We Haven’t Seen Anything Yet!
The real US
financial crisis has yet to begin
The Nation (Thailand)
Publication Date: 23-03-2009
During his visit to London more than a week ago, Thai Prime
Vejjajiva got the impression from business people and
investors there that the United
States did not have enough political will to
take on its banking crisis once and for all. They told Abhisit that if the US had recognized
the total estimated losses of the banking system and come up with the money to
plug the leaking hole, it would have restored confidence and set the stage for
an economic recovery. This sounds plausible, but the whole point is how much of
the losses of the US
banking system can really be quantified. Is it US $30 trillion, US $50 trillion
The size of the US financial bubble that has gone
bust is so large that it is impossible to quantify the losses due to the lack
of transparency. The US
backed by the power of the Federal Reserve to issue
paper currency without any limit, had over the past several decades gone global
in raising money, issuing debts and all kinds of instruments in their
proprietary trading and investment. They had several dozen times over-leveraged
their capital. Wall Street and US banks' easy money, fuelled by a low
interest-rate policy during the Greenspan era, created a bubble economy.
In fact, it is not totally correct to assume that the
current problem can be traced back to the Greenspan era alone. The US has walked away
from manufacturing since the 1970s and shifted its policy toward consumption
and financial services, backed by its superpower status to issue paper
currency. The dollar has been floated around the world to become the de facto
medium of international transactions without presumably any cost.
consumers went on a consumption binge, enjoying one of the world's best
living standards. Wall Street executives made filthy
bonuses every year. The Wall Street model has become the fixation of American
business - how to make quick money from thin air.
But we all know that there is no free lunch. The
dollar paper issued to the creditor institutions, funds and sovereign
governments worldwide is now starting to backfire. The global economic
imbalances, characterised by overconsumption in the US
and overproduction by the emerging-market economies, including Japan, are now going
through a correction.
US over-consumed by issuing debt to finance its
consumption, while other countries re-channeled their reserves back to the US so that US consumers
would continue to buy their cheap goods. Now exports
to the US
have collapsed. Creditors are shying away from subscribing to US debt. They are
cutting losses in their US dollar asset holdings.
banks have made things worse by offering easy lending to the real-estate
sector. Real-estate loans were bundled as mortgage-backed securities, on top of
which other dubious financial products were created.
This is not to mention other financial products that US banks have issued like
currency only because they have their brand names attached. Currency and paper
are treated without any difference. The bubble was in full swing until the
sub-prime debacle hit the US
in August 2007. After that the US
financial system and the US
economy started to go downhill.
banks and financial institutions have been relying on the Federal Reserve's
Temporary Auction Facility to raise their liquidity.
They have been facing a run, with foreign depositors and scared individuals
withdrawing their money. Without the Fed's intervention with liquidity, US
banks and financial institutions would have been totally broken down by now.
But the worst has yet to come. With a loss of
confidence in the US
system, creditors and investors are dumping
They are willing to cut losses. The US banks, who issue
the instruments, have to take their debts back. Since they do not have the
liquidity because the credit market has already ground to a halt, they can only
rely on the Federal Reserve. As a result, the balance sheet of the Federal
Reserve will continue to balloon.
Treasuries, traditionally recognized as risk free, are now under pressure. Russia,
and other countries are discussing a possibility of dumping the US dollar as a reserve
currency. They have proposed a return to the Special Drawing Rights issued by
the International Monetary Fund.
In the meantime, the US federal government will find it
tough to finance its deficit spending. Recent projects have put the deficit for
2009 at a record US $1.8 trillion. This would complicate President Obama's
efforts to pass his US $3.55 trillion budget plan for 2010. The deficit would
continue for several years to come. Where will this money come from?
won't be able to finance the deficit of this magnitude. The US Treasury
doesn't have any money. The Americans are also losing
their savings and
investments in the meltdown of the stock market by at
least 50 per cent last
year alone. They are also saddled with consumer and
mortgage debt. So the US
ends up with only two options left: Borrowing from the foreign creditors or
resorting to the printing press.
Under the current condition, foreign creditors will be
more cautious or unwilling to subscribe to US debt. They already have toxic
financial instruments in the books of their banks more than they can handle. So
has only one option left, which is to inflate away the debt by printing money.
By doing so, the US Treasury will issue bonds directly to the Federal Reserve,
which will issue the money in return. The Treasury will use the money to meet
its budget or other spending obligations.
This US money-printing, the Bank of England, the Swiss
National Bank, the Bank of Japan, have warned is threatening hyperinflation
afterward. The dollar will head for a decline. Once inflation is off and
running, the printing press dollars will only have goods made in America to
chase after. The real crisis has not yet begun.