Borrowing cycles

The industrial world has known three severe depressions over the last century, the 1930s, the 1970s and now the 2010s. A recurrence that can be traced back farther (1890s, 1850s), but the on-going version and its two predecessors are well known and will suffice. What is immediately apparent is their regularity in time. They last ten years and are separated by thirty, which gives them a periodicity of forty. For finance and production to go into a tail-spin every four decades, there must be a mechanism to insure such precision, a mechanical repetition whose only equivalent, outside of cosmic movements, is the lending and borrowing of money. All the rest is haphazard and its chronology is unpredictable.

Credit must have existed at the origins of value exchange, and debt would have accompanied the first circulations of legal tender. Both seem inevitable in a society based on the division of labour and trade, hence the early importance given to measuring, counting and dating contracts. Over time, lending money for a precise period became commonplace and the gamut of durations was standardised from the short to the long, with the longer ones lasting 10, 20 and 30 years (rarely more though Disney Corp. was selling 100-year bonds some time ago). How can these three time scales produce a 40-year cycle of boom and bust?

A widespread form of investment is in Treasury bonds and those of major corporations. A bond is the recognition of a debt, to be restituted entirely at a certain date and to pay annual interest. T-bonds, backed by the state treasury, are not legal tender as are bank-notes but their convertibility is so simple that banks include them in their reserve funds, alongside bullion and currency, and some doubtful stuff that comes to light periodically. T-bonds allow governments to increase their spending without raising taxes and provide a secure investment for all. However, as governments never pay back their debts and only renew them at term, the borrowing soon outstrips the spending. So the function of an economic depression is to purge the nation’s debts (public and private) by inflation, closures and other more radical means. And as the state is by far the major player, its borrowing and purging cycles result in historic repetitions.

Supposing the purge has occurred and governments decide to stimulate production by borrowing and spending, and by cutting taxes. As old debts have been dissolved, each sum borrowed is a sum spent. So there is growth, and more tax-revenue pays interest and encourages more tax cuts, businesses are thriving and with all this flow of money there is even a perceptible trickledown. Then the first 10-year bonds reach their terms and must be renewed. And an equal sum must be added to maintain previous growth in spending. And it is only then that additional borrowing will increase spending, at a stage where the interest on the accumulated debt is no longer negligible. For ten years a penny borrowed was an extra penny spent, and overnight that extra penny results from the borrowing of three plus the accumulating interest. Fortunately, the 20-year and 30-year bonds allow some breathing space, until they also reach their respective terms. The twenty year term brings a slowdown, and the tipping point is at thirty. Meanwhile the long term bonds have lost their attraction as secure investments, and governments have recourse to borrowing at ever shorter terms, which is reflected in their policies and multiplies that much faster. Constantly on the verge of budget collapse and default, they slash spending and survive on a day-to-day basis, with the inevitable social and political consequences, until something dramatic cancels the huge pile of debt. In the 1970s double-digit inflation did the trick, and the time before it was total war as well as inflation. Today’s world is too big and too complex for such quick solutions, but something will have to wipe the slate clean and give governments back the power of initiative over revenue and spending. If not, representative political systems become meaningless.

The Kippur attack in 1973 resulted in an oil embargo decreed by Arab exporters, followed by a general price rise decided by OPEC. Oil was paid in US dollars whose gold convertibility was a thing of the past, so inflation was a natural recourse. It was also explained to OPEC members that their dollars might buy things in Europe but would only buy Treasury bonds in the US. A new price hike in 1979 produced another inflation peak, and that was the end of it, the stage was cleared for Reaganomics to take over. The new cycle had the dollar standing alone without gold backing. It also had the tool, inaugurated by the Nixon administration, of selling long T-bonds abroad to balance trade deficits. The dollar was irresistible and borrowing was global, with everyone holding some of everybody’s debts, world liabilities in dollars (sterling, euro and yen are in the same situation) that went far, far beyond the petro-dollar question of forty years ago. In the 1970s, apart from the oil market, the dollar was still the national currency of the United States, and was being used essentially inside the Union. However, the dollar’s expansion during the present cycle has been such that transactions in dollars occurring outside the US outweigh those occurring inside, which means that it is no longer a national currency but a sort of “dollar-zone”, and that inflationary measures are no longer a national option. And the only alternative is a continual reduction in spending, contracting markets and a long recession with no apparent exit. The world is facing a monetary meltdown and the destruction of financial and industrial assets on an unimaginable scale. When borrowing cycles are concerned, the harder they come the harder they fall, one and all.

