Some Observations on Fergusson's Book and Current Conditions: I finished the 1975 book
When Money Dies by Adam Fergusson yesterday. The book is about the hyperinflation period in Weimar Germany after WWI. It does a great job of documenting the events that lead up to the mess and the continued ignorance of currency policy that lead up to the eventual and complete collapse of the German Mark in 1924.
The book give a great account of the affects these events had on the common German citizen during the period.
Although our current situation in the US is painted with a different brush, there are some glaring similarities of ignorance seen in the fundamental mistakes Germany made in the 1920s and those we can see being made today in America.
One of Germany’s first mistakes was to enter a War and neglect to establish a tax to pay for it
(England at the same time did establish a war tax). That was one of the first major expenses to create their huge deficit, the second were the war reparations created with the
Treaty of Versailles.
In the U.S., we similarly have entered several Wars worldwide (Iraq, Afghanistan) and rather then add a tax to pay for them, we’ve actually been lowering taxes over the past decade. This of course runs counter to logic and has created enormous costs and increased our deficit substantially over the last 10 years.
Although it’s hard to believe, those in charge of the currency in Germany had no idea that their policy of money printing had anything to do with the falling exchange rate, inflation and hyperinflation. They had seemingly smart people running the show, but they were completely blind to what we can now see as the obvious cause of their hyperinflation and eventual complete collapse of their currency.
In the U.S. today we are seeing a similar situation regarding the weakening of our currency. For many of us it is obvious that everyday our deficit gets larger (increased spending and interest expense), and with every bailout or stimulus package creating by with additionally liquidity (diluting the value of our outstanding dollars) we are reducing the worldwide purchasing power our U.S. currency. As with Germany, the first stages are slow and most are unaware that the foundation of our economy being eroded and the deterioration is gaining momentum. This is invisible to most because of the costly Band-aids being applied by the Fed and the encouraging rhetoric from the current administration.
To the Feds defense, they are only following their dual mandate of price stability and full employment, but if we simply look at the results, they have failed. I would argue that the Fed in the long run needs to be disbanded and in it's place allow the new monetary system 2.0 and the unmanipulated free market to stabilize prices.
(This will likely only be possible after a complete collapse of our current system as everything will then be allowed to reset). The hope of monetary system 2.0 is that it will be absent of Fed manipulations of interest rates and money supply that lead to the euphoria of artificial prosperity and disasters that follow.
(our current system is like a 1977 turntable with four Allman Brother albums in world capable of a 64GB iPad loaded with 30 years of your favorite songs). We can do better.
As for the encouraging rhetoric from the White House, they too have a mandate of keeping the public calm. One could only wish that someone up there would finally have the courage to tell the truth, but in politics that is highly unlikely so we're likely left to dealing with an economic collapse to teach us our lesson just as the Germans did in 1924.
In Germany the inflation they saw most prominently was in the daily food staples of bread, milk, butter, eggs, meat, etc. As the printing presses of higher denomination Marks increased (1922 to 1924) and hyperinflation ensued, these staples continued to rise sharply.
In the U.S. I would argue that we may see an entirely different scenario. First of all, it’s no secret that the our government continues to tweak the equations they use to calculate inflation, therefore the inflation numbers of today are apples vs. oranges from the inflation rate measurements 20 years ago. This continues the delusion of a stable economy.
Despite government reports, we are at a much higher rate of inflation then reported. One needs only needs to look at a grocery bill to see the increases we’ve had on food staples.
(On a side note: the area we have not seen increases are in the loss-leader fast food items. This is made possible by the subsidies to corn farmers which is yet another cost shouldered by the American public. The fast food in turn creates more obesity and heart disease which directly increases our health care costs. Again, the long term negative impacts to our U.S. dollar by these actions are invisible to the majority of Americans. I realize it’s more complex than the statement above, but the problem of subsidizing foods that promote unhealthy eating habits has a much greater long term negative effect than people realize, especially since healthcare costs (medicare and medicade) are the largest slice of our national budget).I would argue that the majority of the inflation we are seeing in America today is already priced in to the artificial prosperity still embedded in real estate across our country and secondarily in overvalued US equities. In other words, when real estate prices got pumped up from 1994 to 2007 with the help of artificially low interest rates and an abundance of speculative buying, the positive equity created will be the most susceptible to loss in the next major market shock.
If we were to look for the weakest link of our economy today I would point to home equity and the buying power of the U.S. Dollar. On paper it would appear for the last few years that our U.S. Dollar’s value would be in a tailspin, but world circumstances (equally weak foreign currencies) and the Government’s panic interventions have
temporarily staved off a free fall of the U.S. Dollar and a return to the 2008 lows in US equity values.
On paper this makes Bernake appear to have staved off the crisis, but the fundamental and most important underlying numbers continue to get worse everyday. The ONLY way to reverse the trend is to drastically reduce spending and to increase revenues enough to create sustainable budget surpluses over a period long enough to balance the budget, and unfortunately I see no evidence of that happening even for a short period of time. I don’t even see a “plan” for increased revenues. The fundamentals of our real economy have been weak for decades. Remember we have not had a
Trade Surplus since 1975.
This is where I think economist get themselves in trouble.There are far too many positive speculative assumptions being made by economists right now, all of them lacking any form of tangible evidence. Their continued focus on short term indicators of GDP and job growth will continue to distract them from the real problem which is a country who’s business leaders have completely lost sight of goals based on long term sustainability. This may very well take a decade or two wake everyone up.
