A low volume, high quality source from the demand side perspective.The podcast is produced weekly. A transcript is posted on the day of.

Thursday, February 7, 2008

How bad can it get -- podcast transcript for Friday, February 8

How bad can it get?

That is the main question I began my interview with. E.B. — E.B. Workman — is a very effusive fellow most of the time, but this time he answered in one word, “Bad.”

In listening to these podcasts, you have probably thought me a somewhat pompous fellow, always using the imperial “we.” It wasn’t the imperial “we,” it was the collective “we.”

I am an inveterate student. I have become a person of questions and the podcast has been a medium of the answers. Many of the answers and more that a few of the better questions have come from E.B. Today I’m going to just do questions and answers.

Why? Because things could get bad and I want to be clear. And also because any of you who have questions can forward to them to Demand Side at podcast@demandside.net.

Remember, also, to change your subscription to the new demandside by way of the website or just at iTunes. The new broadcast locus is demandside one word lower cast. Next time the original site eats up its bandwidth, which it is doing at a heartening rate, it will be the last time we are available through that location.

Question. Why is it going to get bad?

Because the problem is deep and broad, the policy-makers have no intention of facing up to it, and this is because neither they nor the broader population they need to back them up know the dimensions or the dynamics.

What, precisely, is the problem?

A financial sector collapse carrying down with it thousands of billions in debt and net worth. Or to put the clothes on it from before November 2007, the problem is the huge build-up of debt over the past decade, and particularly since the year 2000. This leverage inflated a housing bubble, but also inflated values of commercial real estate and other financial assets and created a second round of problems which has so far been kept behind the curtain.

There was more about that, but I want to get on to the questions on the stimulus plan. E.B. says the plan won’t work.


Because it cannot do what it is supposed to do — reflate the value of those collapsing financial assets. It is not a matter of the interest rate on the debt. It is a matter of collapsing prices. If you borrow $200,000 to buy a home that is going to be worth $150,000 in two or three years, it doesn’t matter how low the interest rate is, the effective cost of financing is going to be astronomical. Similarly, business is not going to invest — put money out up front — in an environment which will not produce profit. The cost of financing failure is enormous, no matter how low the interest rate.

Instead that new liquidity will flow to the rising assets, commodities, currencies and debt in other countries — creating inflation and instability worldwide.

But I was talking about the bi-partisan $600 chicken in every pot. What effect will that have?

Let’s talk NEGATIVE STIMULUS from the government over the past two weeks, according to E.B.’s thinking.

First, dispense with the tax breaks for business. As above, business is not going to do anything other than what makes business sense, but they will be happy to deduct more of what they were going to do anyway from their business taxes.

Second, E.B. sees it as a small stimulus to unaffected sectors. Most people will pay down debt, put it way against a looming storm, or buy food and gasoline. None of this creates new jobs. Even those who do what is asked them, which is apparently to buy consumer discretionaries will stimulate China as much as the U.S.

So what SHOULD we do?

Wait, says E.B., there is the second half of the stimulus plan. The budget bill Bush sent down this past week. Meaning the proposed big cuts in Medicare, Medicaid and other domestic programs. Those are a shot directly into the breadbasket of the economy. If they pass. If they don’t pass, we have over a half trillion dollar deficit for one year.

Okay, so what should we do?

We should have bailed out the states and cities. This is the real negative stimulus. Cuts are being front-loaded to address declining revenues caused by slumping consumer demand and by real estate foreclosures. These are police, teachers, civil servants of all kinds with middle incomes. They are also the thousands of contractors. The federal level had the opportunity to mitigate these cutbacks and the loss of public goods and services that are going to multiply the downward effect. Instead they instituted the Incumbent Rescue Plan.

They are not going to change it. So what should we do going forward?

Robert Kuttner of the book The Squandering of America has as close to the right prescription as there is, according to E.B. But before that, we are going to have to see that the current medicine is not working and resist more of the same medicine before it kills us completely. We do not need a stimulus plan, we need a recovery plan. And we need to do it on budget.

That is not possible, I said for everybody else. Everyone says we need deficit spending stimulus.

Everyone is wrong. Deficit spending would be fine if we hadn’t been doing it for most of the past thrity years. What is going to happen if the cost of private capital begins to rise? This huge federal debt is not all thirty-year fixed. If debt service goes up, as it is going to, the stresses are going to be enormous.

The economic mess was engineered by specific policies that have to be reversed: Non-regulation and control and supervision of the financial sector, from mortgages to hedge funds to private equity and the top gun banking style. Tax cuts for the rich have only exacerbated the problem. Reverse them and more for revenue.

And he had some pretty radical answers for the financial sector. He called them inevitable, but ....

Maybe we’ll get back to this next Friday. E.B. likes reforming health care, investing in education – as a means of improving the workforce, but also as an export commodity – importing the people, educating them and sending them home. But more than that, he likes mass transportation infrastructure – rail — and green technology and infrastructure. We need to grow tradable goods and services. Combining economic recovery with planetary survival looks like a demand side play.

That’s enough for today. I like this format. I am a student, not a teacher. I like the questions and debate and investigation. And I really like the answers. They’ve held up so far. Check the forecast for that, and for how bad E.B. thinks its going to get. Go to demandside.net and click on the forecast pane.

Tomorrow is another episode in the reading of Demand Side, the book, the eight minutes on Ronald Reagan. Monday we’ll be back with some audio of Robert Kuttner and consideration of the dangers for Democrats of being behind the curve.

Until then, this is Alan Harvey from the Demand Side.

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