Like many Americans, I am sitting in my home in year five of the Great Depression 2.0 still a bit shell shocked by everything. We know something bad happened. We know fraud was and is rampant. We don't have anyone in jail high or low involved in the entire mortgage, easy money fraud pyramid (we'd probably jail 2 million). We also know that the corruption runs deep and reaches the top of our power structure from the military to politics to the media. I tend to synthesize things. I love considering the big picture. I love to look at history with a wide view, thinking through long term consequences. Our predicament and how we got here has vexed me in this regard, but I've come up with a theory. What we have witnessed since the early '90s, while slowly built since the Carter admin, is a classic "Bust Out". This is a mafia style bust out on a national scale.
A couple years ago, CNBC ran a nice article on the great William Black's idea that this financial fraud is a bust out. Black is right that financial sharks, hired because of their personality that is skewed that way, will run a financial operation like a mob bust out to strip it of all wealth unlike a regulator's concept of a normal financial executive. A bust out is when an outside force runs up debts on a mark in trouble. They use the goods for themselves or they turn around and sell the products purchased for pure gain. The debt never is repaid. In the end like in Goodfellas, the place is torched for the insurance money. As I blogged how the banks have protection from press coverage on the true large scale problems that have caused and continue to pose, this will go unreported.
The inflation of the '70s was horrific as the dollar felt the ramifications of war spending (LBJ's Nam ramp up), domestic spending (LBJ's Great Society), and the Nixon closing the gold window. That anchor of the gold convertibility held things stable, and once closed, it sent the financial system searching for firm ground. All commodities rose in price, and some skyrocketed (this is why polyester became the textile material of the '70s replacing cotton). Add to this the problem of Texas no longer being the 'swing producer' in the global oil markets, and suddenly the US was vulnerable to oil blackmail. OPEC did this to the US for our blind support of Israel in the early '70s and raw costs increased for all manufacturing firms. Cost push inflation followed. American consumers were protected from this a bit by the ability to demand higher wages. While inflation was raging, at least Americans saw their wages rise nominally.
Volcker ended this. He gave the FED credibility by saying it inflation would be stopped. With the repeal of the usury laws, Volcker could send the FED rates to the high teens and force the economy into a severe recession. Milton Friedman also did great work to make sure that everyone was worried about inflation. He had some tremendous speeches and interviews that aired on national TV about the dangers of inflation. Everyone was afraid of the return of 70s inflation. By the time Volcker had left, the currency was stable, bond investors were happy with the direction of the US economy, and the economy went through a structural realignment. Deregulation was a sweeping force that started under Carter and continued right down to Clinton's last year in office. Volcker did a great job, but unfortunately, the FIRE economy was born and asset inflation was unleashed.
Manufacturing lost its power in America, as did all of the raw materials suppliers. Check out this manufacturing employment chart since 1960. Pre-1980 employment cycles line up with 'inventory management recessions'. Starting in 1980, automation, global wage arbitrage and environmental regulation forced manufacturing employment down. Our manufacturing output is still high, but we use fewer people. This also acts as a lid on manufacturing wage increases, which has ripple effects on other industries as well. More and more citizens found themselves employed in the FIRE economy. This economy really hit its stride starting in the Clinton admin. Here's a great graph on the financialization of the economy since 1987. The FIRE economy was the primary recipient of FED policy goodies as they were the primary receivers of money supply expansion. They were a jobs engine, a growth engine, and the primary way to control the allocation of capital. Asset inflation helped them as fees of all sorts grew and expanded the client base. Asset inflation meant their 2% fee on assets under management grew each year. It was genius. The FED nourished this problem by continuously expanding the money supply, creating a more indebted population where their debts were big bank assets.
