My wife and I welcomed our fifth grandchild, a beautiful little girl, into the world on Thursday. I mentioned this on our Capitalstool.com message board, which brought the usual congratulatory responses, but this one was a more thoughtful discourse from long time stoolie Jimi, who has a way with coming up with deeper insights on a regular basis. I’d like to share his thoughts with you and solicit your responses in the comments section.
“I believe everyone’s grandkids will live in a better world, although the immediate path to progress remains discomforting.
A massive imbalance was formed. Precisely when it formed is open to debate. I’d say that the imbalance was inaugurated on August 15, 1971, when Nixon closed the gold window. He was forced to that point by the guns & butter excesses of Vietnam and the Great Society. There was always the alternate choice of scaling back federal expenditures, restoring fiscal balance, and maintaining convertibility.
Instead, the U.S. opted for free lunch fiction.
The floating exchange rate period enjoyed a demographic bubble as baby boomers came of income-earning age. Concurrently, the psychological inhibitions to personal debt born of the 1930s weakened. Reagan’s 1980 election campaign promise of more military spending, tax cuts, and balanced budgets was internally inconsistent from the word “Go,” and constitutes another juncture in the burdening imbalance. Balanced budgets were jettisoned and have spiraled (with a brief artificial pause during the Clinton years) ever since.
Why has imbalance persisted so long? We’re clearly a wealthy country, and that wealth base forms an extremely large equity tranche against which to lever. Boomers moved into middle age at a point when free market capitalism was expanding to all points of the globe – as a result, the equity tranche grew substantially during the 1980s & 90s. That’s critical – so long as the equity tranche grows, it can be levered.
Lastly, we’ve “enjoyed” the enabling parasitic mutualism of East Asian mercantilism, which is truly the final stage of imbalance. It’s nothing more than a circle-jerk of vendor financing wherein we buy crap we can’t afford and otherwise don’t need from creditors who subordinate long-term economic investment to short-term quasi economic growth. (Some tech companies pulled the same vendor-financing crap during the dotcom bubble – how’d that work out?)
Clearly, the financial world has trembled since 2007. A patchwork of “fixes” has sought to get that damned equity tranche back on the growth path – and this is the key – so that it may be levered. We/they/The Them understand the value of equity not as accumulation of wealth itself, but as simply an entity to be levered.
Meanwhile, we’ve lost sight of what constitutes equity and what constitutes leverage. And therein the pain still ahead – because only some measured degree of leverage can be reasonably applied to any level of equity. The debt in excess of that “measured degree” is leverage on leverage, unsupported by equity, and it will not survive. It will be destroyed. It is being destroyed in a cascade of debt-on-debt default that overwhelms (to date, unambiguously) the effort to reflate. I think the 40 year imbalance has met its reckoning, that they won’t succeed at reflating, and am therefore a deflationist.
We are in “Equity Tranche Discovery” mode, poised to establish over the course of many years what the actual “wealth” basis of our national economy is. Doing so will imply when the imbalance began. Establishing our true economic wealth will allow us to once again live within our means.
Doc’s grandkids will live in a world less effed up than now because I expect them to live more within their means, and I associate happiness & security with living within one’s means… and believe our society is currently so dysfunctional because we’ve embraced such imbalance.
If leverage on equity is enough to create periodic sleepless nights for society, then leverage on leverage makes of us all perpetrators and victims of domestic battery.