Privatize profits, globalize losses

The US government has decided to ‘administratively’ solve the subprime crisis by removing the problem: subprime loans and derivative assets will become public property, and turn into sound cash in the banks treasuries.

The day before it occured, I had been thinking about the decision of the Russian Federation to ‘administratively’ close their stock market, and how much it proved that market rules really had become a joke in Russia.

The same day I had heard many rumors from well informed (if it means anything) bankers signalling that big banks, the biggest of all banks in fact, was in deep trouble, and there was an immediate risk of a real collapse, given the fact that no-one in the market except perhaps a coalition of sovereign funds could possibly save it.

It may have all been true, as the solution did not come from the market. The unthinkable happened, the country of free markets used the cocaïne of finance, the power to print dollars, to bring an artificial smile back on all trader’s faces. (I didn’t smile at all, not being a trader for one thing, and having taken the decision to sell many assets the day before …).

The interesting part is that the problem of subprime loans, in the first place, was that too many dollars had been printed to build houses. Ever heard about evil being the best cure for evil ?

Now what’s next ?

Some of the pain that needed to be suffered has been suffered by banks shareholders. After all, even after the dollar injection of yesterday, the value of bank shares is still well below what it was a year ago. Some of the pain has been suffered by low income home owners, who will loose their house. But, quite obviously, not all the pain had been suffered yet when the US government decided it was time for massive anesthesia.

The end result of the nationalization of subprime assets is exactly as if the US government had decided to print dollars, hundreds of billions of dollars, to loan money to US citizens who will not pay back and be forced to sell their house below cost. Simplifying further, the US governement has printed hundreds of billions of dollars to build houses and sell those houses below cost. It could have printed dollars to buy and then offer discounted cars, flat plasma screens, or anything else, but I guess only real estate could absorb so many billions.

I am still wondering where I am mistaken, but it seems so obvious, at this stage, that the US government simply keeps pumping dollars to the economy to keep the US, for as long as possible, in an artificial paradise that in fact they cannot afford.

In any country, this would result in uncontrollable inflation, but since the dollar is happily owned by the rest of the world, it only creates “global liquidity”, translating into inflation, but at global level: the rest of the pain is ‘globalized’, the average citizen of the world will suffer it.

So… is there a free lunch forever for the US ?

This global inflation is slowed by the fact that many happy dollar owners just stack piles of dollars instead of buying goods. In fact most emerging countries get their dollars only because they sell local currency to foreigners which use them to buy local goods, generating local inflation, which is ‘sterilized’ by offering artificially high interest rate on government bonds… the exact reverse of the US policy: the artificially restrictive environment means that everyone needs to work very hard and saves instead of spending.

Recently, some of those dollar owners have become slightly worried that it perhaps was just paper, so they started to convert US dollars into US company shares… it feels more substantial :

– US companies are consistently more profitable that in other regions (perhaps also because their customers are provided with cheap dollars… ),

– if the dollar falls then the local cost basis of US enterprises drops, leading to higher profits at least for export oriented companies, and higher share prices in US dollars. Owning US companies is much less risky than owning US dollars (considering only the dollar valuation risk), and converting US dollars to US shares is also easier to do, given the massive amounts involved, than converting to other currencies.

What I see now:

– the US economy being, little by little, “bought” by foreign interests

  • there will not be serious competition for ordinary consumption goods before long, because China and other emerging markets keep their people working hard and investing into the future, instead of going to shopping malls. The happy few “oligarchs” controlling these economies, of course, will spend their dollars, so we will have more and more mega yachts, private A380, etc… rivers of dollars coming from the mild slavery of hundreds of millions of workers, and confiscation of natural resources to the profit of few individuals in many countries.
  • serious competition with the US will come for commodities, because China and others need to keep the factories running. Right now, it is assumed that the US always wins this war… they have more dollars (you can’t beat the printer). But if my picture is right, this is no longer the case long term : dollar (or dollar stock)piles getting bigger on China side, weaker paper dollar on the US side means the balance of power will shift.
  • at some point, I have of course no idea when, the US may start struggling for basic commodities like oil or steel, because prices in weakening dollar terms skyrocket for the US consumer, and other countries can still afford to buy. At this point it becomes a matter of national security, and owning the most powerful military in the world may be seen as a good insurance against such a risk… but owning the US companies that provide jobs to the voting masses is not a negligible asset either.

So there is no free lunch. The US, like many developped economies including France, is simply jeopardizing the future of their chidren in exchange for better immediate life, like a bulldozer pushing a growing pile of future pain farther into the future with every new dollar injection, hoping that someone else will be in the driving seat when the engine finally fails.

I can’ t help thinking about “Les mémoires d’Hadrien” (the famous book written by Marguerite Yourcenar, which is the best book I ever read, and one I can only describe as real food for thought… each chapter makes me feel I have touched, closer than ever, some fundamental truth that my own blurred mind can only remotely feel, captured by Marguerite sharp and elegant style ).

At this period the Roman empire enjoyed unprecedented wealth. The rest of the meditteranean world was working for Rome, either working as slaves or paying taxes so high that the local people were kept into poverty. But little by little the most powerful merchants, the most powerful shipowners, all became foreigners. Many local powers emerged, Rome could no longer maintain the Pax romana, and we know the rest of the history.

Today we enjoy the Pax americana but we have our emerging countries, this is perhaps the same play, on a larger scene. A reassuring thought is that the fading away of Rome took centuries, but our world goes considerably faster than a hundred years after Christ. An even more reassuring thought is that at the time there was no such construction as the European Union, this attempt of a Pax europea of equals, a slow unification driven by commerce rather than armies. However slowly we build it, this may become, one day, the reason for history to not repeat itself, inventing a future more promising than a modern middle ages of many oligarchic powers.