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11 August, 2009

Are We Entering A New Great Depression?

Yesterday, I wrote in The Myth of Economic Recovery that there are still several pending obstacles on the path back to rejuvenating the economy that the current crop of overly optimistic commentators and analysts seem to have forgotten about.

Years and years of loosey-goosey style regulation of monetary policy has served to feed a dangerously-engorged credit bubble that, when it finally pops, will result in a devastating and perhaps fatal shock to the global economy as a whole. In general, the world is now more vulnerable to falling into another 1930s-style slump than ever before.

The signs are definitely there to be seen: "mass issuance of new-fangled credit instruments, soaring levels of household debt, extreme appetite for risk shown by investors, and entrenched imbalances in the world currency system...

... In a thinly-veiled rebuke to the US Federal Reserve, the BIS said central banks were starting to doubt the wisdom of letting asset bubbles build up on the assumption that they could safely be "cleaned up" afterwards - which was more or less the strategy pursued by former Fed chief Alan Greenspan after the dotcom bust." (source)

The Bank for International Settlements, which is the body that regulates cooperation between international financial entities, warned us last Summer (June 2008) that there existed the potential of another disruption the likes of the Great Depression when it pointed out that, "complex credit instruments, a strong appetite for risk, rising levels of household debt and long-term imbalances in the world currency system, all form part of the loose monetarist policy that could result in another Great Depression." (source)

They also took the position that, "The current market turmoil is without precedent in the postwar period. With a significant risk of recession in the US, compounded by sharply rising inflation in many countries, fears are building that the global economy might be at some kind of tipping point." Further, they argued that the actions of the central banks had thus far served only "to put off the day of reckoning." (source)

Fastforward a full year to June of 2009 and we hear from the same Bank for International Settlements that there has been only "limited progress" since the government passed the stimulus packages and that, “as long as financial institutions are hesitant to finance economic activity, the prospects for growth are at risk.”

Further, the report states, "... without a solid banking system underpinning financial markets, stimulus measures won't be able to gain traction, and may only lead to a temporary pickup in growth."

"A fleeting recovery could well make matters worse..." the report goes on to warn, "since further government support for banks is absolutely necessary, but will become unpopular if the public sees a recovery in hand. And authorities may get distracted with sustaining credit, asset prices and demand rather than focusing on fixing bank balance sheets," and called it, "an 'open question' whether the policies will be able to stabilize the global economy." (source)

Reading between the lines, it isn't difficult to see that they believe the stimulus efforts of the United States and the other government of the world will ultimately cause more damage than they helped repair and are only delaying the inevitable result, thus making the situation that much worse in the long-run. And it isn't hard to see why they see it as a simple case of adding more fuel to the fire when you think of the addition of trillions more dollars to the already-massive indebtedness of the global system as a whole, first helping to prop the whole charade up just a little longer and, secondly, to make sure the crash is truly monumental when it finally does occur.

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