A credit crunch, economic crisis, end-of-the-world 700 billion dollar question

Posted by irresponsibility

My usual blog flow has been interrupted by a return the nine-to-five. Don’t worry: it’s only temporary. I like to think of it as my chance to dip back into the ‘real’ world, observe, and recharge my vitriol levels and, er, bank balance. The latter, at the moment, feels like spitting into the wind.

Between proofreading pages of glitteringly high-calorie recipes at the behest of one of Britain’s better supermarkets I’ve been binge reading the financial sections of the New York Times and the Guardian in an attempt to get to grips with the quote-unquote credit crunch. Which has turned fullblown ‘economic crisis’ this week as President Bush and co. attempt to either A) save the world or B) rob America blind one last time (as ever, depends who you ask) with his seven-hundred-billion-dollar-bailout.

Instinctively, I feel anything Bush is for a sane person must be against. I don’t trust all this Chicken Little bollocks either. The sky may be falling for middling to wealthy citizens in highly developed countries but I struggle to see how you can call something the ‘end of the world’ when frankly shit can’t get much worse for the vast majority of the globe’s population. More on that later…

Anyway, as ever in a time of need, I sent an SOS to my painfully smart brother, Ersun, who conveniently is a law student and shithot econ expert. He dashed me back a pithy, entertainingly written summation of his take on the state of things. It’s worth sharing; see below for an excerpt.

Economic Crisis Explained
The economy is complex. Economic principles are difficult to understand. This is not an accident.

The key to understanding economics is that all of the indecipherable arcane gibberish is not what is important. What is important is what that facade hides.

Lex Parsimoniae
Famously known as “Occam’s Razor,” it is a truism that: “all things being equal, the simplest explanation is best.” Employing this rule in the analysis of information is essential.

One of the most basic tricks of argument is to expand the scope to such an extent that the facts become hopelessly muddled, making it impossible to reach any conclusions at all. This trick is a standby for pushing false and weak arguments. If an argument is false, then the last thing a person will want to do is debate it on its merits. The best way to avoid a debate on the merits of an argument is to hopelessly confuse the issue by introducing irrelevant extraneous information.

Whenever an argument is supported by overly complex logic, or large amounts of unverifiable information, this should create a presumption that it is weak or false.

The Casino
There is an old adage that “in a casino you can spot the cheaters, because they’re the ones who are winning.” It is a mathematical certainty that in an “even-odds” game, such as flipping a coin, the only way to beat the odds consistently over time is to cheat.

Markets, for stock, bonds, or anything else, are inherently “even-odds” games. Prices are determined by external forces beyond the control of market participants, and nobody can predict the future. If you want to win, you have to cheat.

Cheating in a market, like cheating at a game of poker, can be approached in two different ways. One way of cheating at poker is to try and gain advantage within the game itself: teaming up with another cheater against your opponents, finding a way to see your opponents cards, rigging the deck, etc. The other way to cheat at poker is to come through the door with some armed thugs, and take the whole game.

Markets
Markets produce nothing. They are mechanisms of exchange, nothing more. The only way to profit in a market is to trade less valuable things for more valuable things – “buy low, sell high.”

Price fluctuations in markets create the potential for profit. Ordinary price fluctuations are not especially useful, because like all future events, they are unpredictable. The profits from ordinary price fluctuations are distributed randomly amongst market participants, with the largest players gaining to some extent from their ability to buy up cheap assets when prices fall.

Since ordinary price fluctuations are no good, “extraordinary” price fluctuations must be created if market participants are to profit.

One form of extraordinary price fluctuation is the classic “boom-bust” cycle. A boom is created by the lending of excessive amounts of money, which drives up the prices of assets. As asset prices increase, people borrow against the increased value of their assets, further fueling the boom.

Extra money in the economy increases prices, because the amount of assets (land) and goods (food, gas, cars, etc.) is either fixed or at least relatively inflexible in the short term. In a market where goods are exchanged for money, if the amount of money increases while the amount of goods stays the same, the price of the goods must increase. This is inflation.

Increased lending and increased prices shift the allocation of goods and assets within the economy. As credit increases in relation to wages, those who borrow gain a greater share of the total goods and assets within the economy. If wages are fixed, those who do not borrow must either reduce their consumption, spend their savings, or sell their assets in order to afford the higher cost of living. Retired individuals have no wages, so they get squeezed no matter what.

In the aggregate, debt increases, and ownership of assets is shifted to those who borrow, while those who don’t borrow are forced by higher prices to sell. The debts of those who borrow are secured by the assets they own, so ownership of assets does not ultimately rest with the borrowers, but with their lenders.

That is the boom. The bust happens when credit is pulled, which results in a precipitous fall in prices.

Both the rise and fall in prices in a boom-bust cycle present opportunities for profit. Unlike ordinary price fluctuations, which are caused by forces beyond the control of market participants, a boom-bust cycle results from the actions of market participants. As a result, the cycle is predictable, and so the bulk of the profits from it are likely to go to those who are in the best position to predict it.

Additionally, the general increase in debt that takes place during a boom-bust cycle results in a transfer of wealth, often on a massive scale, between creditors and debtors.

The Current Economic Crisis

Boom-bust cycles are nothing new. They have been happening for centuries. The current one is probably not spectacular in any particular way.

If anything has changed, it is that money, for the most part, is no longer printed. It is now purely fictitious, existing only as digital records of credit balances. In principal, this is a good thing.

Money, whether it be paper, gold, silver, or otherwise has never had more than nominal value. Its purpose is to facilitate the exchange of things with real value, like food, shelter, clothing, fuel, cars, etc.

Unlike the Great Depression, when the only medium of exchange was currency (money, gold, silver), today the vast bulk of exchange is not dependent on currency at all. Whether it is a consumer paying for their goods with a credit or debit card, or huge corporations exchanging massive amounts of raw materials, the exchange is purely digital, and while it may be denominated in a currency base (such as dollars) the exchange itself requires and involves no actual money.

Because the only purpose and the only value of money was in the facilitation of exchange, and that function of money has been largely superseded, money no longer plays such a crucial role in the economy. Consequently, the productive economy is not threatened by financial “crises” in the same way that it was in the past.

This of course does not stop people from making extortionate threats about the dire consequences to the economy if they are not paid off. The “$700 Billion Bailout,” and the crisis surrounding it, appear to be the last desperate attempt of those being kicked out of the White House to steal as much as possible, and rig the system to prevent recovery, on their way out. In case you are wondering, this would be the poker equivalent of knocking over the game with a group of armed thugs.

Bush & Co. still have the trappings of the Executive Office, which will allow them to do pretty much the same things they would have done if the Bailout bill had passed, only now they won’t have legislative immunity, so they will stay on the hook for whatever they do. A final round of preemptive pardons always remains a possibility though. Maybe Bush could pardon Cheney, then resign on his last day, so Cheney can do him before he leaves office. 🙂 In any case, I am sure that the dignity of the American political process is sure to hit at least a few more all time lows before this is all over.

Oh, and if anyone has any recommended reading for understanding the current hoo-ha please drop me a note in ‘comments’.


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6 thoughts on “A credit crunch, economic crisis, end-of-the-world 700 billion dollar question

  1. Pingback: Conspirama

  2. Pingback: The Folding Fool » Blog Archive » A credit crunch, economic crisis, end-of-the-world 700 billion …

  3. you wanna get yourself over to the dogblog young lady where I have been smugly regurgitating snippets from here The Market Oracle for weeks.

    This is the single best resource on this subject anywhere IMO and I sent you links from here weeks ago. tut.

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