Generally Accepted Accounting Practices:In the most simple of terms, Government finances are no different from Business finances in the sense that they are both governed by the laws of elementary mathematics.
Where they differ and the reason we have seen three Sovereigns fall into crisis (Iceland, Ireland, Greece -
they will) in the last few years is that they are under the delusion that they operate on a different plane where math rules don't apply. The reality is that they do. They are governed by the same elementary math rules that private businesses, individuals and 2nd graders use.
We need only look as far back as
Iceland and
Ireland in 2008 to see that elementary math will always win over the rhetoric of short sighted Economists.
The cry I am hearing from economists is that this is no time to raise taxes or cut spending as it would create a double dip recession. -- This is the type of comment you will continue to hear from the men who has never had to deal with the reality of “Generally Accepted Accounting Practices.” In the GAAP world budgets must be balanced or the entity will cease to exist. Most economist have never had any skin in the game and in most cases have not been personally exposed to an actual business owners balance sheet. Give me any responsible, successful (honest) businessman and the rhetoric would be quite different. When faced with an ugly balance sheet and the inability to borrow (in the real world a company with a bad balance sheet and declining revenues would not be able to borrow more), they will do two things. First, they will cut expenses no matter how painful, second, they will figure out a way to raise revenues. It’s that simple. If they are unable to do both then it’s likely the business will eventually fail. It is an accountant’s and banker’s job to make those types of observations and assessments and create a feedback loop to the business owner.
This type of feedback loop and the two actions required for survival are not present in Government and we can see very clearly the results reflected in the balance sheet.
This brings us back to the weakest link theory.Despite the first stage of the real estate crash in 2007-2008, the underling problems with real estate debt have yet to be addressed in a manor that would give any hope to keeping real estate prices propped up barring a substantial reset of the loan values. Although the risk of the majority of mortgage debt was transferred from the private sector (Fannie Mae, Freddie Mac) to the public sector (the American Taxpayer), the true value of current real estate will not be apparent until the Government takes the losses on the bad debt and all of the foreclosure inventory is liquidated. Looking at this objectively from the outside looking in, this will likely be the weakest link moving forward in the next 5 years and the contagion it is likely to cause will set a whole new batch of problems in motion.
Yes, history does repeat itself, but more often then not, the way it plays out is vastly different from prior experiences of the same type of event. However, when the fundamental problems are present the ultimate outcome is generally easy to assess.
We are diluting our currency differently then the Germans in the Weimar Republic, but elementary math has a funny way of working it’s magic of truth in the long run.
One must keep in mind the time frame on these large Sovereign events as in many cases it has taken decades of neglect and mismanagement to reach a crisis point and it can take another decade or so to see the ultimate result of that mismanagement.
The positive take away from Fergusson’s book is that given time, a country like Germany ,who even had to recover from the scars of Hitler, can reset and rebuild a strong foundation provided they learn from their past mistakes. Germany’s current status in Europe and their balance sheet relative to their European peers show they have learned a lesson or two in the last ninty years.
I read this book during the same period (Sept-Oct 2011) that Merkel (Chancellor of Germany) was in the spotlight working on the Greek Rescue package. It was an interesting irony to be reading the history of a 1920’s Germany of delusion only to put to book down and read the latest daily news on the Greek rescue package progress which relied primarily on Germany’s financial support.
I found the first quarter of the book enticing, the middle a chore and the last quarter wonderfully entertaining. I felt it very important that I read this one cover to cover as this subject of gross monetary mismanagement is to me the 800 lb. gorilla in the U.S. as well as every other artificially propped Sovereigns right now. I still think U.S. real estate and equities are grossly overvalued. We have seen them tumble one by one (Iceland, Greece, Ireland), but the underlying numbers tell us it’s not over yet, and to the prudent risk manager it means staying focused on the fundamental numbers. Not the short term numbers that the market looks at, but the trade balance (hasn’t been positive since 1975), our increasing expenditures and our decreasing revenues.
When all else fails, look at the balance sheet to get the primary story and then ask yourself what opportunities you see for growth in the next 5 to 10 years.
When I look at the U.S. I see a country without a strategy. I see a automotive industry that had four decades and billions of dollars to be first out with an electric car and failed. I see and energy industry that had four decades and billions of dollars to develop and market alternative fuels and failed.
I see a food industry that moved from producing healthy foods (fruits and eatable vegetables) to a corn producer of which 80% of the corn goes to feeding livestock, poultry and fish.
Like it or not, soft drinks, fast food, dairy products and meat products promote obesity, heart disease and cancer (see
The China Study). These diseases continue to raise our health care costs exponentially. This trend of America’s poor eating habits is likely to continue and until this trend reverses our healthcare cost will to continue to rise regardless of which Government program is tweaked, implemented or abandoned.
For the savvy trader there will be both short term and long term opportunities, but with the increased volatility it will require a high degree of skill and discipline to manage the large swings and intraday chaos.
The Good News:In the last couple of decades Steve Jobs and Apple revolutionized the computer industry, the music industry, the movie industry and the phone industry, among others.
That same type of revolution is available in the Health Industry, the Transportation Industry, The Utilities Industry, the Energy Industry and the Financial Industry. Once business leaders are able to focus and execute strategies based on customer experience, sustainability and continued innovation we will finally have a strategy compatible with real economic growth as opposed to “artificial” growth.
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