As world stock markets continued to climb to cyclical – if not all – time highs, it became almost the norm for industry talking heads to season their smatterings of media insight with a brief, talismanic expression of scepticism, uttered partly to appease the ever-jealous God of the Markets but mainly so as to be on record as ‘having foreseen the crash’ as and when one eventually occurs.
The plain truth is that most of these people have long been nigh-on fully invested and/or eager buyers of the occasional dip, even if they do have one eye on their post-panic, personal LinkedIn puffery. Actions speak very much louder than words, I would venture.
The reality is that, unless crass political stupidity or intrudes, cycles tend to end from the real side when the structure of what we have erroneously constructed during the boom becomes obviously unsound and is no longer able to bear its own weight.
Sometimes we are led to add too much ‘horizontal’ capacity – too many new supermarkets, steel fabricators or sportswear manufacturers: sometimes (a fault much more difficult to rectify) too much of the ‘vertical’, long-amortization, indirect-use kind – i.e., we encourage the formation or expansion of too many specialist makers of ‘higher-order’ goods, many of them to be found in the ‘new frontier’, ‘disruptor’ industries which tend to be the standard-bearers of each new mania.
The particular difficulty with these is that the goods they throw off require a long and complex passage of further modification and incorporation in other productive processes before they realize their final purpose in end-consumer satisfaction and everyone can say they have truly been paid and that final settlement has been fully achieved.
Moreover, it is characteristic of such businesses that they display a high degree of interdependence and so are subject to a cascade effect should problems emerge elsewhere within the sector. BEA estimates, for example, have it that over two-fifths of the output of US manufacturers serves as an input to that of their peers, so the possibility of what we might call ‘cross-infection’ should be plain to see.
Ultimately, though it is our own entrepreneurial errors which bring about the crisis, it is crucial to realize that these are both encouraged and made endemic, rather than remaining localised or specific, by that corruption of the critical signals regarding relative scarcity and consumer impatience which results from artificially lowering interest rates.
Such policy-induced errors mean that once the inflow of inflationary credulity slackens for any reason, organic cash flows turn out to be too small or too remote in time to allow one’s project (a) to be self-supporting and (b) to continue to excite the appetite (or prolong the forbearance) of those offering outside sources of finance, even if these latter have had their own critical faculties similarly impaired by the fatal seduction of too-easy money.
Similarly, our misreading of the general state of the market – our faulty ‘plan co-ordination’ – may mean that input prices or, just as critically, the prices of the key complementary goods which are needed to give our now sub-marginal output its functional value – move higher in relation to the selling price of our wares than the commercial sustainability of their combination allows.
Perhaps such goods are not produced at all, the resources of which they consist having found more lucrative uses in other lines of business, leaving our ‘fixed capital’ valueless as the ‘circulating capital’ which it generates become trapped on a truncated assembly line.
On top of that, the ‘Magic Money Tree’ (to extend a current British political jibe to the entire philosophy of modern, central bank-driven Macro) can become stripped of its foliage or struck by a random bolt of lightning. That is to say, the parallel financial architecture may also crack – whether because of the tremors emanating from the real-side or because some speculative Samson manages to topple its supporting pillars amid his own self-inflicted demise.
Regarding that latter, we Austrians often say that business cycles tend to start as monetary problems and then turn into real-side ones. Another axiom is that the real-side traumas can be greatly aggravated in turn by their own financial ramifications; that our unstable, inverted pyramids of money, credit, and derivatives may be sucked into that vicious circle of collapse which used to be referred to as a ‘secondary’ (note the adjective) depression. Post-Lehman, this concept should need little or no elaboration.
Needless to say, the longer the monetary manipulation goes on and the more intricate the interconnections laid down between the participants; the more highly-geared and non-linear the financial positioning, the more likely such an ancillary outbreak becomes.
Hence the awful danger inherent in a decade’s worth of ‘whatever it takes’ financial and monetary ‘unorthodoxy’.
As for the trigger? Who can say? To quote Adam Smith, ‘there’s a lot of ruin in a country’. As I have remarked before, however, I don’t think he issued it as a challenge!
Conversely, to quote our firm’s eponymous ‘brand ambassador, the great Richard Cantillon, writing of his experience in both the Mississippi and South Sea Bubbles of three centuries ago:
‘The excess banknotes [credit] made and issued on these occasions [the practice of an early form of QE, believe it or not] do not upset the circulation because, being used for the buying and selling of stock [bonds included], they do not serve for household expenses [end consumption] and are not changed into silver [money]. But if some panic or unforeseen crisis drove the holders to demand silver [money] from the Bank(s), the bomb would burst and it would be seen that these are dangerous operations.’
In keeping with the classic Austrian exposition of the business cycle, what Cantillon is pointing out here, is that the sins of misaligned (or ‘malinvested’) capital are most often called to account when its ensuing false sense of prosperity incites a general wave of over-consumption. This soon ruptures the thin fabric of illusion woven by the boom by diverting expenditures towards – and thus raising prices in – areas not incorporated in its misdirected entrepreneurial planning.
As that pillar of Victorian rectitude, Lord Overstone, once characterised it, the cycle moves through: “Quiescence, improvement… excitement, overtrading… convulsion… stagnation… quiescence”
We might be more succinct and say “Stimulus, ‘data-dependence’, new technology plus old favourites, increased leverage and lowered transparency, sudden-stop, Q(Q)E, zombification, further central bank mission-creep”
Sadly, we can see all the classic signs today.
Rising consumer debt, feckless governments – gradually becoming emboldened to waste even more scarce resources in the name of ‘using their fiscal space’ – ‘unicorn’ company valuations, crypto-currency manias, triple-digit (or, worse, negative) earnings multiples attaching to the stock-market bellwethers, soaring property prices, record-breaking auctions for classic cars, scotch whisky, vintage wines, the fad for doubly- and triply-leveraged ETFs – there is no lack of evidence for the proposition that things have again become dangerously stretched.
You’ll have to trust me that I, in my turn, am not insincerely buffing up my online resumé when I say this strongly suggests that we’ll all be reaching for Monsieur Cantillon’s ‘silver’ once more, before very much time has passed.