We’ve been exploring how the credit bubble resolves itself. Inflation? Deflation? Are we locked in to a long, long period of stagnation, slump and economic sclerosis?
Yesterday, we shared our research department’s forecast for the short term: Based on simple regression-to-the-mean logic, it suggests that the “most likely” course for US stocks over the next three months is a loss of more than 6%.
Today, we give you our long-term forecast.
Little by Little or One Savage Blow
“This is the most negative ever,” says our chief number cruncher Stephen Jones. It shows a loss of 9.8% every year for the next 10 years. In other words, our mean-regressing-, debt- and demography-adapted model also seems to be pointing to a long depression.
But an average loss of 9.8% per year over 10 years can happen in a number of different ways. Little by little. Or in one savage blow.
A foreshadow of the long depression crossed the planet like a total eclipse of the sun twice in the last 100 years.
The first time was America’s Great Depression. You know that story. Stocks crashed. Businesses went broke. People lost their jobs. Banks failed. Events were following the typical depression script, which probably would have bottomed out and recovered within a couple of years – as happened in the Depression of 1921.
But then, the federal government stepped in. It froze prices, including the price of labor. It cut off trade. It blocked liquidations. It arrested the progress of the correction.
Murray Rothbard analyzed the policies of the Hoover and Roosevelt administrations in his 1963 classic, America’s Great Depression. He showed how government, trying to stop the Depression, actually prevented it from doing its work.
The short, quick deflationary shock – which should have slashed bad debt, bad businesses and bad investments – turned into a long, agonizing slump. The Depression, which should have been over by 1933, continued until the 1940s and was only ended then by the biggest public works spending program in history – World War II.
This, by the way, did not actually make people better off economically, but it “put people to work” and largely disguised the drop in living standards which that war and the Depression had caused.
The second long depression was in Japan, following the crash of its stock market in 1990. It has now been a quarter of a century since that crash. Japanese GDP has scarcely advanced, as you can see in the following chart:
And the Japanese stock market?
From a high of nearly 40,000 in 1990, the Nikkei index now trades at around 20,000. It’s taken 25 years to claw itself back to a 50% loss!
Japan Is Running Out of Time and Money
The blame for the long-ness of the depression can be placed squarely on the government. To this day, it continues to meddle in the economy – essentially forestalling a genuine cleanup of bad debt.
Instead of allowing the bad debt to be written off and reduced, policymakers have added more and more debt over the entire 25-year period so that today, Japan’s government is the most indebted in the world.
And now Japan is running out of time and money. Its aging population is no longer saving for retirement; now retirees expect to spend those savings. This means that the government can no longer count on financing from Japan’s savers. Now it must return their money.
But how? It has no money to give them. Like the US, it has been running budget deficits for years.
Japan’s economy is in a crisis. It’s been two years since the Shinzo Abe government began its stimulus program. But wages are actually lower today than they were when it began. And this is happening against a backdrop of falling labor supply; the labor pool is expected to shrink by 20% over the next 25 years. The main goal of the stimulus program was to raise Japan’s inflation rate. But you could multiply the last 12 months of price increases by nine and still not reach the government’s 2% target.
