There is now a rising probability of a "catastrophic" financial and economic outcome, i.e. a vicious circle where a deep recession makes the financial losses more severe and where, in turn, large and growing financial losses and a financial meltdown make the recession even more severe. The Fed is seriously worried about this vicious circle and about the risks of a systemic financial meltdown. Here's how and why it will happen.

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Why the US really has gone broke 

By Chalmers Johnson

 

Feb 4, 2008,

 

The economic disaster that is military Keynesianism

 

Global confidence in the US economy has reached zero, as was proved by last month’s stock market meltdown.  But there is an enormous anomaly in the US economy above and beyond the subprime mortgage crisis, the housing bubble and the prospect of recession: 60 years of misallocation of resources, and borrowings, to the establishment and maintenance of a military-industrial complex as the basis of the nation’s economic life.

 

The military adventurers in the Bush administration have much in common with the corporate leaders of the defunct energy company Enron.  Both groups thought that they were the “smartest guys in the room” — the title of Alex Gibney’s prize-winning film on what went wrong at Enron.  The neoconservatives in the White House and the Pentagon outsmarted themselves.  They failed even to address the problem of how to finance their schemes of imperialist wars and global domination.

 

As a result, going into 2008, the United States finds itself in the anomalous position of being unable to pay for its own elevated living standards or its wasteful, overly large military establishment.  Its government no longer even attempts to reduce the ruinous expenses of maintaining huge standing armies, replacing the equipment that seven years of wars have destroyed or worn out, or preparing for a war in outer space against unknown adversaries.  Instead, the Bush administration puts off these costs for future generations to pay or repudiate.  This fiscal irresponsibility has been disguised through many manipulative financial schemes (causing poorer countries to lend us unprecedented sums of money), but the time of reckoning is fast approaching.

 

There are three broad aspects to the US debt crisis.  First, in the current fiscal year (2008) we are spending insane amounts of money on “defense” projects that bear no relation to the national security of the US.  We are also keeping the income tax burdens on the richest segment of the population at strikingly low levels.

 

Second, we continue to believe that we can compensate for the accelerating erosion of our base and our loss of jobs to foreign countries through massive military expenditures — “military Keynesianism” (which I discuss in detail in my book Nemesis: The Last Days of the American Republic).  By that, I mean the mistaken belief that public policies focused on frequent wars, huge expenditures on weapons and munitions, and large standing armies can indefinitely sustain a wealthy capitalist economy.  The opposite is actually true.

 

Third, in our devotion to militarism (despite our limited resources), we are failing to invest in our social infrastructure and other requirements for the long-term health of the US.  These are what economists call opportunity costs, things not done because we spent our money on something else.  Our public education system has deteriorated alarmingly.  We have failed to provide health care to all our citizens and neglected our responsibilities as the world’s number one polluter.  Most important, we have lost our competitiveness as a manufacturer for civilian needs, an infinitely more efficient use of scarce resources than arms manufacturing.

 

Fiscal disaster

 

It is virtually impossible to overstate the profligacy of what our government spends on the military.  The Department of Defense’s planned expenditures for the fiscal year 2008 are larger than all other nations’ military budgets combined.  The supplementary budget to pay for the current wars in Iraq and Afghanistan, not part of the official defense budget, is itself larger than the combined military budgets of Russia and China.  Defense-related spending for fiscal 2008 will exceed $1 trillion for the first time in history.  The US has become the largest single seller of arms and munitions to other nations on Earth.  Leaving out President Bush’s two on-going wars, defense spending has doubled since the mid-1990s.  The defense budget for fiscal 2008 is the largest since the Second World War.

 

Before we try to break down and analyze this gargantuan sum, there is one important caveat.  Figures on defense spending are notoriously unreliable.  The numbers released by the Congressional Reference Service and the Congressional Budget Office do not agree with each other.  Robert Higgs, senior fellow for political economy at the Independent Institute, says: “A well-founded rule of thumb is to take the Pentagon’s (always well publicized) basic budget total and double it” (1).  Even a cursory reading of newspaper articles about the Department of Defense will turn up major differences in statistics about its expenses.  Some 30-40% of the defense budget is “black”,” meaning that these sections contain hidden expenditures for classified projects.  There is no possible way to know what they include or whether their total amounts are accurate.

