it pulled from her months later because the company eliminated all of their new employees (growth wasn’t as big as projected). I’ve heard that people entering the job market in academia are being advised to accept multiple job offers because Universities will likely be rescinding them after they see revised budget numbers. In other words, it may be hard for dudes like me to get a job when I finish all this schooling.

I am told that Obama and McCain both plan to unveil a grand strategy for fixing the economy today. It is more important than ever to have smart, quick and cooperative action to stem the crisis. However, we need to be honest about where we are. The government did not create this problem. Lack of oversight? Maybe. The Great Depression started in the private sector. It was Coolidge and Hoover’s attachment to free market economics and small government that allowed the problem to spiral out of control. The philosophy of free market, non-intervention, tax cuts, trickle down, etc. is tried and failed. Massive interventions (like are happening in Britain) are needed. Make sure our policy makers are being honest with us about what they are doing and how they plan to fix the problem. Fortunately, I don’t think anyone is foolish enough to just let the market sort this one out for itself. Only the most deranged free market capitalist would suggest it and I don’t think we have someone like that on the ticket (not since Ron Paul dropped out of the race anyway). Thoughts?