Wednesday, December 15, 2010

Gonzalo Lira

"Recently, I read up on how Iceland is doing—surprisingly well, actually.

Unemployment is down, the Krona is going back up.

Good balance of trade, good fiscal balance sheet.

Quite the turnaround, after its troubles over the last couple of years—

So then if Iceland is doing OK, why then are we in the hole that we’re in?

Why is the American economy slogging along?

Why is Europe circling the drain?

Why is Ben Bernanke’s chin quivering and his voice quaking on 60 Minutes?

...Why has the conversation turned sovereign debt risk?

What the hell is going on? Why are things getting worse, instead of better?

The answer is so simple, it hurts:

When the Global Financial Crisis hit in late 2008,
the governments took over the liabilities of the financial sector
—and in the two years since that terrible, terrible decision,
that single move has turned what was once a problem of financial sector insolvency
into a problem of sovereign nation insolvency:

Europe and America are insolvent—they’re broke.

They cannot pay the liabilities they have assumed.

That’s why we’re in the trouble we’re in.

...remember what happened, in the fall of 2008? order to “save the financial sector”, the Federal Reserve expanded its balance sheet
—that is, it printed money
—to the tune of $3 trillion dollars, between Quantitative Easing in ‘08-‘09,
QE-lite in early ‘10, and now QE2.

The Europeans made the same mistake as the Americans:
...They tried to get through the Global Financial Crisis without any pain.

...That the Europeans would socialize the losses is understandable
—they’re all a bunch of Socialist pinko-proto-Commie Euro-weenie fellow-travelling Reds:
The children of Lenin and Mao, first cousins of Che and Fidel.

But America—what happened in America—land of the free, home of the brave
—home of the creative destruction that is the lynchpin of capitalism?

In a word: Capitalism was short-circuited.

...Capitalism’s creative destruction was not allowed to have its way...

...In capitalism, nothing is too big to fail.

That’s the whole point of capitalism:

There are no sacred cows.

...I think it would have been better to let the chips fall where they may
—give capitalism’s creative destruction free reign—
let the virtuous be saved and the evil perish—

...We wouldn’t have the current uncertainty, and instability.

...The Irish are still saddled with the euro
—they haven’t been able to devalue their currency, in order to restart their internal economy,
and make themselves attractive to foreign capital.

Coupled with that, they have had to take severe austerity measures and tax hikes,
in order to make good on the bonds...

Meanwhile, in Iceland today, after seven consecutive quarters of negative growth,
the Icelander economy is picking up. In 2011, the Icelander government will have a surplus;
the balance of trade is already in surplus.

With the devalued Krona, Iceland became a magnet for foreign investment.

Unemployment is going down.

Things are good in Iceland.

In Ireland? Not so much—and they won’t be getting any better any time soon.

The rosiest predictions have the Irish economy turning around in 2013, 2014 . . . maybe.

What lessons do these two countries teach us?

The Icelanders recognized that their right hand...was gangrenous: So they cut it off.

A lot of tears, a lot of short term agony—but the rot was cut off.

The Irish? They tried to save their gangrenous hand back in 2008
—so then over the next two years, their whole arm has now turned gangrenous.

But instead of cutting it off, they’re trying to save the arm too
—and they’re praying that the gangrene doesn’t get to the body and kill them.

These are just two small countries—Iceland and Ireland—and I’m sure a lot of critics will say,
“These two countries have nothing in common with giant economies like the U.S. and the EU
—nothing in common at all!”

Oh, but that’s where they’re wrong: Economics is trigonometry
—the ratio of a diagonal of a square is the same no matter the size of the square.

Likewise with economies: The basic problem of any economy is the same, regardless of its size.

An overlarge economy—like the American and European economies
—might be able to palliate the symptoms of the economic disease.

They might even be able to hide the symptoms altogether,
and make fools think for a little while that the disease is all gone
—the patient all better.

...That’s why the American economy is teetering, while Europe goes from crisis to crisis
—Greece—Ireland—Spain next—Italy soon to be up.

Because of stupidity, blindness or corruption,
the American and European leadership saddled their people with debts that cannot be paid.

I have argued in my hyperinflation pieces that the only way to get out of an unpayable debt
is to either default on the debt, or inflate away the currency.

The Europeans are grimly trying to pay off all the debts while defending a strong euro
—it’s an ugly sight.

The Americans are trying to inflate away their debt
—the Federal Reserve is now fully monetizing the Federal government debt,
conjuring money out of thin air and thereby covering the fiscal deficit.

In other words, in both cases, the gangrene has spread from the hand in 2008,
to the limb in 2009 and 2010—and now as we welcome 2011,
the gangrene has spread to the body.

All in all, I think we’re all going to wish we had done like Iceland.

If we had, we’d be chillin’ like the Icelanders, instead of crying ourselves to sleep every night."

Gonzalo Lira

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