Category Archives: Economics

Detroit & Debt

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This post on ZeroHedge reminds me of something that never gets much discussion these days. That is, how can you create a system of governance that prevents the state from borrowing? The gold bugs and libertarians are the only people who see borrowing as the source of all trouble. The people in charge never think about it, as borrowing makes it possible for them to be in charge. Easy money allows the worst elements to dominate a democracy, because it makes it possible for the unprincipled to buy votes.

The outlandish growth of the Federal government is due to debt. There’s no way the public would tolerate the tax burden to pay for it. Instead, the rulers found subtle ways to tax the people, always through debt. In order to mask the erosion of purchasing power, they allow banks to create  unlimited credit for the public to use in lieu of earnings. State and local government uses debt in lieu of taxes to pay for expanding unionized workforces. Of course, public pensions are just taxing future tax payers for present vote buying.

Public debt is a type of Ponzi scheme. Like all Ponzi schemes, this one will eventually run out of new money to pay off old money. At the peak of the baby boom, for example, the Feds will be paying 78 million Boomers to sit around at about $50,000 per year. That’s $4 Trillion a year in welfare payments. No one has the slightest idea how to pay it. State and local pension obligations are something like a trillion a year short of being solvent and that may be a polite fiction. No one really knows how broke pensions are right now.

Within the next two decades, the money runs out. It will happen with cities, then a state and finally the Federal government will run out of money. There’s also the fact that global debt has reached levels never seen in human history. There has to be some upper limit to debt creation. The world is based on never ending debt growth, so what happens when that limit is reached? People talk about peak oil as when growth in demand out-paces the growth in supply. That never happens with oil, but it has to happen with debt.

Then what?

The end of one era is the start of a new one. The new one is always about addressing the errors of the old one. If the end of the credit economy is ugly enough, serious people will have to come up with a solution to debt. That means some hard limits on borrowing. This assumes a soft landing from the financial crisis that comes from the end of the credit boom. if it ends in a world war, then maybe what comes next does not matter. The challenge for the post-collapse rulers will be keeping the bread lines peaceful.

Assuming the ideal denouement to the credit boom, how would nations put safe limits on public borrowing? State government have limits written into their constitutions, but those are often circumvented. A currency based in something useful like energy stocks could achieve a mix of gold’s limit’s ion credit growth, while allowing for a growth in the money supply as energy becomes more available and cheaper. It’s a hard puzzle to solve, for the simple reason people love spending today on the promise to pay tomorrow.

These are the Good Times

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Everything is relative. When I was a boy, by grandfather would tell me stories of his youth in the second decade of the last century. He was born in 1910 and came over here at some point from Russia. That was always a mystery. The family was dirt poor, but he remembered it fondly. He told stories of the Depression too. Of course, he had stories from the war years. Again, all were fond memories despite the fact he and his family survived great deprivations. All of us tend to romanticize our youth when old.

Our younger years are the best of times, even when those times are terrible. The reason is youth. Being young means having hope because everything is in front of you. Even if the present is terrible, it’s all you know and tomorrow is another day. I have fond memories of the 1970’s, even though my family could barely keep the lights on. I was a kid and did not care. I had fun anyway. The turmoil in the greater society did not touch me and I have no way to compare my circumstances with the alternatives, so I enjoyed my youth.

Anyway, this post by Ashok Rao is interesting and a bit scary. Fake unemployment is at ~7.5% right now. Real unemployment is something closer to 11%. Some claim the figure, when backing out the part timers, is probably over 15%. I’ve always hated such games, but the government keeps playing games with the numbers. This WSJ article is a good read on the subject of part-time workers. What jumps out from Ashok’s post is that job gains have flattened out now. We see that in the weekly numbers and the monthly NFP.

The reason for the troublesome labor numbers is that employers are filling jobs with temporary workers when possible. There are lots of incentives for avoiding any permanent increases to their work force. There also the availability of indentured servants from abroad. No one ever talks about the fact that the labor pool keeps growing at the same pace as job growth and this is due to the flood of foreign workers. Instead, the government just keeps pushing their fake employment numbers, hoping no one notices.

What this means, form the perspective of present workers, is that we are in the bets of times. if you are a boomer looking to retire, you don’t care. The good times are gone anyway. The 20-somethings, on the other hand, are getting screwed and are going to get even more screwed. This economy, with all of them living at home and hustling part time work, is as good as it gets for a while. Looking at the recent economic data, we are headed into a period of near zero growth, when you net out money creation.

Of course, the employment numbers are largely worthless, as they assume things have not changed since the 1960’s. When the labor force was domestic and its growth was organic, the statistics meant something. Now that employers are permitted to import ringers from abroad to drive down wages and get around labor laws, those numbers are meaningless. The only number that counts for anything is the workforce participation rate, but that is never advertised as it reveals the truth of the current labor markets.