Running on borrowed money

Growth in GDP is an expanding process, a progression similar to compound interest, where an increasing amount is needed to maintain the same percentage. Fuelling this growth with credit and debt is at best problematic, and can easily become cataclysmal. However, there seems to be no alternative way to increase demand other than handing out cash. Lenders would give away their savings and central banks would distribute a constant flow of new bank notes, both of which would be extremely coercive. So demand is maintained by lending – the existing wherewithal changes hands – and is increased by credit. And if some savings are horded, credit must compensate. Year after year more credit is granted, some of which is obscurely turned into cash by the monetary emissions of central banks.

Growth in demand depends on increasing credit, but demand belongs to two distinct categories. The acquisition may be an investment, in which case it will return its value and should bring a profit, or it may be for consumption, in which case its value is used up and must be produced again. Credit was originally a commercial practice. Goods would be paid once they had been sold on to someone else. When markets expand so must credit, because it is the necessary go-between for increasing exchanges. This progression begins on the supply side and results in an excess with regards to demand. At which point credit turns to fuelling consumer demand and thereby sustains growth. However, an invested credit comes back with a profit and its renewal maintains the increased investment, whereas consumed credit does not come back and its renewal does not maintain the increased consumption, a renewed credit has to be paid back to be spent again. This being so, invested credit grows at about the same rate as investment, whereas consumed credit grows at a much faster rate than consumption (1). Feeding consumer demand (public and private) with credit can only lead to sub and sub-sub-prime contracts as it expands beyond measure.

Credit is paying today with tomorrow’s income. Cash is paying today with yesterday’s income. Investment is the first stage of future production. Consumption is the last stage of past production. It would seem logical to invest in future production with tomorrow’s income and consume past production with yesterday’s income, but this is not the case. With central banks producing the stuff in generous quantities cash is being invested (though not much in actual production) and credit is being consumed,(with a recent surge in cars). This situation cannot be turned around as it would need a complete redistribution of incomes, so the behemoth must stumble on, blaming others for its woes, crushing resistance into desperation and pushing humanity to the brink. The beast is on its last legs, it has no future. What is uncertain is how destructive its demise will be.

1. For more details see this previous posting:

 http://lelezard.blogspot.fr/2010/08/binary-production-of-wealth.html

Matricide

Ancient traditions and beliefs placed planet Earth at the centre of creation, generating all forms of life in generous abundance. Traces of this subsisted in the myths of Gaia, Cybele and Isis, and in other more primitive legends. Earth was the mother of all things but, at some point, her male partner took precedence. The god in the sky, whether sun or thunder, was upgraded as master of the universe. It was a time of military conquests and world empires, of powerful rulers with a god at their side. Several millennia had passed, the whole planet had been cut up into different colours and powerful lenses were scrutinising outer and inner spaces, when god was declared dead by Friedrich Nietzsche and man’s animal origins were theorised by Charles Darwin. It was the end of an era and the dawn of a new perspective. The absence of a universal dominating power, other than impassive neutral gravity, gave man the total responsibility of his own destiny, and humanity was the patient fabrication of a particularly favourable planetary ecosystem. More than a century later, most humans are still worshiping pies in the sky and massively poisoning their earthly creator, their only source of subsistence. Eschatology remains the tool of power hungry demagogues, but it is also the people’s opium: analgesic and addictive. And the natural environment seems increasingly controlled and anthropomorphic to the urban majority, who can and are encouraged to ignore it completely. Nietzsche and Darwin rightly diagnosed an ideological demise but they did not predict the ensuing nihilistic chaos.

The wheel has turned and humans are back where they started from, before male hubris took control. They are just a species among a myriad others that have all evolved together. Take out one element and the structure is weakened, take out hundreds and thousands and it is bound to fall apart. Mother Earth has all there is to nurture and bring joy to all living beings. The sun, the moon, the planets and stars only help to make that possible. Their likenesses clutter up the heavens, whereas our blue paradise is so far unique. When it breaks down there is no substitute.