Courtesy of Doug Short.
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The idea that the economy has grown at roughly 5% since 1980 is a lie. In reality the economic growth of the U.S. has been declining rapidly over the past 30 years supported only by a massive push into deficit spending.
From 1950-1980 the economy grew at an annualized rate of 7.70%. This was accomplished with a total credit market debt to GDP ratio of less than 150%. The CRITICAL factor to note is that economic growth was trending higher during this span, going from roughly 5% to a peak of nearly 15%. There were a couple of reasons for this. First, lower levels of debt allowed for personal savings to remain robust, which fueled productive investment in the economy. Secondly, the economy was focused primarily on production and manufacturing, which has a high multiplier effect on the economy. This feat of growth also occurred in the face of steadily rising interest rates, which peaked with economic expansion in 1980.
As we have discussed previously in “The Breaking Point” and “The End Of Keynesian Economics” (PDF file), beginning in 1980 the shift of the economic makeup from a manufacturing and production based economy to a service and finance economy, where there is a low economic multiplier effect, is partially responsible for this transformation. The decline in economic output was further exacerbated by increased productivity through technological advances, which, while advancing our society, plagued the economy with steadily decreasing wages. Unlike the steadily growing economic environment prior to 1980, the post 1980 economy has been plagued by a steady decline. Therefore, a statement that the economy has been growing at 5% since 1980 is grossly misleading. The trend of the growth is far more important, and telling, than the average growth rate over time.
This decline in economic growth over the past 30 years has kept average Americans struggling to maintain their standard of living. As their wages declined, they were forced to turn to credit to fill the gap in maintaining their current standard of living. This demand for credit became the new breeding ground for the financed-based economy. Easier credit terms, lower interest rates, easier lending standards and less regulation fueled the continued consumption boom. By the end of 2007 the household debt outstanding had surged to 140% of GDP. It was only a function of time until the collapse in the “house built of credit cards” occurred.
This is why the economic prosperity of the last 30 years has been a fantasy. While America on the surface was the envy of the world for its apparent success and prosperity, the underlying cancer of debt expansion and lower personal savings was eating away at core.
The massive indulgence in debt, what the Austrians refer to as a “credit induced boom”, has now reached its inevitable conclusion. The unsustainable credit-sourced boom, which leads to artificially stimulated borrowing, seeks out diminishing investment opportunities. Ultimately these diminished investment opportunities lead to widespread mal-investments. Not surprisingly, we clearly saw it play out “real-time” in everything from subprime mortgages to derivative instruments that were solely for the purpose of milking the system of every potential penny regardless of the apparent underlying risk.
When credit creation can no longer be sustained, the markets must began to clear the excesses before the cycle can begin again. It is only then (and must be allowed to happen) that resources can be reallocated back towards more efficient uses. This is why all the efforts of Keynesian policies to stimulate growth in the economy have ultimately failed. Those fiscal and monetary policies, from TARP and QE to tax cuts, only delay the clearing process. Ultimately, that delay only potentially worsens the inevitable clearing process.
The clearing process is going to be very substantial. The economy is currently requiring roughly $4 of total credit market debt to create $1 of economic growth. A reversion to a structurally manageable level of debt would involve a nearly $30 Trillion reduction of total credit market debt. The economic drag from such a reduction will be dramatic while the clearing process occurs.
This is one of the primary reasons why economic growth will continue to run at lower levels going into the future. We will witness an economy plagued by more frequent recessionary spats, lower equity market returns, and a stagflationary environment as wages remain suppressed and the costs of living rise. However, only by clearing the excess can the personal savings return to levels that can promote productive investment, production and ultimately consumption.
The end game of three decades of excess is upon us, and we can’t deny the weight of the balance sheet recession that is currently in play. As we have stated in the past — the medicine that the current administration is prescribing to the patient is a treatment for the common cold — in this case a normal business-cycle recession. The problem is that this patient is suffering from a cancer of debt, and, until we begin the proper treatment, the patient will continue to wither.
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