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Even über Keynesian critics Zero Hedge shares Keynesian diagnosis

August 12th, 2010 · No Comments

But without using even a single argument, blasts the cure..

We earlier wrote about ZeroHedge, an influential blog, daily rants against Keynesianism, but in fact, they share the diagnosis of the Keynesians.

1) Private demand is not going to revive anytime soon, it’s a balance sheet recession, that is, much of the private sector is trying to reduce debts and spending less (witness higher household saving rates), not to speak of high unemployment, asset price deflation (houses), stagnating wages and general economic uncertainty. Now, you’ll find an excellent analysis of that problem here, on.. ZeroHedge

2) As a result, credit demand just isn’t there, not at all surprising as households are delevering, companies are sitting in on loads of cash and capacity utilization is just 70% and end demand is not growing. Households are not spending,

3) So monetary policy is pretty powerless, banks already sitting on a trillion of excess reserves (increasing these doesn’t do much good) because it’s credit demand rather than, credit supply that is the  problem. This has also been pointed out on.. ZeroHedge (numerous times. We’re actually a little bit more optimistic on monetary policy, see here for an analysis, but not a whole lot).

4) The logical conclusion of these three stylized facts to which ZeroHedge actually subscribes is that budgetary policy has to step in, otherwise we run the considerable risk of entering a deflationary spiral, right? Wrong. They continue blasting Keynesians on a daily basis as if they’re idiots..

5) Now, as we have already discussed before, the fall in many economic variables (such as output, trade, equity markets) was actually as steep, or steeper as after the crash of 1929 (a pretty similar crisis and we all know what that produced in the 1930s..). Until these variables stopped falling a year or so ago. What did we do differently this time around? Well, could it be those Keynesian policies, perhaps? And you know what? Wherever budgetary policy was tried in the 1930s, it was successful, except, of course, when Roosevelt started worrying about the deficit and reigned in spending prematurely.

6) And what’s more, it’s just a pure coincidence that now the Keynesian policies are petering out (or even going into reverse), the economy softens, right? See the excellent piece here if you’re still not convinced.

So:

  • ZeroHedge shares shares the diagnosis of a balance sheet recession and the weak power of monetary policy.
  • Logically, this leaves doing nothing or… Keynesian budgetary stimulus.

Doing nothing (which is their option since they rile against any stimulus spending) runs a severe risk of the crisis feeding on itself. Let us highlight some of the risks:

  1. If prices start to fall, interest rates will rise in real time and spending and investment will reduce further, leading to lower production
  2. More importantly, it increases the real value of outstanding debt, which is basically the last thing you want in an already over-leveraged economy trying to de-leverage.
  3. This will reduce spending further, lead to more forced asset sales, higher unemployment, lower growth, feeding on itself as lower growth and production will further reduce prices, etc, etc..

You’ll get the picture. It isn’t rocket science. The bondmarket is already betting on such a scenario for quite a while.

Now, those of us who want to avert such a scenario are crazy lefties, of course, but for those of you who argue that we want to bankrupt the Federal Government, realize also this. What will that deflationary scenario do to public finances? If the real value of debt increases with deflation, won’t the biggest debtor not be the biggest victim?

If spending and production fall further, what will that do to the deficit and debt? As it happens, according to the IMF, the budgetary position is far more influenced by the state of the economy than by any stimulus spending. So yes, let’s do nothing and wreck the economy, see how that works for the public finance situation..

Tags: Public Policy