zbig$
/ 2008-12-02 23:33
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Uznany gracz - weteran 93/94
Pumping money into the economy won't solve the problem
The trouble is, global economic growth has been dependent on US consumers for too long. So when they stop spending, the people who make things to se-ll to them suffer. And in turn, the people who dig up the raw materials, to supply the people who make things, also feel the pain.
One way or another, most of the economies in the world, if not all of them, have become heavily geared to one of these three things – consumption, manufacturing, or production of raw materials. And unfortunately it’s very difficult for an unbalanced economy to rebalance. It requires a whole new way of thinking, and a fair amount of social upheaval. Which is why most governments – and at least a chunk of their populations – would rather wind the clock back to the way things were before the big bust.
That’s why we have central banks across the world slashing interest rates, and governments across the world pumping money into their economies to prop up ailing industries. In the States, the Federal Reserve has now embarked on full-blown money-printing to try to fend off deflation. The technical term for this is “quantitative easing”. We’ll be looking at this and deflation in more detail in the next issue of MoneyWeek, out on Friday (if you’re not already a subscriber, click here to get your first three issues free).
But we can’t wind the clock back. Rebalancing has to happen. We got into this mess in the first place because the world was flooded with money. We won’t make it better by trying to flood it with more.
Money is losing its power
At a very basic level, money is just a method of keeping score. Money is only valuable to society when it performs its function, which is to reward the most productive use of capital. When it’s working as it should, it helps us to decide where best to direct limited resources, such as our time and labour.
But money’s usefulness has been blunted by central bankers continually focusing on preventing bad investments from going wrong. Former Fed chief Alan Greenspan, the man they once called the ‘Maestro’, was the main culprit behind this school of central banking. Any time Wall Street looked like losing money on a duff bet, Mr Greenspan was there to bail them out.
But that means money loses its power to help people differentiate between good and bad investments. The biggest rewards tend to go with the riskiest projects, until you reach the point where essentially you’re just gambling. The problem is, if you remove risk from the equation, all you’re left with is reward.
We've not seen the bottom of the market yet
In other words, the world’s central banks have been aiding and abetting rampant speculation, which has sucked money away from productive projects, to be tossed away at the roulette table.
And so we end up with builders who build, not roads, or decent housing, but bu-y-to-let flats and condos for speculators to ‘flip’ to each other. We see China left with a glut of factories because it’s been relying on US consumers to keep bu-ying plastic rubbish with their property profits.
All of these bad investments are being revealed for the terrible mistakes they were. That’s the upside of the recession. The downside is that the boom went on for so long that the unwinding of the bust will be very painful indeed. And there’s every chance that the actions of the Fed, and our own government and central banks, will simply draw the process out.
What does that mean for investors? It means we’re unlikely to have seen the bottom of the market yet. And it also means that the rush for perceived ‘safe havens’ will continue. For the time being certainly, gilt yields look set to fall further.