Thursday, December 25, 2008

The current financial crisis, and the comming financial crisis

I was asked today what I thought about the current recession: are we at the bottom, or is there still farther to fall. I speculated that there is still farther to fall. That said, I just don't know. If I really believed there was farther to fall I would not keep buying stocks and mutual funds, yet I do. I just don't know.

However, the current recession isn't what bothers me, its the crazy inflationary period we are heading to.

"Wait!" you say, everyone is talking about deflation, why are we worried about inflation. Well, the Fed is fixing the deflation problem. In fact, that fix is going to cause the inflation problem that is coming. Here is the scenerio: The financial pipes of capitol flow are clogged. People have been saying this for a long time. Whats going on is people are not spending their money, lots of people have it, no one is spending. Because so much of our economy depends on consumer spending, and corprate investment, everyone is suffering. Think of this analogy, we all live along a nice river eating fish and growing vegtables by the side. The river got plugged up. Things are pretty dry right now, all the fish are gone and our gardens are drying up. However, there is still alot of water, its all damed up at the source of the river. The Fed has a solution, pump more water into the river. To some extent this helps. High pressure watter will help dislodge the jam, but when it all clears up, we are all about to be flooded.

When capitol starts to flow agin, there is going to be a suplus of money out there, thanks to the FEDs huge push to increase liquidity. When this flood of liquidity unleashes its going to damage our economy, its going to drive serious inflation. The fed will have to put the breaks on things. The breaks means the Fed will work as hard as possible to suck up access liquidity, like a big spunge.

Here is the problem, when the flood starts it won't be easy to tell, people will be very happy and everyone will start consuming. When the Fed finally gets around to applying the breaks, they are going to have to slam them on. And that will drop us back into a recession... Which will be bad, much like this recession.

So, here is the problem, the medicin the Fed is giving us now is just going to prolong our suffering. (We will suffer no matter what).

To answer my original question, are we at the bottom of the current recession? Well, again, I don't know, but I am quite sure we are going to enter a period of macroeconomic instability which will last for quite some time (maybe 10 years). The instability will bring us periods of great prosparity and great pain: great swings, and that isn't good.

Enjoy the ride.

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