Bubble, bubble –,toil and trouble?toil and trouble?

15 February 201115 February 2011

facilitating debate on the outlook for the markets

Dr Steve KeenS e e eeAssociate ProfessorUniversity of Western SydneyUniversity of Western Sydney

The Global Context: The “Great Recession”USA f “G t M d ti ” t “G t R i ”

Great Moderation to Great Recession• USA: from “Great Moderation” to “Great Recession”

12.5

15 2008

7 5

10

5

7.5

0

2.5

Inflation 0

5−

2.5−InflationUnemployment

1975 1980 1985 1990 1995 2000 2005 2010 20155

• Conventional economics gave no warning of this event:

“No-one could have seen this coming…”“Th f th G t M d ti i h t• “The sources of the Great Moderation remain somewhat controversial, but … improved control of inflation has contributed in important measure to this welcome changecontributed in important measure to this welcome change in the economy.” (Bernanke, Federal Reserve 2004)

• “Our central forecast remains indeed quite benign: a soft Our c ntra for cast r ma ns n qu t n gn a softlanding in the United States, a strong and sustained recovery in Europe, a solid trajectory in Japan and b h d d l hbuoyant activity in China and India. In line with recent trends, sustained growth in OECD economies would be underpinned by strong job creation and fallingunderpinned by strong job creation and falling unemployment.” (Cotis, OECD 2007, p. 7)

• “I do not know anyone who predicted this course ofI do not know anyone who predicted this course of events. This should give us cause to reflect on how hard a job it is to make genuinely useful forecasts…” (Glenn j g yStevens, RBA, 2008)

WE did see “It” coming!At l t 12 did d d f it (B 2009 2010)• At least 12 did, and warned of it (Bezemer 2009, 2010)

Analyst “Di ti ti b t fi i l lthAnalystDean BakerWynne GodleyF d H i

• “Distinction between financial wealth and real assets…

• Concern with debt as theFred HarrisonMichael HudsonEric Janszen

• Concern with debt as the counterpart of financial wealth…

• Growth in financial wealth and theStephen KeenJakob Brøchner Madsen & Jens Kjaer Sørensen

Growth in financial wealth and the attendant growth in debt can become a determinant (instead of an

Kurt RichebächerNouriel RoubiniPeter Schiff

(outcome) of economic growth …

• Recessionary impact of the bursting Robert Shiller of asset bubbles…

• Emphasis on the role of credit l i h b i l ”

• Common themes f B cycles in the business cycle…”from Bezemer 2009 (pp. 10-11)

Common theme: credit in the business cycle

• Conventional economics ignores credit & debt– Non-monetary economy: aggregate demand (AD, GDP

Income) equals aggregate supply (AS, GDP Output)• Credit economy fundamentally different to barter

– “The granting of credit comes first ... purchasing power is created to which ... no new goods correspond. F m this it f ll s th f th t in l lif t t lFrom this it follows, therefore, that in real life total credit must be greater than it could be if there were only fully covered credit ” (Schumpeter 1934 p 101)only fully covered credit. (Schumpeter 1934, p. 101)

– Growth in debt finances economic growth• Monetary economy: AD = GDP Income + Change in DebtMonetary economy: AD = GDP Income + Change in Debt

– Spent on GDP plus net sales of existing assets– Focus on dynamics of debt is why I and other rebelFocus on dynamics of debt is why I and other rebel

economists did “see “It” coming”:

Macroeconomics of Private Debt (USA)Bi t d bt b bbl i US hi t b t• Biggest debt bubble in US history burst:

300USA Private Debt to GDP

My 1My 1stst warningwarning

rst

rst240

260

280

fore

fore

bur

bur

160

180

200

220

f GD

P •• Why did crisis Why did crisis start in 07start in 07--08?08?

gins

gi

ns b

efbef

100

120

140

160

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ent o

f start in 07start in 07--08?08?

risi

s be

gri

sis

beg

40

60

80

100

CrCr

1920 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 20200

20

40

Year

Macroeconomics of Private Debt (USA)A t d d GDP h i d bt• Aggregate demand = GDP + change in debt– Change in debt began to fall in 2007-08:

tt1 8 107×

1.9 107×GDP alone

US Aggregate Demand GDP 2000-2011

T T ΔΔD

ebt

Deb

t

1.6 107×

1.7 107×

1.8 10×+ Change in Private Debt+ Change in Public Debt

+$4T

+$4T

--$2$21.4 107×

1.5 107×

mill

ion

2.5T2.5T

7

1.2 107×

1.3 107×$

28% b t t k i 200828% b t t k i 2008

9 106×

1 107×

1.1 107× •• 28% boost at peak in 200828% boost at peak in 2008•• 18% cut at trough in 201018% cut at trough in 2010

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 20119 10×

Year

The Credit Impulse (USA)Si AD GDP ΔD bt• Since AD = GDP + ΔDebt

• Then ΔAD = ΔGDP + ΔΔDebt“C dit I l ” (Bi t l 2010) DebtΔΔ– “Credit Impulse” (Biggs et al. 2010) DebtCreditImpulse

GDPΔΔ=

• Change in GDP dominant factor in employmentB t C dit I l d thi i “G t”• But Credit Impulse made this recession “Great”• Fastest Debt Deceleration ever:

5

10Change in real GDP & change in employment, USA

5

10Acceleration of private debt & change in employment, USA

10−

5−

0

rcen

t p.a

.

