Friday, February 6, 2009

Open the Floodgates (Part 3)

Karl Denninger expands further on what I was saying over the last two days.

This is a must read article folks. If you don't understand some of what Karl is talking about, use the archive links on the right side of his site to read back a few posts. The problem should rapidly become abundantly clear. I'm no economist, and I only understand what I've read, but Karl's analysis has been passing the "smell test" for me for some time now, and the archives show that he called this mess as much as a year and a half ago.

From the article:
Automobile demand is a good example. The last few years we've built 14 million cars a year. But our inherent demand to replace destroyed cars (rusted away, crashed, etc) is only 11 million or so. The other three million were "pulled forward" with creative financing - for a while.

We employed hundreds of thousands of people building cars that cannot be sold on a permanent basis. That's a problem.

These distortions cannot happen without active government involvement. Without allowing willfully false statements on 1003s (mortgage documents) you cannot grant $500,000 loans to people who make $8/hour. It simply can't happen, because the inherent risk of default on those loans is so high that absent fraud nobody in their right mind will fund those loans and honest regulators will step in and stop the stupidity before it can get out of hand.

But when these distortions become embedded in the economy as a consequence of government mismanagement, willful blindness and even active complicity in the frauds then you've got a major problem because now laying people off for a few weeks or months won't solve anything. The excess capacity that gets built into the economy is too great and creative destruction has to take place - that is, we must actively destroy that excess capacity to get out of the mess. Worse, since "pull forward" financing has taken place we've got an even bigger problem - the companies that overbuilt wind up bankrupt as they can't service their debt, and the bankers who wrote that credit go under as well.

Thus we need some sort of "systemic reset" to get out of it, lest the spiral become embedded - and the economy experience a Depression.
- Karl Denninger

Obama and the Fed have gone all-in, they're holding a 2 5 offsuit, and the market isn't falling for their bluffs any more.

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