29 July 2009

We've learnt little since the 1930's

The common argument used to reassure us that the current global downturn won't be as severe as the Great Depression is that the actions taken by governments around the world will change the current course of the global economy. The present thinking appears to be that financial systems and our understanding of them have significantly progressed since the 1930's. While they have certainly changed and are more complex than ever before, one can only conclude from a quick look back at recent history that it is wishful thinking to suggest that we're any better equipped to tackle the fundamental problems that financial markets have always faced.

The inescapable reality that lawmakers are less than keen to explain to the general public is that this financial disaster came about because of a debt-fuelled asset bubble in the US housing market and while it was years in the making, they failed to see it coming or take any action to avert the market collapse.

The popular story that this all started with unscrupulous mortgage brokers who preyed on witless borrowers is baloney, just like most of the other rubbish that journalists write in our mainstream newspapers every day. They get rewarded for sales, not truth or accuracy. The cold hard truth is that America's debt binge began with the borrowing of money from China that was raised through its big trade surpluses. The US government, for political reasons, was all too keen for home buyers to live beyond their means with policies that encouraged irresponsible lending.

If our financial systems and management of them were that far superior to the 1930's, then the bubble and mountain of private debt—far greater as a percentage of GDP than it was back then—wouldn't have grown so large and burst. Once a bubble bursts, the damage has been done. It can't be reversed by re-inflating the values of assets that were purchased for more than they were truly worth.

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