Monday, November 29, 2004

This weekend's retail numbers weren't quite what merchants had hoped, and otherwise the economic picture seems mixed. Increasingly, though, a lot of smart people seem to see a bad moon rising: any article titled "Economic 'Armaggedon' Predicted" is probably worthy of attention, and the view of someone like Stephen Roach, chief economist at Morgan Stanley, is probably less impeachable than that of Paul Krugman (who's been saying this for a year now).

Roach met select groups of fund managers downtown last week, including a group at Fidelity.

His prediction: America has no better than a 10 percent chance of avoiding economic ``armageddon.''

Roach sees a 30 percent chance of a slump soon and a 60 percent chance that ``we'll muddle through for a while and delay the eventual armageddon.''

The chance we'll get through OK: one in 10. Maybe.

In a nutshell, Roach's argument is that America's record trade deficit means the dollar will keep falling. To keep foreigners buying T-bills and prevent a resulting rise in inflation, Federal Reserve Chairman Alan Greenspan will be forced to raise interest rates further and faster than he wants.

The result: U.S. consumers, who are in debt up to their eyeballs, will get pounded.

Appropos of this issue of the weaker dollar was this article I read yesterday in the Philadelphia Inquirer, making the same argument in more down-to-earth language, while skewering the simplistic thinking of those who urge consumers to "buy American". The key point is that a weaker dollar will lead to more expensive imports, with domestically made goods eventually following suit by raising prices:

There are two ways Americans can respond to rising prices. One is to simply buy less. Nothing wrong with that - as long as the fall in domestic consumption is matched by a rise in production for export.

If it is, then the economy overall grows at about the same rate, and we're fine.

But what if foreign demand for U.S.-made goods doesn't increase, even with a weaker dollar?

That's a possibility: Some Europeans, for instance, have recently talked about boycotting U.S. brands to protest the war in Iraq.

A slowdown in consumption here without growth in U.S. exports could equal a global recession.
Underlying the dollar's fall is a large, and growing, imbalance in the world economy. In short: We consume more than we produce, while our trading partners in Asia and elsewhere produce more than they consume.
Not only have they been aggressive, low-cost producers of the things Americans want; they have also financed our consumption by investing the dollars we send them in U.S. securities.

The only problem with this arrangement is that it can't go on forever. At some point America's debts become overwhelming, and the cycle collapses.

Another problem with dissing "Old Europe" is that they've got the do-re-mi to keep the U.S. economy humming, to the extent that we can't afford to do so ourselves. As personal and shared (government) debt levels keep rising, however, we fall deeper into the trap: only sustained spending keeps the economy afloat, but our individual and collective capacity to keep spending eventually hits a wall ("the cycle collapses").

Krugman's variant of the argument is that eventually our foreign creditors will call in their debts, prompting a substantial spike in interest rates and a sharp reduction in consumer spending. Ever-larger government debt, in part to finance Scial Security privatization, will set the dominoes tumbling:

"The break can come either from the Reserve Bank of China deciding it has enough dollars, thank you, or from private investors saying 'I'm going to take a speculative bet on a dollar plunge,' which then ends up being a self-fulfilling prophecy," Krugman opined. "Both scenarios are pretty unnerving."

Now add in the likelihood--hell, the near-certainty--that Bush's enablers in Congress will authorize "vast borrowing" to support the deformation of Social Security, and I wonder if we're at the leading edge of what I think will become known to history as the "Bush Depression."

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