"Gentlemen, I have had men watching you for a long time, and I am convinced that you have used the funds of the bank to speculate in the breadstuffs of the country. When you won, you divided the profits amongst you, and when you lost, you charged it to the bank. You tell me that if I take the deposits from the bank and annul its charter, I shall ruin ten thousand families. That may be true, gentlemen, but that is your sin! Should I let you go on, you will ruin fifty thousand families, and that would be my sin! You are a den of vipers and thieves. I intend to rout you out, and by the eternal God, I will rout you out."
President Andrew Jackson 1832
Contrast the words of President Andrew Jackson who had a strong moral compass and a firm grasp of right and wrong to the words of our current President, George W. Bush.
"The bipartisan economic rescue plan addresses the root cause of the financial crisis--the assets related to home mortgages that have lost value during the housing decline. Under the Emergency Economic Stabilization Act, the federal government will be authorized to purchase these assets from banks and other financial institutions, which will help free them to resume lending to businesses and consumers. I know many Americans are worried about the cost of the bill, and I understand their concern. This bill commits up to 700 billion taxpayer dollars, because a large amount of money is necessary to have an impact on our financial system. However, both the non-partisan Congressional Budget Office and the Office of Management and Budget expect that the ultimate cost to the taxpayer will be far less than that. In fact, we expect that over time, much -- if not all -- of the tax dollars we invest will be paid back."
Mr. Bush fails to realize that the root cause of the financial crisis is not the housing decline. The root cause is the greed of Wall Street CEOs, including his current Treasury Secretary, the failure of government to enforce existing rules to protect consumers and the greed and recklessness of Main Street USA as they attempted to borrow their way to prosperity. In the classic Washington fashion, the banker bailout bill was repackaged by Washington PR maggots into the Main Street Rescue bill. This is what constitutes progress in Washington. A three page fascist-like bill proposed by Hank Paulson grew to a 450 page goliath pork laden bill in less than one week. The bill that passed bought off every constituent in the U.S. with pork for rum producers, toy arrow makers, and film producers, while adding an additional $120 billion to the national debt. President Bush signed the bill before the ink was dry. The market immediately proceeded to decline 450 points in minutes, declaring that it will not work. Not to worry. Another bailout bill will be on its way shortly.
President Jackson was at war with the bankers who had taken undue risks and caused much pain in the country. He was willing to allow short term pain on American families, rather than let these bankers inflict much more damage in the future. President Bush and his cohorts at the Federal Reserve & Treasury have attempted to reverse the natural capitalist cycle of boom and bust during his entire eight year administration. The reduction of interest rates to 1%, tax rebates, excessive deregulation, and encouragement by the President and Federal Reserve to speculate and spend have led to our financial crisis today. A President with a backbone and moral compass would be telling the American people that our bankers have ruined this country and have caused the coming deep recession. He would explain that it is a painful lesson that must be faced now so that future generations would not have to pay for the sins of today. Instead, he urged the American people to support a $820 billion banker bailout which will attempt to push off pain far into the future. He has clearly failed the test of leadership and doesn't deserve to be in the same company as "Old Hickory."
In the last few weeks I've heard a lot of discussion about the Great Depression. Jim Cramer has said that if the bailout wasn't passed, we would experience a 2nd Great Depression. This has led me to try and assess the circumstances which existed prior to the Great Depression of the 1930's versus the conditions today. The chart below is extremely disturbing. The most recent flow of funds data shows that total credit market debt is $51 trillion versus our $14.3 trillion GDP. Debt as a percentage of GDP is now 356% versus 260% during the Great Depression of the 1930's. This massive buildup of leverage has just begun to unwind. If this is just the beginning of the great leverage unwind, then the pain will be tremendous when it really gets going. The conclusion that I reach when looking at the vertical takeoff of debt in the early 1980's is that this country has been living a lie of false prosperity. The huge McMansions, luxury cars, high tech gadgets, granite kitchens, 2nd homes, and exotic vacations were purchased with debt. These "assets" are depreciating rapidly and consumers and companies are desperately selling assets to pay down the debt that is strangling them. The psychology of this country has begun to change from conspicuous consumption to forced liquidation and saving.
The psychology of the country has taken longer to get to this point than I thought it would. Real median household income in the U.S. is $50,233 today. It was $50,577 in 2000 when George Bush took office. The government has added over $4 trillion to the national debt during this time. This proves that most people in this country have not been able to generate enough income to keep up with inflation. And this is using the fake CPI numbers put out by the government. Using inflation rates in the real world would make the situation more dire for the average household. The only way people have been able to maintain their lifestyle has been to borrow against their house and run up their credit cards. That is a phony improvement in lifestyle. The country has been living a lie for the last twenty years. It is now time to pay the piper.
Even more disturbing is the fact that the top 20% of households showed real increases in income. The bottom 50% lost income during the Bush years, with the bottom 20% losing 6% of income over this time frame. No wonder there is so much anger in the country regarding this bailout for the top 1%. Fifty million households make less today than they made 8 years ago. The criminal CEOs on Wall Street collected $30 million annual salaries while their companies have lost $500 billion in the last year. The average American is living paycheck to paycheck and can't maintain a lifestyle without borrowing. The unwinding of this unbelievable debt load could lead to the next Great Depression.
Coming Depression?
There is no absolute consensus regarding the causes of the Great Depression, but some common themes become clear. I will try to evaluate today's environment versus the conditions that existed in the 1920's.
1. Expansion of the money supply by the Federal Reserve during the 1920's
According to the Austrian School of economics, the Great Depression was mainly caused by the expansion of the money supply by the Federal Reserve in the 1920's that led to an unsustainable credit driven boom. Both Friedrich Hayek and Ludwig von Mises predicted an economic collapse in early 1929. In the Austrian view it was this inflation of the money supply that led to an unsustainable boom in both asset prices (stocks and bonds) and capital goods. Ben Strong, the head of the Federal Reserve, attempted to help Britain by keeping interest rates low and the USD weak versus the Pound. The artificially low interest rates led to over investment in textiles, farming and autos. In 1927 he lowered rates yet again leading to a speculative frenzy leading up to the Great Crash. By the time the Federal Reserve belatedly tightened in 1929, it was far too late and, in the Austrian view, a depression was inevitable. The artificial interference in the economy was a disaster prior to the Depression, and government efforts to prop up the economy after the crash of 1929 only made things worse. According to Murray Rothbard, government intervention delayed the market's adjustment and made the road to complete recovery more difficult.
Alan Greenspan reduced interest rates to 1% for over a year in 2003. This act led to a speculative frenzy in real estate, $3 trillion of equity withdrawal by consumers and tremendous overconsumption built upon a foundation of debt. This speculative frenzy was exacerbated by the "Masters of the Universe" on Wall Street with their CDOs, MBSs, and other magic potions that made bad loans appear good. The Bush administration's decision to not enforce any existing oversight of the banks also contributed greatly to the current situation. Realistically, the current conditions are worse than they were prior to the Great Depression based on the speculation that has occurred in the last eight years in stocks and real estate. Debt as a percentage of GDP is now 356% versus 260% prior to the Crash of 1929.
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