If you click on the category Kondratieff Long Waves you can follow a series of posts on the coming of Kondratieff Winter, the inevitable deflationary depression that follows a credit bubble. Back in 2005 in Kondratieff Winter and the Greenspan Indian Summer I pointed out how Greenspan was playing a Grand Experiment with History. He faced a potential K-Winter start after 2000, and he held rates too low for too long to reflate the currency. It worked for a time, but the prosperity generated was false ($10T debt for $6T GDP growth) and the effort created an even bigger bubble.
This K-Autumn has been unusually long: 1982 - 2007. The first three K-Autumns (1822-1837, 1865-1873, 1922-1929) were much shorter. Greenspan at least kept the debt-laden party going for 20 extra years (1987-2007). Perhaps we should add a K-Indian Summer to the list of seasons. Or perhaps after the Greenspan experiment fails so abysmally, it won't be tried for another 200 years. Let's explore this in more detail, and estimate the depths of the coming Depression.
Even though Greenspan's experiment has caused the greatest credit crisis since 1931, Bernanke continues to pursue the same failed idea, of excessively easy credit to reflate the currency. The Austrian School has pointed out that after a credit bubble has burst, easy credit will not restart it. So far, that is what is happening. Right now the fear is of major money center banks failing completely, despite the bailouts to date. Another $350B of TARP won't stave off a bankrupt industry $3T on the hole.
John Mauldin offered a guestblog called The Great Experiment which puts all of us as guinea pigs in a grand exercise of academic economics. Welcome to the petri dish! In 1933 debt to GDP grew to 300%; in 2003 we went over 300% and are flying over 360%. Bernanke has tried to reflate, growing reserves 2000% and making M2 grow an astounding amount of 18% on the last quarter, all for naught: the velocity of money (its turnover) is plummeting and is unlikely to reverse as people hunker down for the Greater Depression. Household wealth has fallen $10T, and this is expected to lower spending by 3.4% per year for the next three years, as compared with 2.9% growth in the prior five years. A net drag of 6.3% of GDP per year, or 19% over the next three years.
Obama's $850B stimulus is unlikely to have any impact beyond extending the disaster farther out. It contains payoffs to political constituents and pet projects that have been kicking around for years, but almost nothing that will create future wealth or prosperity. All the jobs created will be temporary and go away when the money dries up. Whither the Obama Hope Rally? The market sees it as a $850B black hole of waste, not as a kickstart to a new economy. This waste is borrowed, hence pulls capital out of productive use, deepening the problem. The only prescription that might work is a permanent one, like a major tax cut - for example, ending corporate income taxes completely to spur private investment and competitiveness.
During Greenspan Indian Summer, we borrowed more than we grew, and it is becoming clear that a lot of the money borrowed was squandered in frauds and conspicuous consumption. Perhaps half the excess borrowing of $4T over GDP growth was wasted, putting us into a $2T hole. The first bubble, real estate, peaked in 2005, and put housing way above the long term trendline of prices. They have to fall - and the value has to be lost - before we can grow that sector again The second bubble in commodities lasted into July 2008, and left huge destruction across almost all markets, but at least these markets seem to have corrected already - the excess has been lost.
On top of this $2T hole we had the overhand of the 2000 dot-com bubble, estimated in one of a series of great analyses by Karl Denninger as another $1T of excess. By keeping the party going, Greenspan prolonged the day of denouement. We might be roughly only at a $3T of excess or 20% of GDP, except for actions taken since the meltdown. The Bush stimulus of $170B was mostly saved or wasted; it created no lasting prosperity. The part of the initial TARP that seems to have dissolved in waste is around $175B or half the amount given out so far; adding these wasted amounts to the Obama stimulus we might be around an additional $1.2T of wasted spending that deepens the hole.
This means the Greenspan Indian Summer has taken a $1T problem and grown it to a $4.2T debacle, or 30% of GDP. With the profound change of consumer behavior, to save rather than spend, we potentially have another 19% of GDP to fall. Perhaps the two calculations overlap a bit, but it is safe to estimate that the coming GDP drop will be at least 35% of GDP, or about the level of the first part of the Great Depression (35% down in the first wave, 20% down in the second).
If you would like to learn more about the Kondratieff Wave, a great place to start is with this report from Ian Gordon,the keeper of the Kondratieff Wave in these times. Ian's report came out just as the 2007 Indian Summer was ending, and presciently laid out how the next years would develop. So far he called it correctly. Prechter calls him the premier Kondratieff scholar of our time.
I first learned of Kondratieff through Prechter's books, specifically At The Crest of the Tidal Wave. At that time (1994) Prechter and other ewavers (such as Zoran Gayer) were fooled into thinking that 1994 was the end; then the great extended fifth wave of the dot-com bubble burst onto the scene. I reread Conquer the Crash recently, and was blown away by Chapter 13, which lays out why the Fed cannot prevent deflation. While Prechter has provided his thinking to his subscribers, I asked him for permission to distribute Chapter 13 to my readers, and he graciously agreed. I would urge you to download and read Chapter 13, excerpted from his book, especially when you see in the news and columnists drivel like "no one could have predicted this." They could, and they did.
What Prechter wrote in 2000 is pretty much what has been tried for the past 18 months, to no avail. How can we expect bailouts and reflation of under $2T to forestall a credit debacle of $52T? Global credit grew $24T over the Indian Summer period on a paltry global GDP growth of $10T, so at least $14T will come crashing down; plus we already were highly over-leveraged across the global economy in 2000.
Once we accept that the party is over, we can begin to get serious about how to reset the economy. A lot of it is time and taking the pain. And we should not forget the wisdom of FDR's Treasury Secretary Henry Morgenthau, who testified in May 1939:
"We are spending more money than we have ever spent before, and it does not work. ... I want to see this country prosperous. I want to see people get a job. I want to see people get enough to eat. We have never made good on our promises. ... I say after eight years of this administration we have just as much unemployment as when we started ... and an enormous debt, to boot."
I don't think he was any more a Keynesian.
Build a May High, Nov low, Jan High fork
if we're in wave 2 of 5 the upper fork line will be typical target zone.
http://forkoholic.com/images/spxwave5fork.jpg
As always - no guarantees
Posted by: Forkoholic Serge | Wednesday, January 21, 2009 at 06:10 PM
Note: My analysis assumes Wave 5 from May top. if you believe it is Wave 5 from Oct07 top you should start your fork at that point
Posted by: Forkoholic Serge | Wednesday, January 21, 2009 at 06:11 PM
SPX looks like series of 1-2s
the question is UP or DOWN?
http://forkoholic.com/images/spxfork012209.jpg
Posted by: Forkoholic Serge | Thursday, January 22, 2009 at 01:35 PM
Gold.
Posted by: Genesis | Thursday, January 22, 2009 at 05:15 PM
Told ya'...even gave y'all 12-hours notice.
Posted by: Genesis | Friday, January 23, 2009 at 02:01 PM
It should be remembered that calling for deflation (even if it was back when Conquer the Crash was written) was very prescient and almost unique. And, Prechter was severely ridiculed and generally dismissed. (I thought a dollar collapse was more likely along w/ commodity inflation due to Peak Oil and, in general, overpopulation and strained resources.).
There's Prechter the fundamentalist and Prechter the E-Wavist. I've always found him to be a brilliant out-of-the-box thinker (and he's a Renaissance man; his latest Theorist discusses a book with new ideas on Quantum Mechanics). E-Waves... I suspect there's something there... some fractal signature as they say, but, its application to predicting the markets, has at the best, shown questionable results.
Posted by: rc | Saturday, January 24, 2009 at 09:03 AM