The Free Money Era

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For a long time I have been calling the period starting in the late 1980’s into the Great Recession the “Free Money Era.” The currency arrangements of today were put into place in the 1980’s with the Louvre Accords.  This established the system of fiat currency we have today. Not only are all currencies fiat, they float against one another according to the dictates of the main central banks. It is what has allowed China to go from a backward society to a semi-modern industrial power in one generation.

It is also what has allowed for the massive expansion of credit. That credit bubble has manifested itself in many ways. One is the housing boom and subsequent bust. The public sector debt problems are another. Easy money allowed Detroit to borrow into oblivion. The record amounts of personal and corporate debt is another result. In the 1970’s, it was impossible to run up tens of thousands of dollars in credit card debt. No bank would every lend that much, without suitable collateral. Today, it is common.

Another, less obvious example is entertainment. Sports entertainment has boomed since the 1980’s. A big part of that is borrowed money. The owners buy the franchises on debt and since debt is easy, there are lots of people with credit money bidding for franchises, so the value of franchises skyrocketed. In fact, credit money has inflated all assets. Then you have the patrons who pay higher and higher ticket prices, because they finance their lifestyle on easy credit. The modern age is built on piles of IOU’s.

Nothing can last forever. All of this debt fueled growth will come to a screeching halt when the upper limit of debt is reached. This is a decent article on the topic of college football. touches on the underlying irrationality of the college sports model. The article goes into a lot of stuff, but skips past the root cause. The college bubble is also a product of the debt bubble. Eventually, the colleges will run out of people able to borrow for college. At that point, the financial model of college and college sports begins to unravel.

Complex Systems

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One of the things you learn quickly when working with complex software is that one tiny change in one area of the program can result in unexpected behavior in another, unrelated, part of the software. Even when you know the software in detail, you are often surprised by the results of small changes. The reason for this is complexity does not grow linearly. Every new condition added to the program, results in multiples of processes and outcomes. The possible results easily exceed your ability to keep track of in your head.

Anyway, the social planners never seem to get this or even recognize it exists. They are so confident in their power to model the new socialist man they blithely assume all sorts of things about the human condition. ObamaCare is a good example. They started with one goal in mind. They wanted to transfer the costs of giving middle-class health care to the poor from the government to private business. The obvious solution was to force employers to pay for their employees insurance, as part of their regular compensation.

Then they realized that the unemployed and seasonal would not get coverage so they came up with the individual mandate to solve that one problem. This sounded like a brilliant solution. If you did not have health insurance, then the IRA would chase after you and maybe some other agencies would harass you. Then some one noticed that the people in the underclass could not afford insurance and were no scared of the IRS. After all, the IRS only terrorizes taxpayers and no one in the ghetto pays taxes. What to do.

The solution was expanding Medicaid and subsidizing private insurance. This means passing new laws and regulation to force states to expand Medicare. On and on it went until the result was a 2,000 page bill requiring tens of thousands of regulators writing tens of thousands of pages of regulations. All of which would be layered on top of the existing tens of thousands of regulations. A massively complex system was going to bolted onto an already massively complex system the legislators did not understand.

Since becoming law, we have been treated to a series of unexpected results. Employers are afraid to hire, not knowing the consequences. Their lawyers quickly figured out a way out of the mandate by moving full time people to part time. Hundreds of thousands have lost benefits because they are now considered part time. Now, cities in financial trouble will follow suit by throwing their workers onto the government system to avoid paying health care bills. It turns out that more complexity was not the answer to the problem.

The result of all of this is pretty much the opposite of what the ObamaCare designers expected. Instead of decreasing the cost to government, costs will go up faster. Instead of more people with insurance, you will see fewer people with insurance. Doctors, seeing their earnings prospects decline are leaving the system and finding ways to carve out private systems for upper middle-class clients. On and on it goes. A myriad of unexpected outcomes accelerating the collapse of the health care system.

Wisdom is knowing what you don’t know. The opposite of that is being in Congress.

 

The Perils of Debt

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Detroit did not just happen. Over decades, politicians, unions heads, business leaders and state officials conspired to perpetrate a fraud on the public. When they sat down with the unions and promised pension benefits, they knew they could never hold up their end of the bargain. The union bosses knew it too. The same people also knew the GO bonds were never going to be repaid. That’s a fraud on the bond holders and the tax payers.

Detroit highlights another problem, one that is going to bring the nation to its knees. That’s the problem of public debt. For most of human history, government was subject to the same market forces as everyone else. When they borrowed, they did so at a rate set by lenders. They were also constrained by the types of debt available. The government could finance a bridge by pledging the tolls as collateral. They could borrow without pledging collateral, but those rates were higher as bond holders factored in risk.