 

There are many reasons for this budgetary sleight-of-hand — including a desire for secrecy on the part of the president, the secretary of defense, and the military-industrial complex — but the chief one is that members of Congress, who profit enormously from defense jobs and pork-barrel projects in their districts, have a political interest in supporting the Department of Defense.  In 1996, in an attempt to bring accounting standards within the executive branch closer to those of the civilian economy, Congress passed the Federal Financial Management Improvement Act.  It required all federal agencies to hire outside auditors to review their books and release the results to the public.  Neither the Department of Defense, nor the Department of Homeland Security, has ever complied.  Congress has complained, but not penalized either department for ignoring the law.  All numbers released by the Pentagon should be regarded as suspect.

 

http://axisoflogic.com/artman/publish/article_25997.shtml

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  The Rising Risk of a Systemic Financial Meltdown: The Twelve Steps to

Financial Disaster

 

by Nouriel Roubini

 

To understand the Fed actions one has to realize that there is now a rising probability of a “catastrophic” financial and economic outcome, i.e. a vicious circle where a deep recession makes the financial losses more severe and where, in turn, large and growing financial losses and a financial meltdown make the recession even more severe. The Fed is seriously worried about this vicious circle and about the risks of a systemic financial meltdown.

 

Here are the twelve steps or stages of a scenario of systemic financial meltdown associated with this severe economic recession:

 

1.  this is the worst housing recession in US history ...

 

2.  losses for the financial system from the subprime disaster are now estimated to be as high as $250 to $300 billion. They are now spreading to near prime and prime mortgages ...

 

3.  the recession will lead – as it is already doing – to a sharp increase in defaults on other forms of unsecured consumer debt: credit cards, auto loans, student loans.

 

4.  the downgrade of the monolines will lead to another $150 of writedowns on ABS portfolios for financial institutions that have already massive losses.

 

5.  the commercial real estate loan market will soon enter into a meltdown similar to the subprime one.

 

6.  it is possible that some large regional or even national bank that is very exposed to mortgages, residential and commercial, will go bankrupt.

 

7.  once a severe recession is underway a massive wave of corporate defaults will take place.

 

8.  the fall in stock markets – after the late January 2008 rally fizzles out – will resume ...

 

9.  a vicious circle of losses, capital reduction, credit contraction, forced liquidation and fire sales of assets at below fundamental prices will ensue leading to a cascading and mounting cycle of losses and further credit contraction.

 

Panic, fire sales, cascading fall in asset prices will exacerbate the financial and real economic distress as a number of large and systemically important financial institutions go bankrupt.  In this meltdown scenario, U.S. and global financial markets will experience their most severe crisis in the last quarter century.

 

http://www.rgemonitor.com/blog/roubini/242290

Cover story from Business Week, January 31, 2008:

 Brace yourself: Home prices could sink an additional 25% over the next two or three years, returning values to their 2000 levels in inflation-adjusted terms.  That's even with the Federal Reserve's half-percentage-point rate cut on Jan. 30.

  While a 25% decline is unprecedented in modern times, some economists are beginning to talk about it.  "We now see potential for another 25% to 30% downside over the next two years," says David A. Rosenberg, North American economist for Merrill Lynch, who until recently had expected a much smaller slide.  http://www.businessweek.com/magazine/content/08_06/b4070040767516.htm

Submitter: Richard Clark

Submitters Bio:

Several years after receiving my M.A. in social science (interdisciplinary studies) I was an instructor at S.F. State University for a year, but then went back to designing automated machinery, and then tech writing, in Silicon Valley. I've always been more interested in political economics and what's going on behind the scenes in politics, than in mechanical engineering, and because of that I've rarely worked more than 8 months a year, devoting much of the rest of the year to reading and writing about that which interests me most.