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Wednesday, September 12, 2012

A tale of two recoveries

The FED keeps trying to stimulate more borrowing and the government is borrowing like there is no tomorrow.  Until we stop making the problem worse, we will not get out of this mess.  How can we get those in power to understand what many individuals already know.

If you have not read the paper on recognizing the next financial crisis I highly recommend it.

Here is the chart of debt in this country.  This first chart is without financials.

Here is the same chart including financial debt.

There was not as much difference in 1929 between the two charts, but look at them now.  The financials really packed it on.  We will only know what that really means in the fullness of time.  I don't know if it makes the situation truly worse or does not matter at all.

The trouble started when private debt crossed 150% of GDP.  The rapid move up over 200% of GDP in the 30s was caused by the collapse of GDP by over 25%.  You can also see that once the debt started to collapse it was rather dramatic.  This was certainly a very tough time to go through with a lot of bank failures and lost jobs.  In the late 40s and early 50s the debt started to increase again.  Here is the DOW from that time period.

After an 85% decline, the market mounted a big rally and stabilized at higher values.  In 1954 it finally surpassed the 1929 high and onward and upwards it went.  The 30s were definitely very tough times, but things did improve in the 40s.  A lot of people think WW2 helped end the depression.  Maybe it did and maybe it didn't.  With the system leverage at low levels, the economy would have taken off at some point.  It is possible the war actually delayed things as a lot of resources were sucked in to war materials that could have been used for more economically productive things.  The key point is that at 25 years the DOW was back to all time highs.

Now lets examine the case of Japan starting with the debt situation.

This chart proves that debt does not matter until it matters.  Private debt crossed the 150% threshold in the early 80s, but the market did not top until 1989.  Once the debt mattered, it really mattered.  Notice private debt is still above the 150% threshold.  Here is the Japanese stock market.

Japan still has not dealt with the problem and look at what it has done to stocks.  I guess low interest rates weren't really bullish for stocks in that case were they.  After 23 years, the Japanese stock market is still near the lows.  It is still lower then it was in 1984, just think about that for a minute.  If that is not bad enough, the government debt is totally out of control.  Sure the great depression was terrible, but 23 years after the 1929 top things were shaping up pretty good.  The DOW was even 3 years into a new secular bull market.  At the rate Japan is going it could be another 20 years before they get to that point.

We are doing the same exact things and expecting a different result.  It seems like there could be some middle ground where we write down the bad debts in a more controlled fashion then the early 30s.  We must clear the decks before we can truly get back on the growth path.  Of course the first step is to stop making the problem worse.  Japan has already lost two decades.  How many more are they going to lose?   Yeah, I know, they did not lower rates low enough fast enough and they did not do big enough QE programs.  If that were only the case.  Those policies do not address the underlying problem.  How many decades are we going to lose doing the same failed policies? 


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