Davos, the Housing Bubble and Our Inane Leaders

(PART 1)

The economic forecast for what is left of this decade looks dim. When the political and business "crème de la crème" of the world gathered this past February at Davos (at the World Economic Forum Annual Meeting), they couldn't agree on what will happen with the world economy this year. They have the knowledge, the money and the instruments to be the ones who can address issues like the financial crisis and the housing market debacle better than anyone else. Even so, they didn't accord on a united front that delineate where we are heading; when the meeting at Davos was over two blocks appeared in torrent opposition, some optimistic and others pessimistic (like that helps). Anything in between is not worth listening to.

On a February "Foreign Policy" article about Davos, Moisés Naím mentioned George Soros and US economist Nouriel Roubini as part of a ultrapessimists group, saying that they “argued that we had entered the most important economic crisis in the last 60 years.”

They may be right when they talk about a nebulous future, and lets be honest, they way things are developing it doesn´t take a genius to understand the magnitude of the catastrophic prospective.

One of this ultrapessimists, George Soros, said at Davos: "The current crisis is not only the bust that follows the housing boom, it's basically the end of a 60-year period of continuing credit expansion based on the dollar as the reserve currency.” If this comment turns out to be true then a long term crisis may be waiting to unfold and the world seems unprepared to handle it properly.

On another negative side at Davos, Nouriel Roubini said: "It's not about a soft landing or a hard landing but rather how hard a landing it will be.” This may sound as terrible news not just for the financial system but also for governments; over $169 billion dollars on a “stimulus package” in the United States were approved to, in some extent, prevent the economy from weakening.

While on the other side of the Atlantic, as The Economist reported on its last Thursday weekly resume, “Britain moved to nationalize Northern Rock” meaning that the efforts to sell it were dropped, also meaning that taking over this mortgage lender “is the best of a bad range of options…” …”if the state is to recover a reasonable chunk of the £25 billion ($49 billion) in loans and £30 billion in guarantees it has extended to the bank.”

In one way or the other, giving tax rebates as “stimulus packages” or saving bad lenders from drowning the financial system, governments are feeling the pressure of keeping some confidence on the market. While in the end, tax payers will be the ones who end up paying for this disastrous under-regulated mess.

All this problems have a father and a mother. One is call the “housing bubble” and the other the “weak dollar”. Both problems started when the United States was trying to avoid a deep recession back in 2001, both are the result of some terrible economic policies that I will describe later.

But for now lets ask this question. Who really knows what will happen?

So far the United States had not declared a recession, Ben Bernanke said before the Committee on the Budget, US House of Representatives, Washington DC, 17 January 2008, “Recently, incoming information has suggested that the baseline outlook for real activity in 2008 has worsened and that the downside risks to growth have become more pronounced." That understates the actual dimension of the incoming crisis.

On the same soft words, “hide what you can about the real shape of the economy -line" -- President Bush on his State of Union Address declared that, "We must have an economy that grows fast enough to employ every man and woman who seeks a job. After recession, terrorist attacks, corporate scandals and stock market declines, our economy is recovering -- yet it's not growing fast enough, or strongly enough. With unemployment rising, our nation needs more small businesses to open, more companies to invest and expand, more employers to put up the sign that says, "Help Wanted."". But hold on for a second, this was not in 2008 this was back in January 2003, it looks like America didn´t take the right measures to maintain a healthy economy on the long run.

We heard after five years George´s 2008 State of Union Address, “In the long run, Americans can be confident about our economic growth. But in the short run, we can all see that that growth is slowing.” This could put George in one awkward position, giving him the sad record of having two recessions while he was President, but it also could threaten the party that supports those “terrible economic policies” that I mentioned before.

The Economic Policy Institute released a statement back in 2003 called "Economists' Statement Opposing the Bush Tax Cuts” which stated: “Passing these tax cuts will worsen the long-term budget outlook, adding to the nation’s projected chronic deficits. This fiscal deterioration will reduce the capacity of the government to finance Social Security and Medicare benefits as well as investments in schools, health, infrastructure, and basic research. Moreover, the proposed tax cuts will generate further inequalities in after-tax income." They were right, after five years we are back into recession, one that could be worst than the last one.

On George´s 2008 statement he also implies that tax cuts were never the answer. This sad acceptance, that is always meant to be misleading, shows us that a economic slowdown could not be treated as lightly as it was, and that after a bubble burst, in this case the technological bubble, another could be created in no time by taking wrong economic policies, that just as the tax cuts, drove the economy to a more severe damage.

But tax cuts were only possible after a highly respected Fed chairman (Alan Greenspan) “endorsed” them before Congress. On a CNNMoney January 2001 article about Greenspan´s testimony before Congress, “… Greenspan played down the idea that tax cuts would provide an immediate boost to the economy, saying that tax reduction is appropriate as a long-term economic measure now because of estimates of a larger-than-expected federal surplus.” With that comment Bush got what he wanted, a boost from the most respected economist at the time, implying that it is fine to implement tax cuts.

On a review of Greenspan latest book, the New York Times on a September 2007 article says the following, “Though he does not admit he made a mistake, he shows remorse about how Republicans jumped on his endorsement of the 2001 tax cuts to push through unconditional tax cuts without any safeguards against surprises. He recounts how Mr. Rubin and Senator Kent Conrad, a North Dakota Democrat, begged him to hold off on an endorsement because of how it would be perceived.”

But that was only one of the two mistakes made at the time, The Fed also under his leadership lower interest rates, back in 2001, to 1% in order to help the economy recover from the catastrophic technology bubble.

You can see the pattern here, bubbles are created during certain conditions in which the market push prices up for a prolong time, when its too late for the government to do something, it burst.

This is the connection between the inaction of the government that implemented fatal policies and private corporations that abuse a weak uncontrolled system. First tax cuts, those helped create the feeling that more money would go to the regular American, while it actually went to the richest, second was low interest rates, which created the feeling that money was worth almost nothing and that you could end up with big amounts of debt that won't affect your cash flow. That trigger two important private abuses, one was ultra sophisticated lending structures, which made people who couldn't afford a credit to get one, the other was pushing people to use their houses as collateral, creating the sense of wealth as the prices went up.

That created the housing bubble, that led to the current financial crisis. After this last bubble (the housing one) extrude problems around the subprime mortgage market, the lending market, the insurance companies and later on every financial institution, the results show that the stock market could be the latest to feel the wrath of a prolonged decline of prices, implying that it could bring down the world's economy before this 2008 summer ends.

But after this recession is over; which other bubble would be created? How the world economy will end up? Who will be the big winners and the losers? Which disastrous results will come from Bernanke's "rate cut policies"?

I will go into those matters on the second part of this article.