[lbo-talk] An Orgy of Speculation?

Chuck Grimes c123grimes at att.net
Thu Mar 3 12:05:01 PST 2011


[From Counterpunch, An Orgy of Speculation, Mike Whitney]:

What's needed is more fiscal stimulus to put money in the hands of people who will spend it quickly and rev-up the economy. If businesses have no incentive to spend (because of flagging demand) and consumers cannot spend (because their personal balance sheets are in the red), then government must take the initiative and increase its budget deficits to keep the economy chugging-along in positive territory. Of course, that won't happen because the leaders of both parties have abandoned Keynesian remedies and taken the vow of austerity. That means unemployment benefits, state aid, and other critical fiscal lifelines will be further slashed leading to more misery and more economic contraction. David Leonhardt makes this very point in a recent article in the New York Times. Here's what he said:

"....many members of Congress continue to insist that budget cuts are the path to prosperity. The only question in Washington seems to be how deeply to cut federal spending this year....

The fundamental problem after a financial crisis is that businesses and households stop spending money, and they remain skittish for years afterward. Consider that new-vehicle sales, which peaked at 17 million in 2005, recovered to only 12 million last year. Single-family home sales, which peaked at 7.5 million in 2005, continued falling last year, to 4.6 million. No wonder so many businesses are uncertain about the future.

Without the government spending of the last two years - including tax cuts - the economy would be in vastly worse shape. Likewise, if the federal government begins laying off tens of thousands of workers now, the economy will clearly suffer." ("Why Budget Cuts Don't Bring Prosperity", New York Times)

So, there's a real danger that the deficit hawks on both sides of the aisle will fail to see how weak the economy really is and begin trimming the deficits too early. This is what happened to FDR in 1937, and it thrust the country into another slump. Here's another clip from the NY Times that explains what tightening on the state level will mean. The article is titled "Smaller Government Can Be a Drag (on Growth)":

"Output last quarter grew more slowly than initially reported, according to the Bureau of Economic Analysis: an annual rate of 2.8 percent rather than 3.2 percent. One of the main reasons for the downward revision was that state and local governments cut their spending at a 2.4 percent annual pace.....

A decline in state and local spending - and the layoffs that are likely to be involved - can have dangerous reverberations throughout the economy. So would the cut in federal spending that many Congressional Republicans have been threatening. Besides chucking even more workers into the pool of the unemployed, such cutbacks would also take away services supporting the many Americans trying to get back on their feet. This in turn hurts their ability to spend, threatening the bottom lines of the businesses they patronize, potentially leading to even more layoffs in the private sector. And so on." ("Smaller Government Can Be a Drag (on Growth)", Catherine Rampell, New York Times)

So, the cutbacks in state assistance will have a contractionary effect that will increase excess capacity, raise unemployment, and put a damper on growth. Slashing deficits when long-term bond yields are at historic lows and there's no sign of a fiscal crisis, is lunacy in the extreme. Unfortunately, both Congress and the White House are fully committed to near-term belt-tightening.

So, how does Bernanke fit in all of this? The Fed's loose monetary policies are stimulating speculation without really improving conditions in the underlying economy. The record amounts of debt the hedge funds have taken on are just one sign of this. (According to nasdaq.com: "At the end of January, margin debt totaled $289.6 billion, up from $276.6 billion at the end of December and the highest level since September 2008, according to Big Board data for customers of NYSE-member securities firms.") The problem for heavily-levered hedge funds is that if the market falls even a small amount, they can be wiped out. That means the Fed would have to come to the rescue again to prevent the defaults from dominoing through the system.

http://www.counterpunch.org/whitney03012011.html

So if the above is accurate, then we are just waiting around for which of these monsters hits first? Maybe it's a question of which series of vicious circles starts up.

CG



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