0

10−

5−

0

rcen

t p.a

.0

25−

20−

15−

Change in real GDPChange in Private Employment

Per

25−

20−

15−

Credit ImpulseChange in Private Employment

Per

1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 201530−

C a ge vate p oy e t

Year( )

1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 201530−

Change in Private Employment

Year

The Credit Impulse (USA)C dit I l i th d i ’ t• Credit Impulse in the driver’s seat– Leads changes in Employment by 3 months

L d h i GDP b 5 th– Leads changes in GDP by 5 months1

Credit Impulse

Credit Impulse Leads Change in Employment, GDP Lags

ent 3− 2

Credit ImpulseChange in GDP

in e

mpl

oym

e

0.5

with

cha

nge

0

n C

oeff

icie

nt

0 5

Cor

rela

tion

20− 10− 0 10 20 300.5−

Lag in Months with respect to change in employment

Australia’s different, right?Ri ht d W• Right… and Wrong…

• Wrong:Same debt debt change credit impulse dynamics– Same debt, debt change, credit impulse dynamics• Sort-of-right

Different magnitudes– Different magnitudes• Government policy key factor here• First Home Vendors’ Boost• First Home Vendors Boost

– Credit Impulse starting to turn negative again…• RightRight

– More effective fiscal stimulus• Sort-of-wrongSort of wrong

– About to be reversed…– China boomChina boom

• Sort-of-wrong: Our eggs in a China basket?

Australia: Crisis? What Crisis?S dd t d i l t• Same sudden turnaround in unemployment– But rapid reversal of trend

• Same decline in inflation (if more volatile)• Same decline in inflation (if more volatile)15

Australia: Crisis? What crisis?2008•• US 4 4%US 4 4%--10 2%: 131% increase10 2%: 131% increase

10

12.5US 4.4%US 4.4% 10.2%: 131% increase10.2%: 131% increase

•• Aus 4%Aus 4%--5.8% 46% increase5.8% 46% increase

5

7.5

6%6%

131%

131%

2.5

5 4646

2.5−

0 InflationUnemploymentUSA Unemployment

0

1975 1980 1985 1990 1995 2000 2005 2010 20155−

USA Unemployment

Australia: Crisis? What Crisis?S b ti f d bt b bbl• Same bursting of debt bubble– From lower level

Th h i il f fi i l t d bt• Though similar for non-financial sector debt

280

300Australia

Australian Private Debt to GDP2008

220

240

260

280USAUSA excuding financial

140

160

180

200

nt o

f GD

P

80

100

120

140

Perc

en

0

20

40

60

1920 1925 1930 1935 1940 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 20200

Year

Macroeconomics of Private Debt (Australia)W id d i i b idi d l i• We avoided crisis by avoiding deleveraging:

1.5 106×Australian Aggregate Demand GDP 2000-2011

2008

1 3 106×

1.4 106×GDP alone+ Change in Private Debt+ Change in Public Debt

2008

1 1 106×

1.2 106×

1.3 10× + Change in Public Debt

ion

900000

1 106×

1.1 10×

$ m

illi

800000

900000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011600000

700000

Year

The Credit Impulse (Australia)S GDP/C dit I l d i USA• Same GDP/Credit Impulse dynamics as USA– But smaller negative impulse, rapidly turned positive:

10Change in real GDP & change in employment, Australia

10Acceleration of private debt & change in employment, Australia

5−

0

5

t p.a

.

0

5−

0

5

t p.a

.

0

20−

15−

10−

Change in real GDP

Perc

ent

20−

15−

10−

Credit Impulse

Perc

ent

USA hitUSA hit 26%26%1975 1980 1985 1990 1995 2000 2005 2010 2015

30−

25−Change in real GDPChange in Private Employment

Year( )

1975 1980 1985 1990 1995 2000 2005 2010 201530−

25−Credit ImpulseChange in Employment

Year

USA hit USA hit --26%26%

• Result was we never experienced deleveraging• Debt continued to expand demandDebt continued to expand demand…

Caveat! Australian Credit Impulse differentGDP l d l t & C dit I l h• GDP leads employment & Credit Impulse here– Probably reflects greater export exposure of

Australian economyAustralian economy– Economy more affected by global factors than USA

Australian Credit Impulse Lags GDP, Change in Employment

0.6

0.8Credit ImpulseChange in GDP

21−

0.4

n C

oeff

icie

nt

0.2

Cor

rela

tion

20 10 0 10 20 300.2−

0

20− 10− 0 10 20 30

Lag in Months with respect to change in employment

Comparative Macroeconomics of Private DebtD bt fi d d d t d ti i A t li• Debt-financed demand never turned negative in Australia

25Debt-financed demand

d 2008

15

20

te d

eman

008

5

10

f agg

rega

t

0

5

perc

ent o

f

0

10−

5−

debt

as p

20−

15−

AustraliaUSAC

hang

e in

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 201125−

USAC

Comparison of the Credit ImpulseN ti C dit I l f l i US• Negative Credit Impulse far larger in US

• Demand in Australia now being boosted by credit impulseA t li l d it t f t bl• Australia re-levered its way out of trouble…

10Credit Impulse, USA & Australia

0

5

0

10−

5−

ent p

.a. •• 3 questions3 questions

•• Why did we do it?Why did we do it?

