Thursday, October 29, 2009

Bulls Dancing in the Swamp

The Bulls have put on their dancing shoes and are tapping across the stage to the dolce strains of “Happy Days are Here Again.” They spin and bob, then form a line and kick their hooves like a company of bovine Rockettes.

The numbers they are a climbing. Prosperity is ours, they sing, and soon we shall return to the heady days of another helium-filled bubble that will leave us all dizzy and high on its gas.

Writer David Cohen is skeptical. He believes we are in a “statistical recovery” in which the numbers look good even if the economy isn’t.

For example, the prosperity of the banks is based on an accounting gimmick. The reason the bank’s balance sheets looked so bad in that accounting rules forced them to value their toxic assets by marking them to market, i.e., what some damn fool would actually buy them for, which was somewhere around ten cents on the dollar.

K Street swung into action, and the accounting rules were changed to allow the banks to “mark to model.” Under this change, the banks were allowed to use a proprietary mathematical model to value their dreck. The net result was instant solvency.

However, Cohen points to another indicator that our economic recovery is more fiction than fact. Obama argued that, “[A} dollar of capital in a bank can actually result in eight or ten dollars of loans to families and business, a multiplier effect that can ultimately lead to a faster pace of economic growth.”

This sounds great in theory. Practice is something else.

Cohen looks at the velocity of money, the speed at which it enters the economy and finds that there’s trouble, with a capital “T”, in River City. In spite of the trillions the government has pumped into the economy, the velocity has fallen precipitously. (During the Great Depression, this velocity fell 22 percent.)

He quotes one economist who points out that:

At the worst point in the decline, the four weeks ending Aug. 24, M2 was dropping at an annualized rate of 12%. That’s the kind of contraction you get in a financial panic. Not the kind of growth you want to see as you’re trying to guide an economy to recovery.

The economist goes on to say:

We are now entering treacherous waters for monetary authorities in highly-leveraged economies. Given the decade(s)-long dependence on the credit mechanism to spur economic growth, the financial crisis has brought about a precipitous decline in the velocity of money, i.e., how much economic activity is generated per unit of money.

Bloomberg contends that the velocity of money never really recovered following the “heady days of the 90’s productivity boom.”

The problem isn’t just that the banks are unwilling to loan, which they aren’t. It’s also that people aren’t really looking for loans. Cohen points out that it’s not just a problem with the bank’s balance sheets; it is also a problem with household balance sheets. Many households have become overleveraged as the value of their 401(k)s dropped along with value of their homes.

So all the money that the government has pumped into the economy sits there like a fetid pool of sludge generating nothing except a foul odor.

According to Cohen, “Thus we will have a statistical recovery in GDP even as economic activity stagnates and unemployment rises, despite the fiscal & monetary stimulus. Welcome to a new kind of depression.”

Beware of dancing bulls.

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