Friday, January 23, 2009

The Six Stages of the Credit Crisis

Recently, the idea of the nationalization of major banks has been gaining ground in the U.K. and the U.S.. I am against the idea, simply because I think it will cost too much in the end. It was the right thing to do in the 1980:s in the U.S., it was the right thing to do in Sweden in the 1990:s, but this time the scale of the problem is so different that nationalization could be very dangerous.

I’d like to talk about the current crisis on a larger scale, because there are some definite patterns that have shown up in recent years in several countries that now seem to be imploding. I’m thinking of the U.S., the U.K., Ireland and Iceland. The common denominator for the last 20 years of financial history is crystal clear:

All four countries decided about 20 years ago that they would promote and expand the financial industry through deregulation, tax incentives and lower interest rates.

Of course, the U.S. was already the financial hub of the world, but it nevertheless embarked on the same strategy as the other three countries. In all four countries, the financial industry’s share of GDP grew steadily and even explosively as a result of the respective governments’ efforts. This was a very attractive development for politicians, because only by de-regulating, they could hold off on raising taxes, grow GDP and increase the standard of living. It seemed to be a win-win situation, if it hadn’t been for the familiar problem of credit.

Debt fueled both speculation and consumption, so that debt levels have now risen to astronomical levels in all four countries. Private debt is now several times larger than the GDP in each of these countries. By borrowing money to speculate and consume, companies and individuals have set in motion a huge credit expansion and created the enormous credit bubble that we have today. As I wrote here ,whenever such a system is shaken, everything falls apart, because real debts stemming from fantasy money must be paid back with real money.

A pattern seems to be emerging with respect to how a country develops after the huge credit bubble is popped. The smaller you are, the sooner you will go down. The more debt you have, the less likely rescue attempts are to work. There seems to be six stages to the further development of this crisis, and the following scenario may play out in all four of these debt-laden countries:

1. Real estate prices go down

2. The stock market collapses

3. Bailout attempts fail

4. The currency gets attacked and loses much of its value
(which greatly increases the country’s foreign debt)

5. The banking system becomes nationalized

6. The country becomes insolvent

Iceland has already gone through all the stages. The U.K. is in stage number 4. Ireland is in stage number 3, where the U.S. also currently finds itself. Will all the four countries go through the six stages? That doesn’t have to happen if you do the right thing. We must stop throwing good money after bad, and only invest minimal amounts in the current financial system, while we build a new one at the same time. I believe we must move very quickly with a new plan, the creation of completely new banks, which I will elaborate further on in my next post.

To those who say that nationalization is “socialism”, I’d like to say that it actually amounts to the opposite of socialism: it is meant to save the capitalist system. If the system is not saved, you may very well experience actual socialism.

Share your thoughts in the comment section


Anonymous said...

The new conventional wisdom is that this recession will not be as bad as the recessions of the 70's and 80's. what is your view on that?

Will said...

Thats it I am afraid. Too many people demanding a good standard of living and not believing it has to be paid for.

The present system will not work - it was based on at least some integrity. But most believe there is a bottomless pit of money that they can get - somehow -- anyhow. All they have to do is buy and sell or put in a claim, or shout a lot at someone who will give in to their demand demand demands.


Well, we will have to make the economy run by computers, because they are not corruptible (of course, the programmers are though, I know I know. Checks on them needed)

BAnks? Sure, let computers limit their gambling. They do not want bonuses either.

Integrity? No No NO, computers and cameras must check on what people do from speeding to dipping in the cash box.

Jacob said...


I think it's already worse than those recessions. This is truly the end of an era, and politicians must treat it as such. Hence, new ways of solving the crisis must be applied.

an average patriot said...

Worse is it was all done on purpose set up for Bush Greenspan. The timing is no coincidence. Greenspan has successfully piloted the country into insolvency. Michael Whitney the second great depression