Home > Macro/Monetary Theory > Playing Games with the Economy

Playing Games with the Economy

Here is a quote I used in an especially prescient post in March of last year:

“Growth alone will not resolve an increasingly complicated debt equation,” Moody’s said. “Preserving debt affordability” — the ratio of interest payments to government revenue — “at levels consistent with Aaa ratings will invariably require fiscal adjustments of a magnitude that, in some cases, will test social cohesion.”

Now Democrats are blaming the Tea Party for the recent downgrade of U.S. debt by S and P.  This, of course, is a complete sham.  They are saying that the downgrade and subsequent stock market declines are due to Tea Party brinksmanship with the debt limit.  There are two huge problems with this reasoning.  The most obvious is that the Tea Party types were using said brinksmanship to try to affect the changes that ratings agencies had warned us must happen in order for us maintain our AAA rating while the Democrats were employing the same level of brinksmanship (brinksmanship is always mutual) to maintain the status quo of massive spending, massive entitlements, and massive debt.  Then after the brinksmanship has come to an end and resulted in some typical Washington do-nothing “compromise,” we get downgraded.  And this, Democrats would have us believe, is because of the very people who tried and failed to do the things the rating agencies were telling us we had to do.  It should be pretty obvious that this makes no sense.  We got downgraded not because the right tried to cut deficits in a meaningful way but because they failed to do so. After all, if they ratings agencies were just worried about a debt ceiling increase, shouldn’t they have downgraded us before that was settled?

The second point is more important.  The fall in markets is not due mainly to the debt downgrade.  This may be part of it, but treasuries actually went up.  If the only thing happening were U.S. bonds being seen as more risky, money would have flowed out of treasuries and into other investments, possibly the stock market or possibly cash, gold, etc.  What we are seeing is in fact the deflationary contraction resulting from a monetary bubble.  Why are treasury yields actually decreasing on a U.S. credit rating downgrade?  Why is oil falling dramatically on a U.S. credit rating downgrade?  Why is the stock market falling while yields are oil are also falling?  This doesn’t make any sense if you attribute it to a debt rating downgrade.  But this is exactly what you would expect to happen when the borrowing dries up in a debt-fueled bubble.

  1. August 18, 2011 at 4:37 am

    I was actually quite confused by the crash in the stock market and the increase in treasury yields. Maybe I just haven’t taken enough economics classes yet. I understood why gold keep on climbing while the stock market kept falling, but why didn’t the stock market completely crash like in 2008. I was expecting it too. Is it going to later? It seems to me like the U.S. public debt is increasing without bounds, the monetary base is also increasing without limit, and the U.S. economy is not recovering. Are we going to see stagflation? It seems like with the increase in the monetary base we should expect record high inflation levels once the money multiplier kicks in. What do you think?

  2. Free Radical
    August 19, 2011 at 6:38 pm

    “once the money multiplier kicks in” is the key phrase. I don’t expect this to happen any time soon. The public debt increasing without bounds is a way of trying to increase the money supply and generate inflation. It’s deflation that is going to get us not inflation I think, and yes I expect the stock market to fall further, probably in magnitudes similar to 2008. Of course the Fed will end up doing more quantitative easing, it’s just a matter of how bad the economy has to get before they do it.

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