In Denial of Crisis: Part III
David Jensen is the Principal of Jensen Strategic a Vancouver-based strategic planning and business advisory services company.
That our monetary system and economy could now face its current peril is the end-result of a gradual process. Expansion of an increasing debt cycle dramatically increased by loose monetary policy and low interest rates starting in the mid-1990's exacerbated a consumption and speculation dynamic by telling consumers they were worth much more than they were in reality. During this process, consumers have not been discouraged from speculating and incurring debt - in fact, in 2004 Chairman Greenspan coyly noted that consumers could have saved substantially had they been using variable rate mortgage credit. No money down, interest only and also variable rate mortgages have been at the core of the current real estate speculative bubble.
Speculation in financial instruments has also undervalued commodities during the period of monetary expansion. North American cities have been structured on the premise of cheap energy with the number of car miles in the U.S. more than doubling since 1992 due to urban sprawl and in 2004, the D.O.T. noted that the average weight of an American vehicle had exceeded 4,000 lb. Our cities are now exactly incorrectly structured for the future high energy costs.
Central bankers have been desperate during this period to stimulate any economic activity possible to avert the post bubble decline. However, their policies and enticements have been retrograde in increasing unsustainable debt load and economic distortion with diminishing economic returns while compounding instead of mitigating the consequences. Greater and greater growth rates of debt are now needed just to sustain the economy. A coherent strategy is wholly missing and Fed policy appears to be more of a form of delay of consequences and denial of the sum of their cardinal errors during the past decades rather than prudent and rational forward guidance.
When confronted with questions about its policy, the Fed has obfuscated and insisted on the rightness of its policy decisions. Governments and central bank officials have passed on opportunities to address the negative consequences that have resulted from monetary and fiscal policy error always seeming to insist that desperate times call for further desperate measures like lowering interest rates to 1%. And there has never been a public accounting, public policy analysis or changing of the guard at the Fed even after dot.com stock market bubble broke in 2000 and Fed's policy error became clear to all (presumably because the Fed's loose monetary policies were encouraged by Government and the financial communities).
The blow-off of this monetary cycle will leave many questions to be answered as well as opportunities for improvement in society.
At the core of our current predicament is the failure of central bank fiat monetary systems and, at best, imprudent risk taking with the economy of the U.S. Because of the consequences and dependency of Canada and, for that matter, the world's economy on US consumption, the stakes are very high. Morgan Stanley's Stephen Roach56 notes that from 1995 to 2002 the U.S. accounted for 98% of the World's net GDP growth.
Beyond the odd article voicing the concerns of Paul Volcker, Warren Buffett and John Templeton, the mainstream media has been virtually absent from any critical, substantive analysis of monetary and economic policy acting more as cheerleaders of the stock markets and economies in Canada and the U.S. Typical is the hyping the headline releases given by various government agencies. "Consumer confidence is down but the unemployment rate is dropping. Inflation is up, but core inflation is mild. The producer price index is rocketing but inflation is expected to remain tame." With little critical and real analysis, a media hooked on providing "infotainment", and with soothing words emanating from government, the average individual in society has no chance to understand the greater dynamics at play - and they have little chance of taking defensive investment positions given the hype created around stocks and housing encouraged by government policy and the media.
Ultimately, the responsibility for the current situation lies with individuals in society who have not held the government and financial institutions to higher standards demanding prudent policy and responsible advice. The ability to vote both with the ballot and with investment dollars is a strong incentive and has not been used as citizens appear to be willing to suspend critical analysis and performance demands in favor of optimism. The latter is much easier than the others and it is actively encouraged by media, government and the financial industry.
For individuals to plan responsibly, fidelity of information is required and this has not been provided by our media which has been concentrated to a greater and greater extent in both Canada and the U.S. In his paper "My Beef with Big Media", Ted Turner notes:
"When media companies dominate their markets, it undercuts our democracy. Justice Hugo Black, in a landmark media ownership case in 1945 wrote: "The First Amendment rests on the assumption that the widest possible dissemination of information from diverse and antagonistic sources is essential to the welfare of the public."57
Turner presents information as to how major corporations influence media content and how, even with the internet, the top 20 US internet media new sites are owned by the same media conglomerates that control the broadcast and cable networks. Here in Canada, "media concentration has grown to the extent that 84% of Canadian media is owned by the five largest media companies, resulting in "increasingly homogenous perspectives"".58 We now have CanWest Global controlling 30% of the Canadian media market59 (for instance, owning both major daily newspapers in Vancouver) and CanWest firing the editor of the Ottawa Citizen paper in 2002 when he dared write an editorial critical of the Prime Minister. Canadians tolerate this level of concentration.
With this level of media concentration and implicit messages that in these troubled times that every citizen needs to support "the team", it is no surprise that little critical analysis and correction of destabilizing government and central bank policy exists. But again, this situation ultimately exists because citizens do not play a vigilant role and prefer to be fed the ins-and-outs of movie star and politicians private lives rather than boring, or unsettling, economic information. Our political leaders respond with endless rounds of "gotcha" politics and debating trivial matters while the economy declines.