20−

15−Perc

e W y wW y w•• Can we keep on doing it?Can we keep on doing it?•• Is it a good idea?Is it a good idea?

30

25−

20

USAAustralia

Is it a good idea?Is it a good idea?

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 201130−

Year

Why did we do it?FHVB d $100 billi th i t d bt• FHVB encouraged $100 billion growth in mortgage debt

100Impact of First Home Vendors Boost on Mortgage Debt

90

95

100HouseholdMortgage onlyT d FHVB

FHVB

80

85

90 Trend pre-FHVBBusiness

DP $1

00bn

$100

bn

70

75

ent o

f GD

55

60

65

Perc

e

45

50

55

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 201140

45

Can we keep on doing it?B t f t d bt i t• Boost from mortgage debt running out

• Business Credit Impulse still negative, but turning positive C dit I l b S t (Y l )

10Credit Impulse by Sector (Yearly)

5

5

0 0

10−

5−

BusinessMortgage

2007 2007.5 2008 2008.5 2009 2009.5 2010 2010.5 201115−

g gPersonalAll private

2007 2007.5 2008 2008.5 2009 2009.5 2010 2010.5 2011

Can we keep on doing it?Q t l d t i t l ti i ti i t• Quarterly data paints less optimistic picture– Business turning negative again (even with China boom)

Credit Impulse by Sector (Quarterly)

9

12Credit Impulse by Sector (Quarterly)

3

6

3

0

3

0

6−

3−

Business

12−

9−BusinessMortgagePersonal

All private

2008 2008.25 2008.5 2008.75 2009 2009.25 2009.5 2009.75 2010 2010.25 2010.5 2010.75 201115−

p vate

Can we keep on doing it? An analogyC i i lik d i• Crisis like a drive– Distance Debt to GDP Ratio

• Sydney to Canberra? Return drive a piece of cake• Sydney to Canberra? Return drive a piece of cake…• Sydney to Perth?...

– It’s a long way back even to CanberraIt s a long way back even to Canberra…– Speed Rate of change of debt

• Higher speed feels good (boom)Higher speed feels good (boom)• Driving backwards feels bad (deleveraging)

– Acceleration Credit Impulsep• Accelerating feels really good (faster to Perth)• Decelerating feels really bad (going backwards g y g g

faster to Canberra)– Slowing down deceleration can feel good

l l• Going backwards less rapidly• But drags out journey back…

Can we keep on doing it?USA l l f d bt ill t C dit I l t i iti• USA level of debt will stop Credit Impulse turning positive

300 30Private Debt USA: Level, Change, Credit Impulse

280

290

18

24

260

270

6

12

GD

P

t

240

250

6−

0

erce

nt o

f G

Perc

ent

0

220

230

18−

12−

Level

Pe

200

210

220

30

24−

18LevelChangeAcceleration

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011200 30−

Year

Can we keep on doing it?A t li t di b t bl d bt ili hit• Australia not as dire but same problem: debt ceiling hit

200 30Private Debt Australia: Level, Change, Credit Impulse

180

190

18

24

160

170

6

12

GD

P

t

140

150

6−

0

erce

nt o

f G

Perc

ent

0

120

130

18−

12−

Level

Pe

100

110

120

30

24−

18LevelChangeAcceleration

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011100 30−

Year

Is it a good idea?C t i l l f d bt f i t t• Certain level of debt necessary for investment– US: historical record implies under 100% of GDP

A t li 25% f GDP– Australia: 25% of GDP• Higher debt levels reflect Ponzi behavior

G bli i i i i h b d– Gambling on rising asset prices with borrowed money• Releveraging out of Ponzi crisis means a larger one later

P b bl “ ”• Probable outcome: “Turning Japanese”– Occasional growth spurts via government spending,

“ tit ti i ” iti C dit I l“quantitative easing”, positive Credit Impulse– Fall back into low/negative growth again as Credit

Impulse hits wall of high Debt/GDP ratioImpulse hits wall of high Debt/GDP ratio

What about Nature’s Revenge?St tt t f t l i ?• Stutter courtesy of natural crises?

Signposts in 12 months?

• Negative credit impulse from household sector– Credit-impulse-driven rise in unemployment

• Countered by– China Boom (if it continues)– RBA rate cuts

– Higher unemployment than todayg p y y• Low to negative GDP growth• Inflation below expectationsp

– Except for Climate/Peak Oil effects

Light relief…

Bubble, bubble –,toil and trouble?toil and trouble?

15 February 201115 February 2011

facilitating debate on the outlook for the markets