Global Meltdown Underway? It's Too Soon To Be Getting Nervous
Are we standing in front of a global meltdown?
• No. I wanted to combine our Economic Clock with MIT Professor Charles Kindleberger’s fabulous model of market crashes to discuss why we should not be getting nervous yet.
• Working within the framework of The Economic Clock™ -
1. For markets, it is not the price of money that matters – but its quantity – particularly, how much there is “surplus to requirements”: if there is an excess supply of, or an excess demand for money. Since 9/11, the world has remained awash in an excess supply of money (ESM). Readers know that whenever there is an ESM, it by definition has t go into asset markets. That ESM goes into stock markets if the excess demand for goods looks like staying around. This is the global Economic Time™ right now.
2. That ESM stems very much from two forces
o The “resources tax”: higher commodity prices have generated windfall gains to countries such as oil and metals producers. Of course, what the one hand taketh, the other giveth: Europe and America and China are paying that resource tax – but those funds are going to companies that are re-cycling the funds
o The “broken dam”. What I mean is that before, money simply could not leave Russia in a big way, nor did people have any investment opportunities other than shonky bank accounts in places like China and India.
3. The world also continues enjoying an excess demand for goods [EDG]: after all, this is precisely why Central Banks are raising rates: they want to avoid inflation later on!
4. So, as long as the excess supply of money continues, keep buying
So why are markets spooked?
· They are behaving a bit like Dr. Wolfowitz who was caught breaking the rules: he, like Rumsfeld, have become so enamoured with themselves that they could not fathom that the public actually could do something.
· Markets are behaving similarly: spoilt by the good times, they cannot accept that at some point, the global Economic Time will worsen. Indeed, it already is in America and in Japan, but with the funds from the “resource tax” and, indirectly, from the “broken dam” buoying markets, we all are getting spoilt and “soft”. So, naturally any rate hike disturbs the market subconscious
· Prof. Kindleberger wrote a marvellous anatomy of a crisis:
o Displacement happens when the economic outlook is altered by changing profit opportunities. (currently: China and India’ emergence is propelling commodities markets)
o A boom ensues. Bank credit and personal credit expands significantly. This results in Adam Smith’s “overtrading”: pure speculation, overestimation of profits and excessive gearing step forward. (currently: sub prime lending, ETFs based on air). Bubbles occur. Economists define bubbles as “deviations from fundamentals”. Back to my Economic Clock: the only big market that has such a deviation from fundamentals is clearly the USA and Japan. However, the current mania (Greenspan’s irrational exuberance) will keep feeding on itself. We are in this boom phase now and, excluding America, there is no bubble – markets are in line with fundamentals, with the Economic Time.
o Distress sets in. The smart money starts selling. One event is the tripwire. Currently, I thought that the sub prime mortgage matter might be such a tripwire to crisis, but I was wrong, alas! “Revulsion” rears its ugly head: revulsion against commodities or securities leads banks to stop lending on the collateral of such assets.
o Panic sets in. Everyone bolts for the exits. Then, one of three things happens. Either prices fall so lowly that people load back up (currently: that is what February was about), market “circuit breakers” are established, i.e. trading is stopped if certain price limits are reached, or a lender of last resort stabilizes confidence.
Ok So what do we do?
Buy into weakness, but overweight Asia (ex-Japan) and Europe at the expense of America. We are in Kindleberger’s boom phase, but we are nearing its end – say the end is once the Beijing Olympics are over with in 20008? Then, distress sets in …
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