The Wall St sharks pulled off a financial coup. The S&L crisis destroyed much of their nationwide competition, plus legislation allowed bank branches to cross state lines. Consolidation concentrated more assets into fewer hands (my New England fave: Shawmut was bought by Fleet who was bought by Bank of America). Clinton's political advisor James Carville mentioned that when he came back to life, he'd want to come back as a US bondholder. The banks poured money into DC, had legislation changed, loosening the last of the shackles on finacialization, and then legalized gambling in the form of derivatives took off (completely unregulated). Another victory that now stands supremely important was the law change that made student debt non-dischargable in bankruptcy in the late '90s. The last triumph was the change in bankruptcy law in 2005. Once in hock to the banks, there was no escape.
The stock market rise of the '90s didn't involve citizens going into debt for stock gains. The governments saw a budget suprlus era due to the capital gains returns for taxpayers in the 90s. The stage was set though once the bust set in. The bubble that was blown after the stock collapse was to expand credit for all those banks and investment firms that had blown money in venture capital and loans for silicon valley, tech, internet start ups. The FED never can control exactly where liquidty and credit shows up. We saw the rise of the giant bubble of the 2000s. In this chart, household debt is pretty stable from '65 to '87, then jumps 10% points over the '87 to early '90s period, then jumps 30% points from the early 90s to 2008 with the big blow off in the post 2000 stretch. The federal government also saw its debt balance sheet blowout after 2001.
This is the bust out. The bankers have taken credit out in the name of the AAA rated US government and the AAA rated US mortgage payer/consumer/citizen. With that debt bubble and the Bush tax cuts, early bubble money went into wealthy hands first, which became more money for the FIRE economy to manage, invest and allocate. The rise of mortgage debt helped everyone in the FIRE economy from securitizers on Wall St, to note salesmen, to traders, to RE agents, to builders, to insurance companies that hold the mortgage backed securities. The military industrial complex saw their piece of the pie grow as the debt the federal government took out primarily went to military spending. Pratt + Whitney recently had a multidecade first where their military orders surpassed their commerical orders for jet airplanes. All sources of US debt are combined at 350% of US GDP. This numbers has barely budged since the financial crisis. The bust out is why.
The banks hold a significant chunk of this debt, and they will not write any of it down because they are so levered that they would go insolvent if they had to honestly report their balance sheet situation marked to market value. What is despicable is the fact that with TARP, the spring 2009 bailout doubledown, QE 1/2/3 and other financial backstops, the banks have transferred a lot of bad debt onto the government's (taxpayers') or the FED's balance sheet. They get to keep racking up fees and charges, handing out bonuses with all the risk gone. It's now the US taxpayer who is on the hook. The MI complex has seen a decade of profit, and the Wall St cronies have seen a decade of profit and socialized losses. This is all charged to the US taxpayer. We're stuck with the bill. The loans that we are not holding from the banks are loans that the bankruptcy law change altered in their favor or student loans that are enforced by the power of the federal government. Our coming currency/bond crisis will hurt everyone. Banks will not be immune, but they will be better prepared than you or me. Next comes privatization of assets for the busted out entity (the US) and a forced change to our way of life. That is the vulture phase of the bust out.
The Wall St mafia pulled off a financial coup. The big banks then proceeded to bust out the AAA rated US taxpayer. The most devilish thing that is similar to how a mob does it to a reputable businessman is that the American Empire was in the post-WW2 golden era, had gone through the problems of the '60s/'70s, and was watching the death rattle of its global rival. The successful businessman doesn't see it coming, but has some minor problem. The mob then steps in as a silent partner or supplier of a small capital stake. Then the looting begins. While slowly starting in the late Carter administration, the entire process was a 25 year effort that hit overdrive in the '90s. When the fraud, the schemes and the rot became widespread, they called on their bought government to bail them out and socialize the losses. Nothing has changed since the crisis moment, and the rot still exists. Until the banks are broken up, until the debt is written down + refinanced, until true reform + regulation enforcement begins, until derivatives are properly managed, and until finance becomes just a segment of the US economy, nothing will change.