Is the GFC the final crisis?

July 30th, 2009

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Late last year, the global financial system suffered a near death experience. History will remember that year as the Panic of 2008 (there was a panic 101 years ago too- the Panic of 1907). Today, there’s a belief that the worst of the Global Financial Crisis (GFC) is over. Thus, assuming that March 2009 is the pinnacle of the panic, then it must follow that things can only get better and that stocks will have to continue its long-term upward trajectory. The only question is how ‘fast’ stocks should go up to reflect the speed and extent of the ‘recovery’ (and in our opinion, also the speed in the rise of price inflation- see Can we have a booming stock market with economic calamity?).

But make no mistake about this: deflationary pressures still exists and it is still possible that asset prices can suffer seasons of mini-panics. If history is any guide (e.g. Japan in the 1990s and the Great Depression), the lows of March 2009 can still be challenged in say, a couple of years time.

Now, in the midst of witnessing all the unfolding drama of the GFC, it is easy to believe that the GFC is the final major economic crisis of our lifetime. It is easy to imagine that after the global economy survives this near catastrophe, it’s time to move on to the next phase.

But please understand this: the GFC is not the final crisis of our lifetime. There is a bigger looming disaster emanating from the United States that will begin several years from now. To the extent that the US dollar still functions as the global reserve currency, it will affect the rest of the world. What is this looming disaster?

Remember what we wrote in How is the US going to repay its national debt?? As we said in that article,

Meanwhile, the social security system faces an unfunded liability estimated by the Government Accountability Office at $US6.7 trillion and the unfunded liability of Medicare is $US34 trillion.

This liability is “unfunded” because the US government has not budgeted for it- it is paid as the liability is due. In total, depending on the various guesstimates, we can expect the order of several tens of trillions of dollars worth of debt (several hundred percent of US GDP) owed by the US government in the decades to come. The first of these social security liabilities will kick in in 5 years time. This is when the beginning of the tidal wave will begin. Where is the US going to find the money? Are the future tax revenues enough? We’re afraid they have no choice but to crank up the monetary printing press in order not to default.

That is when the real financial crisis in the US begins. Meanwhile, even the “funded” part of the budget deficit is still projected to grow.

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