Efforts to halt the Great Correction are in vain - The Daily Reckoning

Efforts to halt the Great Correction are in vain

Apr 5, 2011

Delray Beach, Florida

Yesterday was a nothing, no-account, waste-of-time kind of day in the markets. The Dow rose a bit. Gold did too.

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So, let's take this opportunity to raise our heads and have a look around. When you watch something too closely you can miss the bigger story, like studying an unfolding bud and without realizing it is springtime.

But first, a chance to meet Dear Readers...

We're planning a trip to China next month. We'll be there with colleague Addison Wiggin and three of our children, visiting Beijing and Shanghai. If you live in China, we'd like to meet you. We'll host a cocktail reception in both cities. It might be a small party; but it will be fun. Drop a line to our assistant: darius.m.fisher@gmail.com

Now, back to springtime...

In April 2007, the US, British, Irish...and many other economies...were saturated with debt. It had to be squeezed out. And so began a Great Correction. Everything under heaven serves some purposes. And the purpose of a correction is to correct mistakes. In this case, the Great Correction was meant to purge the errors of a credit expansion that was already more than half-a-century old.

The de-leveraging began in US sub-prime mortgages. Then, it spread, calling into question the value of just about everything. It resulted in the biggest losses in history -- mostly in stocks, real estate, and derivative assets. From memory, those losses were estimated at between $20 and $30 trillion dollars, worldwide.

The rescuers were on the scene in force by the fall of '08, after Lehman Bros. went belly up. They effectively stopped the process - partially - by refusing to allow major borrowers to go broke. If a large institution couldn't pay its debts, they lent it more money.

In Ireland, for example, lenders had put far too much money into real estate. When borrowers couldn't pay, the government stepped in, grandly announcing that it would cover all the loans.

Whew! What were they thinking? The bad debts turned out to be a lot more than the Irish government could handle. Pretty soon, not only were the bankers in trouble, but so was the government itself. Ireland was going broke. And the more private lenders raised their lending rates, the more broke Ireland became. The government was desperate for a bailout; it turned to the IMF and Brussels. Now, the hole is deeper...and the Irish are looking for another bailout.

In the US, the story is similar. It bailed out the banks, Fanny, Freddie, AIG, General Motors and so forth. But since the US can print its own money, it could bail without sinking its own barque. In the short run at least, its own credit was unimpaired. The Fed bought up the bad loans and mortgage derivatives - to the tune of $1.2 trillion - printing the money to do so. Unlike the Europeans, whose central bank is run by Germans with a residue of financial integrity, the Fed followed the Bank of Japan. It reduced lending rates to zero. It monetized debt - first the $1.2 trillion of private sector debt from all over the world...and then $600 billion (still underway) of public sector loans.

And let's not forget the $700 billion TARP program. Or the tax cuts.

Add it all together and you a total bailout bill that may exceed $20 trillion.

What has been the result of all this expense and effort? Well, if you think the Great Correction needed to be arrested - at any cost - it was a marginal success. US GDP shrank...but only by about 4% maximum. Unemployment got no higher than 10% -- thanks largely to the way the number is put together.

Unemployment seems to be yielding grudgingly to the feds assault. At least, that's the way the papers tell the story. By our math, job creation is just barely keeping up with the population increase.

Meanwhile, housing fell about 20%...and is still going down.

From all that we can tell, the Great Correction has not been turned around...it has merely been slowed down, delayed, and magnified by public sector borrowing, and money-printing, on a huge scale.

*** In short, the feds have made the situation worse, just as we predicted. They've frozen the process of correction. Which leaves the zombies still preying upon the productive economy.

What's the biggest zombie business in the US private sector economy? Banking! The financial sector makes its money by shuffling money around and lending people rope so they can hang themselves.

Of course, a little 'banking' is necessary. Capital must be allocated. But a lot of it is just a pest. A leech. A blood-sucking, flesh eating zombie!

Well, guess what? Profits in the zombie sector are back to where they were before 2007. Which just shows you where that $20 trillion went - into the pockets of the same people whose recklessness and greed caused the meltdown.

Not that we're complaining about bankers. That's the way the system is supposed to work. It goes from boom to bust...from euphoria to desolation...from expansion to contraction... The whole system is meant to separate fools from their money; the bankers merely help!

But when the feds step in to try to eliminate the down-stroke of the cycle they make a total mess of the situation. The system goes into a correction...and gets stuck. Progress is halted. Companies that should have died are kept on zombie life-support. Bankers that should be parking cars are kept at their jobs earning million-dollar bonuses. Investors who should have lost all their money, get a chance to lose even more.

That's what happened in Japan. Along with Addison Wiggin, we predicted that it would happen here too. Of course, we were nearly 10 years too early. But what's a decade? Sometimes, even marriages last longer.

*** But wait. Now, the news reports tell us that the feds' anti-correction program is working.

Probably the most widely read and most highly appraised financial newspaper is the Financial Times. It's the journal of the financial elite...where policymakers all over the world get their bent news and their misshapen opinions.

Last week, Clive Crook, writing in the FT, told us that "the Fed was right" to launch QE2. He said he was looking for QE3.

And then, just yesterday...in the FT's "Lex" column. Another headline:

"QE2 won. What next?"

Stock market prices are up. Inflation expectations are up. Unemployment is down to 8.8% QE2 "clearly had the advertised effects."

Then, on page 9, there's Clive Crook again telling us what he thinks we should have next.

"The economy needs a third phase of quantitative easing," he writes.

Bill Bonner is the President & Founder of Agora Inc, an international publisher of financial and special interest books and newsletters.

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1 Responses to "Efforts to halt the Great Correction are in vain"

Maulik Suthar

Apr 5, 2011

The greatest stock market bubble, and hence commodity bubble , gold bubble in the history of mankind are yet to arrive. But I will not indulge in job to predict them.

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