Many states forbid high interest borrowing schemes by state and local government, for the obvious reason. Now, one way the government could get money without raising taxes was to inflate the currency and that only applied to national governments. With hard money, this was very difficult to do for obvious reasons, but not impossible. The Romans slowly debased their currency throughout the period of empire. The Habsburgs largely financed the Thirty Years War this way. This is just taxing people by deception.

Today, governments have many new ways to borrow money to buy votes. Pensions are a promise to pay tomorrow for services today. This allows the politicians to buy votes, the service today, and leave someone else with the bill. General Obligation Bonds are another way to get around the problem. They borrow to finance community programs and the associated patronage jobs. To make matters worse, the government only pays interest until maturity. When a bond matures, the bond holder gets their principal.

In all cases, the government issues new bonds to pay old bond holders, thus rolling over debt without ever paying it down. This disguises the problem further, which makes it grow bigger and faster. If the employees knew twenty years ago that their pensions were at risk, they would have made different decisions. That’s the point of promising to pay tomorrow for the hamburger today. The assumption is the other side of the deal is unable to assess the long term risk. They can’t know that the next politician will default.

Detroit finally reached a point where it could no longer pay interest on the debt and operate basic services. Most of the states in this country are on the same path. If interest rates revert to historic norms, states like Illinois will be bankrupt. The Federal government would add another $400 billion a year in debt payments. If you believe government will reform and avoid this catastrophe you have not been paying attention. If you think interest rates will remain near zero forever, you should seek professional help.

The math of public debt is stark. Most pension funds are seriously underfunded and many states have actually borrowed against their pension assets. At some point, the inevitable will happen and we will see a public debt crisis. Given that public debt is now the basis of world currencies, a public debt crisis threatens the world as we know it. Maybe it works itself out in time, but that is not the way to bet. Decades from now, people will look back at this age and curse the people who decided to let the debt pile up.

 

What’s Wrong With The Right

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When I was a lad in the 1980’s, the Reagan Revolution was just starting and being a right-winger was the hip cool thing. Those dreary lefties with their shaggy hair and linen colors were sad reminders of what went wrong with America in the 70’s. Low taxes, reducing regulations, free trade, getting government out of the way and making money were suddenly cool. Twenty years of liberalism will do that do a nation. The disastrous results on the 60’s and 70’s meant the first step was to roll back those errors. The fact that the state was not rolled back was hidden by the economic boom of the 80’s 90’s.

Ever since, the American Right has been locked in the 1980’s. No matter the circumstance, they offer up the same solutions. It is always cut taxes, cut government and boost business. Thirty years have passed since Reagan, yet the Right has not changed their message. A good example is James Pethokoukis in this National Review piece. He blames liberalism for Detroit’s problems. He suggetsts tax cuts as the solution., believing people will risk their lives to live and work in Detroit if you give them a tax break.

The men and women who ruled over Detroit for five decades did not come from another planet. They are the product of the Detroit culture. They were elected by the people of Detroit. They promised to do what the people of Detroit wanted from their government. Further, Detroit is no more liberal than San Francisco or Portland or Boston or Cambridge. Vermont is a whole state full of liberal gay guys. None of these places suffer from anything like we see in Detroit. Heck, everyone knows why Oakland is not San Francisco.

The problem is this. White people like and support civil society. They will do what it takes to make it work, even while conducting experiments against reality. Black people like chaos and mayhem. That may seem harsh, but chaos and mayhem are the rule every black people rule, so you have to assume they like it. This is the iron rule of life. Societies are result of the people. Black people make black societies and whites make white societies. This is true in all times and all places. Economics is a result, not a cause.

Unless and until the Right figures this out, they will be chasing the sunset.

 

Tick Tock

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One of the more irritating aspects of living in a land run by a religious cult is that reality is forced into the official narrative. That which cannot fit is not just ignored, it is rejected and often ferociously. Prior to the 2012 election, as an example, the media refused to cover the erosion of the American middle class. If anyone mentioned anything about the stagnant economy they were greeted by a press wielding pitchforks and torches chanting “burn the witch!” The fact that it persists after the hero has been re-elected is more troubling.

It suggests these nuts really believe their own bullshit.

Here’s an example. China’s economy is slowing and very well may be in recession. The official number for there are always inflated or plain wrong so assuming the worst case is wise. Nitwits like Thomas Friedman will have to explain why their preferred brand of authoritarianism is suddenly not working. More important, the world will have to find a new champion to save this Potemkin world economy. Most important, we will now have to start wondering what happens to the ChiComs when their Ponzi scheme unravels. A billion pissed off Chinamen can make a helluva mess.