The government to whom citizens throw their trust is also fed money by business interests who have been directly benefited by imprudent short-term Fed and government policy. The academic establishments researching the economy are themselves fed research grants from Government and central banks who do not wish to be criticized or forced to make tough decisions. It would not be in the interest of academics to make themselves redundant by pointing-out that the economy shouldn't be manipulated by a cohort of economists and central bankers.
The greatest danger going forward will be that the message is transmitted and accepted by citizens of both our countries that the economic correction is a consequence of free markets and that more government control is necessary in order to "protect" citizens in the future. The destabilizing monetary system and economy which enriches the few is a direct consequence of archaic central planning intervention and distortion of an extremely beneficial mechanism - the monetary system and the natural market pricing mechanism. As noted by von Mises, intervention into the monetary system by central bankers breeds distortion and cannot ever hope to match the daily decisions of citizens in our society enacted in the economy. The concentration of power and ability to intervene in the monetary system by a group of central bankers, only invites error, abuse, and economic volatility. And Canada's now almost total economic dependency upon trade with the U.S. raises questions about the wisdom of the US-Canada Free Trade Agreement that encouraged this dependency.
Some may seize on the failure of the Fed as evidence that government is only damaging. However, experience of deregulation in the U.S. during the 1980's, while showing many improvements, also revealed the potential for abuse without government regulation. Abuses during deregulation in the airline industry (safety violations), cable television industry (collusion to monopolize and price fix), and the savings and loan (S&L) industry (fraud) dictates that some government regulation is necessary. The concern going forward is that we not face a repetition of the 1930's where government punitive policies and attempts at central planning the economy deepened and prolonged the Depression.
Ultimately, prosperity and limitation of economic damage going forward will depend on mitigating and corrective action by our governments. This action is needed today. Awaiting a correction and panic virtually dictates disruption and extraordinarily deep economic damage. Whether our governments, who are well aware of these matters and the source of concerns voiced by former Fed Chairman Volcker, will simply watch the economy go over the edge and act surprised remains to be seen. A key element needed will be a debt forgiveness mechanism otherwise further and unprecedented wealth transfer precipitated by government error, from an impoverished and indebted consumer to an extremely small financial elite, will occur.
Finally, Fukuyama in the book "Trust: The Social Virtues and The Creation of Prosperity"60 identified that a key determinant of a society's sustainable wealth is a culture of ethical behavior. We have seen a degradation of ethical behavior in both the Canadian and U.S. realm of business and government over the past decades. If we now take this opportunity for correction not only of the monetary system but of ethics standards within our society, we have the opportunity to resurrect what many hope will be a prosperous future for North America.
Addendum: Canada's Position
Trade Asymmetry: Canada is fully economically dependent upon the U.S.
- With the implementation of the Canada - US Free Trade Agreement in 1989, Canada has now built an almost total dependency on the US export market to fuel Canada's economy. Exports to the U.S. constitutes 25% of Canada's economic activity (GDP) and represent 88% of Canada's total exports. In comparison, U.S. exports to Canada constitute 1.5 % of U.S. GDP.
- Combined US/Canada trade (imports + exports) constitutes 43% of Canada's economy and 3.8% of the U.S. economy.
- If any economic dislocation were to occur in the U.S., this type of economic asymmetry results in Canada being in a poor negotiating position for access to even diminished U.S. markets. Ontario, in particular, is vulnerable to economic disruption because of its manufacturing base dependence upon the U.S.
Canada's Banks do not have robust balance sheets
- The following are extracted items from the Consolidated Balance Sheets
of all Canadian Banks61 as of March 31, 2005.
• Assets: Bank Reserves
$ 4.7 Billion
$ 3.6 Billion
• Government Bonds
$ 216.0 Billion
• Deposits with other institutions
$ 88.5 Billion
$ 312.8 Billion
• Assets: Outstanding Loans to customers:
• Customer Bank Account Balances
• These balance sheet elements indicate that Canadian Banks' assets are fully deployed in order to generate profit. Very little tolerance for economic shock is built into the banks' balance sheets if there were to be a sudden liquidity demand or if a larger portion of outstanding loans became non-performing.
- Canada's Charter of Rights and Freedoms affords no property rights to its citizens (governments in Canada can expropriate private property without compensation) and individual rights to freedom of conscience, religion, expression, life liberty and security of the person etc. as in the Charter can be overridden using S. 33 Override provisions for repeated 5 year intervals by Federal or Provincial Governments provided that such government vote on the denial of rights every 5 years. During times of crisis, governments typically argue additional centralized power is needed - with our current Charter, such intervention and suspension of individual rights is possible without approval of citizens.
- In 1985, Canada had 20 million oz. of gold in its treasury. Strong gold sales from 1985 until 1993 resulted in disposal of 14 million oz. Gold sales continued from 1994 until 2003 at which point Canada retained 100,000 oz.62
56 Morgan Stanley "Macro Page"; May 14, 2004 see: www.morganstanley.com/GEFdata/digests/latest-digest.html
57 Ted Turner, My Beef with Big Media; How government protects big media - and shuts out upstarts like me, Washington Monthly www.washingtonmonthly.com/features/2004/0407.turner.html
58 59 Journalists Question Media Ownership in Canada, The Dominion, http://dominionpaper.ca/accounts/2003/11/10/journalist.html
60 Francis Fukuyama, Trust: The Social Virtues and The Creation of Prosperity, Free Press Paperbacks, 1995.