It's hard to make predictions, especially about the future.
During a presentation last week a questioner asked me what I thought about predictions that gasoline prices would reach $5 a gallon this summer. I offered this critique. I said that the oil prices implied by $5-a-gallon gas could probably not be attained in such a weak global economy. And, something short of that price would probably send the economy into a tailspin.
I don't foresee such an event soon, but it does seem to me that at some point high energy prices will lead to another economic decline. Perhaps there might even be a crash since the financial sector--which is even more fragile than it was in 2008 in my view--might face another crisis as a result of too much money flowing into the energy sector and therefore not enough flowing into the financial sector.
I warned everyone not to rush out and phone their brokers.
And yet, there are signs of the same kind of overheated bullishness on commodities and bearishness on bonds that we saw in the first half of 2008. And, we've seen the same kind of massive central bank easing again that preceded the commodity run-up that year.
The most recent easing has shown up in food prices as the UN food price index reached a record level earlier this month. In metals, tin rose to an all-time record. Copper prices are over $4 a pound for the first time since the 2008 run-up. Base metals in general have more than doubled since the 2008 lows. Cotton reached a new, all-time high this year and hovers near record territory. While interest rates are low by historical standards, long-term bond yields have been rising (and bond prices falling), supposedly in anticipation of further economic growth and inflation. And, of course, the consensus is that China, the great consumer of commodities, will do nothing but grow.
Could commodity prices go significantly higher? I took a stab at answering the same question in February 2008 during the last run-up in commodity prices. For a while they did climb. Could soybeans reach their old inflation-adjusted high of $61 a bushel ($12.90 in 1973 dollars)? I wondered. Could wheat vault beyond its old inflation-adjusted high of $28 ($6.35 in 1974 dollars)? In the end only oil obliged by besting the old inflation-adjusted high of $104 a barrel ($38 in 1979 dollars) to reach $147. (The Shadow Government Statistics newsletter, however, estimates that inflation has been seriously underestimated by the U.S. government and that therefore oil would have had to surpass $280 a barrel in 2008 to reach an all-time inflation-adjusted high.)
What I learned from that thought experiment is that it matters how robust the underlying financial economy is. In early 2008 the subprime loan crisis was morphing into a general credit crisis, something I recognized at the time. But I assumed that the U.S. Federal Reserve also understood this and would simply continue to flood the world with liquidity adequate to avoid a seize-up in the markets. That turned out to be an incorrect assumption. The Fed did finally realize what was happening, but acted too late to head off a financial crash.
Did the Fed and the other central banks learn their lesson in 2008? Will they pump endless amounts of liquidity into the financial markets in order to avoid another seize-up? Will that send commodity prices to the almost unimaginable levels I thought they might reach in 2008? Or, as some observers wonder, have the central banks learned the wrong lesson and will they simply find themselves helpless in the face of ongoing deleveraging (shedding of debt) that will create another credit crisis and take down the economy? Have the central banks simply created two more bubbles in Chinese real estate and commodities? Will these bubbles pop placing unstoppable downward pressure on an already crippled financial sector and lead to a panic that will crush markets worldwide?
Famed short seller Jim Chanos believes that the Chinese economy is experiencing a huge property bubble as 60 percent of the economy is now construction. He made the call last year, but hasn't changed his tune. Chanos seems to be testing the saying by economist John Maynard Keynes that "[m]arkets can remain irrational longer than you can remain solvent." Chanos did, however, apparently make some money as the Chinese stock market fell about 14 percent last year.
Blogger Nicole Foss of the Automatic Earth cautions that whatever interim steps the world's governments and central banks take, they cannot stop the shedding of debt which is now in process among households and businesses in North America and Europe. That process will overwhelm any attempts to maintain economic growth and send us into a deflationary depression before long, she believes. Australian economist Steven Keen, who was one of the few who foresaw the subprime loan debacle and the end to the U.S. real estate bubble, agrees.
Naturally, if one makes an economic prediction without specifying a particular date, one will--like a stopped clock--be right at some point. The tricky part about prediction is always timing. So, we must not only listen to Yogi Berra when making predictions, but also perhaps William Shakespeare:
There is a tide in the affairs of men,Translation: Timing is everything!
Which, taken at the flood, leads on to fortune;
Omitted, all the voyage of their life
Is bound in shallows and in miseries.*
__________________________________________________
*From Julius Caesar, Act IV, Scene III
3 comments:
Kurt, these two lines, back-to-back, are contradictory:
"Australian economist Steven Keen, who was one of the few who foresaw the subprime loan debacle and the end to the U.S. real estate bubble, agrees.
"Naturally, if one makes an economic prediction without specifying a particular date, one will--like a stopped clock--be right at some point."
When you have multiple, conflicting predictions issuing from just about every conceivable point of view, one of them will turn out to be "right" by chance alone.
Keen may have simply won the lottery. You acknowledge that with the "stopped clock" statement, but then you try to credit one of those stopped clocks as having foreseen things.
I doubt it. Unless one is a scientist making falsifiable, repeatable, specific predictions of a phenomenon, then one is merely just another stopped clock.
It has always been one of our chief weaknesses as humans to pretend that we can predict the unpredictable.
Mike,
You are correct in your analysis. There is always a danger that we are listening to stopped clock when we hear a prediction. So I try to focus on structural issues rather than timing, risks rather than absolute timetables.
As it turns out, Keen was early. He was predicting that the bubble would burst in late 2005 or early 2006. But his analysis concerning the fragility of the bubble economy proved to be correct. So, I include him having met him and heard that analysis firsthand. As I say at the end, "Timing is everything!" Given the very long-term nature of Keen's analysis, I'd give him high marks for pointing out early on that we are in for a long, drawn out deleveraging which could take a decade to resolve. We'll see if the economy takes off from here and consumers and businesses stop deleveraging. So far Keen's analysis is correct.
I don't purport to know where the economy will go from here. But I do think that structurally it has weaknesses that are likely to cause another resounding crash rather than a mild recession when the economy turns down again. Hence, my focus on risks.
Kurt, you write: "Perhaps there might even be a crash since the financial sector--which is even more fragile than it was in 2008 in my view--might face another crisis as a result of too much money flowing into the energy sector and therefore not enough flowing into the financial sector."
But I thought the problem with the economy was there was too much money flowing into the financial sector, which was creating speculation, inequality and instability. (Of course, the oil money does flow out of the economy.)
Also, I'm wondering how the economy could be more vulnerable now that the U.S. housing bubble is (mostly) deflated? Don't we need (or have?) a new bubble?
I agree there could be another financial crisis and prospects are not good for sustained growth. But as Jeff Rubin has argued, high oil and transportation costs could lead to a revivial of US manufacturing. So I see a mixed picture ahead and try to keep new potentialities in mind.
Post a Comment