Bubble III

By Dave Cantey 2013 12-15-13

Previously, we have discussed financial bubbles extensively, and explained that bubbles occur at the conclusion of something called the Credit Cycle, which repeats at roughly 80 year intervals. The last major bubble peaked in 1929 and resulted in the Great Depression, followed by World War II. For more than the past two hundred years we have seen this pattern of boom and bust cycle, followed by a major war. Distant examples culminated in the French Revolution, and the American Civil War. The best way to illustrate, and track financial bubbles is by looking at stock market prices. Make no mistake though, the real bubble at the end of each Credit Cycle is the DEBT Bubble, which inflates the price of assets, including stocks. To the right we have a chart of the stock market since 1932, the beginning of the current Credit Cycle. Notice that 50 years of steady growth was followed by the beginning of the current financial bubble in 1982. This bubble began when Supply Side Economics, espoused by the economist Arthur Laffer to President Ronald Reagan, was championed in the name of Free Market Economics, along with a reduction of income tax rates. All this was accomplished to the applause of the super rich. This kicked off the first phase of the bubble, which culminated in the DotCom bust of 2000. Then came the Housing Bubble, which ended in the stock market peak of 2007. Now we are in Phase III of the bubble, which might be called the Fed Phase. The dashed lines are added to highlight the sense of parabolic rise in asset prices that accompany all financial bubbles. An interesting consideration is how destructive these bubbles actually are. The DotCom bust resulted in the loss of $7 trillion in stock market value. The Housing bust resulted in the loss of 56% of stock market value, and the consequences are still with us in the form of underwater mortgages and high unemployment. The stock market has recovered and is storming ahead as the Fed prints money like a drunken sailor. The super-rich are still applauding, but the middle class is sinking. This bi-polar wealth distribution will have severe adverse consequences that are yet to play out. Of greatest significance is the current behavior of the Fed. In 1929, the debt bubble was allowed to crash and clear the system. This clearing of the system reduced the amount of debt in the economy, chastened the behavior of the citizens who created the bubble in the first place, but decimated the common man. This time around, artificially propping up the stock market by printing more and more money, the Fed is not allowing natural forces to run their course and chasten the bad behavior of over leverage. Instead, the Fed is encouraging, and providing benefits to those who continue to engage in this bad behavior. Not only is the government (at all levels) more indebted than ever before, but individuals and corporations are head over heels in debt as well, totaling some $56 trillion in the US overall. The 64,000 dollar question is, What comes next? The answer is Biblical in proportion. By this we mean: the current debt bubble is so large that its final bursting (and it will eventually burst) will be so big that all of future history will be affected. Everyone will be affected for good, or for evil. Since we seek good, we advise a return to God in humility and reverence. Although Time is a secular magazine, it is at least looking in the right direction by naming the Pope, Man of the Year.