Then we have the on-going saga of Europe. Portugal is in trouble. We’ve seen this film and know how it ends. The main political parties suddenly join together to force through unpopular polices. They put on a show for a while, but in the end, they are simply the faces of the ruling elite. They will close ranks to defend their privileges. They force through the cuts and taxes to get the bailout. The policy fails and the people suffer. Eventually, the fringe parties start looking less fringe and the economic crisis moves to a political crisis.

In Greece, they are afraid to hold another election for fear of the communists. In Italy they fear the populists. Reality is that thing that does not go away when you stop believing in it and the reality looming over everything right now is the inherent defects of credit money and the economy built on it. Our leaders have built this amazing house of cards out of credit money. It is just a matter of time before it begins to collapse.

Death of Cable

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One of the things I think will be very interesting to watch over the next decade is the breakup of the cable monopolies. By that I mean the end of forced subsidies through the cable bill. I doubt we ever see multiple cable outfits servicing the same area. What we wil see in most areas is at least one satellite operator, a cable provider, a fiber company and a wireless company offering combinations of voice and data. TV will be offered as a part of the data package as just another internet service. Consumers will shop the providers based on their needs. Metered service will become common.

As is always the case, some areas will have several choices, while others have one or two options. A big city like New York will not have DirecTV, but Boise Idaho will not have fiber or cellular. More important, the content  will be unbundled from the pipe. Instead of paying Comcast $120 a month for TV and Internet, you will pay Comcast $50 a month and buy the content you  want from a broker or the originator.

The content providers are fighting this hammer and tong. The reason is they are currently making hundreds of billions from people who don’t want their product. Take a look at ESPN. They make $9 billion a year in revenue. Two thirds of that is from subscriber fees. Most estimates say that roughly 20% of households watch ESPN. Yet, 100% pay $8/mo to ESPN as it is part of the basic cable package. As soon as those folks get the chance to cut their bill by $70 a year, they will take it.  This Atlantic story goes into the details.

Of course, those billions coming out of cable bills into the channel operators like ESPN, Yes, NESN and FoxSportsNet will force them to change their business models. They will recoup some through other means like higher fees, but most of it will come through downsizing. Part of it means lower fees content suppliers, like sports leagues and syndication companies. It also means smaller players will have great access to customer and thus create alternative media. Live streaming will be the next big thing.

Detroit

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The chattering skulls will certainly be talking about Detroit, specifically about the bankruptcy filing. It is the largest municipal bankruptcy in our history. More important, it is viewed as a preview of coming attractions. Roughly half the states and hundreds of localities are technically insolvent. The money they raise through direct taxation is insufficient to cover their operating expenses. They get by through borrowing and transfers. Without state subsidies, for example, Baltimore would be bankrupt.

Kevin Williamson has a column up on it today. He dances around the elephant in the room, of course, but he does allude to it. What’s wrong with Detroit is it is full of blacks. The culture of corruption runs from the top all the way down to the bottom. This is not just a math problem. It is a moral problem. Detroit did not suddenly become corrupt. It started after the riots of the late 60’s. A city that was majority white became 80% black in 15 years. The whites fled taking their money, taxes and expertise with them.

On the numbers side,  Karl Denninger has a post up on the math of the problem. Detroit owes $9 billion to health and pension funds. That number will keep going up every day as current workers accumulate benefits. That’s $10,000 for every man, woman and child currently in the city. Throw in the secured credit, net out those unable to work and it is not hard to see the problem. The city owes more than it can ever possibly pay, probably by a factor of three – at best. Everyone the city owes should expect thirty cents on the dollar.

Karl makes a larger point, one that will be with us for a long time. One generation cannot promise itself future money from the pockets of the next generation. It is an unenforceable contract between generations. The reason is you cannot force people to execute their contractual obligations, no matter how they entered into the contract. Even slavers understood this. The people living in Detroit today are unable and unwilling to pay the debts created by previous generations, so those debts will not be paid.

The same is true across the country where government has racked over $54 trillion in pension and health promises. That’s $180,000 for every person in the country. By comparison, Detroit looks great. There’s simply no way all of those promises can be met, especially with the demographics of the country changing. Will newly arrived foreigners agree to pay your pension payments? The answer is not just “no” it is “hell no.”

Again, we see the same old pattern as we see with all of our nation’s maladies. The seed was planted in the 1960’s. The generation that won the fight against fascism, threw in the towel twenty years later to make their kids happy. The selfish, resentful brats we call Boomers have rampaged through American culture like locusts, destroying everything in their path. In old age, they will be demanding the rest of us live in poverty so they can have cushy pensions and health plans.