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.