Safe Haven | Preservation of Capital |

THE SUPERCYCLE OF DEBT BCA

"The Supercycle is a description of the long-term decline in balance sheet liquidity and rise in indebtedness during the post-WWII period. Economic expansions have always been associated with a build-up of leverage. However, prior to the introduction of automatic stabilizers such as the welfare state and deposit insurance, balance sheet excesses tended to be fully unwound during economic downturns, albeit at the cost of severe declines in activity.

"Government policies to smooth out the business cycle were successful in preventing the frequent depressions that plagued the pre-WWII economy, but the downside was that the balance sheet imbalances and financial excesses built up during each expansion phase were never fully unwound.

"Periodic 'cyclical' corrections to the trend occurred during recessions, but these were not enough to reverse the long-run trend. Each time that liquidity was rebuilt during a recession, it failed to bring the level back to the previous recovery high. Meanwhile, the liquidity rundown during the next expansion phase established new lows.

"These trends led to growing illiquidity, vulnerability and volatility in the financial markets. The greater the degree of illiquidity in the economy, the greater the threat of deflation. Thus, the bigger that balance sheet excesses become, the more painful the corrective process would be. So, the stakes have become higher in each cycle, putting ever-increasing pressure on the authorities to reflate demand, by whatever means are available. The Supercycle process is driven over time by the building tension between rising underlying deflationary risks in the economy, and the ability of policymakers to create inflation."

From there let us go a quote brought to my attention by Michael Lewitt in the HCM Market Letter by economist Joseph Schumpeter. Schumpeter was a famous economist who brought us the insight that capitalism is a form of Creative Destruction, which we will look at in more detail below. As you read the following, think about the nature of our current recovery. Is the stimulus for the current recovery real or is it artificial?

"Our analysis leads us to believe that recovery is only sound if it does come from itself. For any revival which is merely due to artificial stimulus leaves part of the work of depression undone and adds, to an undigested remnant of maladjustments, new maladjustments of its own." - Schumpeter

So as with every credit bubble that unwinds its excesses, the only question is, where is the starting point1994, 1987, 1982 or 1949?

Joseph