"There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved."
- Ludwig von Mises

Monday, November 8, 2010

Why Only Gold Can Rebalance the World Economy

From the Wall Street Journal:

$10.2 trillion: The amount of money advanced-nation governments will need to borrow in 2011
As the debts of advanced countries rise to levels not seen since the aftermath of World War II, it’s hard to know how much is too much. But it’s easy to see that the risk of serious financial trouble is growing.

Next year, fifteen major developed-country governments, including the U.S., Japan, the U.K., Spain and Greece, will have to raise some $10.2 trillion to repay maturing bonds and finance their budget deficits, according to estimates from the International Monetary Fund. That’s up 7% from this year, and equals 27% of their combined annual economic output.

Aside from Japan, which has a huge debt hangover from decades of anemic growth, the U.S. is the most extreme case. Next year, the U.S. government will have to find $4.2 trillion. That’s 27.8% of its annual economic output, up from 26.5% this year. By comparison, crisis-addled Greece needs $69 billion, or 23.8% of its annual GDP.
Full Article HERE.

The Article continues to address how this funding will likely be accomplished.  But the article does not draw a dangerous conclusion.  You know what that conclusion is?  That each additional dollar of debt added to the global system is returning a disproportionately lower dollar of gdp.  It's called the law of diminishing returns.  Debt is no longer fueling the global economy at the amount it use to.  And more importantly, it is growing along with interest payments on the back of a global economy that may not be able to continue to service it.

Interesting chart from the Wall Street Journal article:

See Ireland above?  That is severe austerity in action.  My opinion is that an Irish IMF style bailout is unavoidable.  Whereas Ireland was compared favorably to Greece's treatment, the results are still not in.  Those that championed Ireland were speaking to soon, and now even the New York Times believes that Ireland may need an IMF bailout.  They say that Ireland's debt is massive.  It is.  But you know what else?  By introducing austerity during a debt deflation episode, Ireland was cut down at the knees which is hinderering its ability to pay its debts down.

You can't manage a debt by withdrawing "blood" from the economy.  The economy gets weak.  It can no longer handle the public and private debt.

And as for increasing total debt to GDP, the US is a prime example, from The Marketoracle:

Now let's put the above in perspective.  The sharp increase in total debt to GDP that took place after 1930 was not just due to FDR's spending, but it was due to the equally sharp drop in GDP that occurred during the Great Depression.  Thus, the GDP figure collapsed, making the debt, as a percentage, higher.

But this is the most troubling chart, to me, from Nathan's Economic Edge:

I fear that although this chart shows the diminishing impact to GDP of each additional dollar of debt in the US Economy, the same holds true for just about every other advanced nation.  And what I really fear is that much of the wealth we have enjoyed the past few decades was illusory.  No one knows how much of the wealth was illusory, but with the unavoidable debt collapse that is underway, I'm afraid it's a lot.

Now imagine this: what if every advanced nation balanced its budget next year, as the "Austeritists" would like to see?  What if no one borrowed the 10.2 Trillion the advanced nations would need next year?  Well, to describe it's impact to the global economy, I'll use a picture:

It would be catastrophic.  I want to make something clear:  I am no neo-Keynesian.  But if an economic/monetary system collapse is unavoidable, why should any individual nation accelerate its impact if other nations are preferring to print to delay the inevitable?  Why be the first to commit suicide?

We have a dilemma here.  My opinion is the only solution is a revaluation of gold and a return to a gold standard.  And I mean a strong revaluation.  The only way to balance the world economy, and pay down debts, is with a gold valuation in the tens of thousands of dollars an ounce.  Right now, the debtor nations have a disproportionate amount of gold compared to the surplus nations.  There are exceptions, but overall, that holds true.

A revaluation of gold, with a gold monetary system of sorts, is the only way to rebalance world trade, and to start anew.  There is one more option:  Global War and the victor dictates to the rest of the world the repayment terms. 

Those are our only two choices.  Monetarism and Keynesianism are merely choices that delay the inevitable - temporary bandages.  The inevitable is a rebalancing of the world economic system, either we can control it through gold, or we will be forced to allow the unavoidable slip of the dogs of war to decide for us.

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