We arrived back from holidays in the Northwoods of Canada to find the financial system once again in shambles, the U.S. economy weakening from a sharply downward revised level, investors once again losing their nerve and speculative hedge funds piling on.
This note is a quick reaction to the heightening global crisis. More detailed analysis and discussion will follow in the coming days and weeks.
It has been evident for a long time that the world is awash in too much debt—first private debt, now public debt. One of the main points made in our “Great Reflation” book1 published over two years ago was that the 2008-2009 crisis was precipitated by too much private debt. The near depression and financial collapse was aborted by governments transforming private debt into public debt—essentially governments bailing out and replacing private debtors. Now governments have too much debt. In peripheral Europe (PIIGS) sovereign debt is now in the revulsion stage and contagion and loss of confidence is spreading alarmingly. The U.S. has just received its first credit downgrade in history and likely not its last. Paradoxically, reflecting “the best horse in the glue factory” syndrome, bonds and the dollar rallied as a result of capital flight to the U.S. But that does not mean that U.S. government debt revulsion is not going to happen at some point. The recent congressional budget deal is only a start and doesn’t cut the mustard from a longer-term perspective of reducing the government debt:GDP trajectory to manageable levels.