Time for a Global Restart, But How?
It seems we are headed for a deflationary wave or a wave of hyperinflations. But there is an alternative.
April 28, 2016
The Western World is running a gigantic Ponzi scheme. The unwelcome, but undeniable truth is this: The higher the leverage in the system, the lower the real economy impact of new debt.
More and more new debt is issued only in order to keep up the illusion that the existing debt is still valuable. The debt capacity of the world is reaching its limit.
China, the country which saved us from a global depression by starting a historic debt-financed boom in 2009 now faces its own debt crisis.
All over the world, bad investments, overcapacities and bad debts depress global growth, increase deflationary pressure and lead to what people call “secular stagnation.” There are plenty of “zombies” around – both financial institutions and real economy debtors, which only stay alive thanks to zero or soon negative interest rates.
What could be done to deal with the problem of over-indebtedness? Well, basically we have three options:
- We could go for a global debt restructuring funded by one-time wealth taxes. I still think this would be the most efficient and least damaging way of dealing with our debt problems.
- Obviously, a debt restructuring would not be very popular for politicians, as they would have to openly admit the size of the problem and the huge losses implied for creditors. That’s why politicians hope to pursue the traditional way of inflating the debt away. The big problem with that approach? If it were easy to generate inflation these days, we would have it already.
Monetary policy is losing its effectiveness in times of overindebtedness as the deflationary pressure of bad debts and investments overcomes the power of central banks to increase aggregate demand. Clear signs for growing desperation are the increasing calls for “helicopter money” as well as the abolishment of cash in order to facilitate negative interest rates and confiscation of savings.
- Without the successful generation of sizeable inflation, we still run the risk of a major deflationary recession if banks fail or – in my view more realistically – radical political movements get into power. Count on them to implement debt restructurings and, in the case of the eurozone, decide to exit the failed project.
As politicians shy away from unpopular measures to deal with the debt problem, secular stagnation spreads more and more — featuring slow growth, rising debt, higher volatility in global markets and ever more desperate measures by the central banks.
Over time, we will face two scenarios: chaos and depression — or massive inflation. The longer it is not possible to generate inflation, the higher the risk of an accident. Financial markets already start doubting the omnipotence of central banks.
Debt is not just a problem of Europe. It is a global problem. Japan leads the pack and is facing a direct monetization of debt via the balance sheet of the central bank.
The United States, Canada, Australia, big parts of South America, emerging Asia and notably China all have to deal with significant indebtedness of some or all of the sectors of their economies.
Wherever we look: The world needs a reset. As with a computer that freezes, we need a reboot of the global economic engine. Ideally, we do it in one step for the entire world.
As the rumor goes, the G20 agreed at its last meeting to refrain from competitive devaluations. This is good news. A global currency war would only amplify our problems and increase the likelihood of a major depression.
It would be even better if the G 20 decided to deal with the debt problem in a concerted way. That is possible, but requires bold thinking.
Central banks are free in the evaluation of the assets on their balance sheet. Remember, they can buy anything they like for any price – and they can do so with money they produce themselves.
Ideally, they would buy a good which would not lose its value over time. For example, they could buy and store oil.
However, given the world supply and reserves as well as the costs to store oil, this would not be an efficient approach. Much easier would be a homogeneous good with limited supply and easy storage: gold.
Adding all of the gold that exists all over of the world in one place would fit into a cube measuring 21 meters in every direction.
The additional advantage: The central banks would not need to buy gold as they are, in spite of selling gold over the past decades, still the biggest owners of gold. Gold is an asset on their balance sheets.
Central banks could declare overnight to buy all gold in the world for a given price, say $10,000 dollars or euros per ounce.
The existing holdings of gold could be immediately re-evaluated and the resulting profits paid out to the governments to pay back government debt. Problem solved.
If we assume a revaluation of gold to a level of $10,000 dollars per ounce, central banks would generate sizeable profits (numbers based on March 2016 gold holdings of states and rounded):
- US: $2,615 billion
- Germany: $1,087 billion
- Italy: $788 billion
- France: $783 billion
- Greece: $36 billion
The shocking news: A revaluation by $10,000 dollars would not be enough! To get rid of all U.S. government debt would require a revaluation to a level of $70,000 dollars per ounce. For Italy and France, a level of $25,000 dollars would do. For Germany, $18,000.
For Greece, $80,000 and for Japan, which commands not so much gold, it would need to be around $410,000 dollars to get rid of all government debt in one stroke.
This would be much more efficient than the currently discussed concept of helicopter money, i.e., the direct funding of public or private spending by the central banks. Helicopter money would add to the debt stock. A gold revaluation would reduce the debt level.
Proponents of helicopter money want to increase aggregate demand and drive up inflation rates — both with the goal of reducing the real value of debts. With a joint decision by the G20 to revalue gold, this process could be sped up significantly.
The debt of governments could be reduced significantly and inflation rates would likely go up significantly due to a sizeable increase in global money supply. The latter step would lead to a significant devaluation of private debt. That is the foundation to overcome the global stagnation.
Of course, these measures would then have to be followed by a comprehensive program of reforms to boost productivity and wealth.
Many readers will at this point think that such thoughts are totally crazy. Let me remind you: When I proposed in 2014 that the ECB should pay each citizen in the eurozone 10,000 euros directly, many people thought the same of that proposal – crazy.
Today it is not a question of “if” but “when” we will see the helicopters starting.
As soon as it becomes clear that even helicopter money is not sufficient to lift us from stagnation, the search will start for the next weapon. What could possibly be more feasible than a revaluation of gold overnight?
Over time, we will face two scenarios: chaos and depression -- or massive inflation.
The longer it is not possible to generate inflation, the higher the risk of an accident.
The world needs a reset. As with a computer, we need a reboot of the global economic engine.
A global currency war would amplify our problems and increase the likelihood of a major depression.
Helicopter money would add to the debt stock. A gold revaluation would reduce the debt level.