1 What is the economic machine running
trade
credit
business cycle
short-term debt cycle of
long-term debt cycle
deleveraging
spending cuts
debt restructuring
redistribution of wealth
to issue currency
harmony deleveraging
economy is how to run the machine 1
economy is like a simple machine that run, but many people do not understand this, or hold different views on the way to run the economy, thus leading to a lot of unnecessary economic losses, I am deeply have the responsibility to share with you, my simple but practical model of economic analysis. Although this model does not meet the conventional traditional economics, but has helped me to predict and avoid a global financial crisis, for 30 years I have been very useful, here we go!
Although the economy may seem complicated, but in fact is a simple and mechanical way to run. Economy from a few simple parts and simple transaction many times repeated composition, these transactions are first driven by human nature, and thus form a triple major economic power.
1, to improve the productivity of
2, short-term debt cycle
3, long-term debt cycle
Let's talk about these three stocks power, and describes how to put them together to arrive at a good model for us to track economic trends, and understand what is currently happening. We first look for the easiest part of the economy - trade.
Trading
economy but is the sum of countless transactions, and the transaction is a very simple matter, transaction happen all the time, every time you buy things that are on a trade. In each transaction, the buyer currency exchange or credit to the seller of goods, services or financial assets. When using credit and currency the same, so the cost of money and credit can be drawn together total expenditure.
Total expenditures are the driving force of the economy, if divided by sales amount spent on stars, it is so simple, this is the deal. Trading is the most basic economic machine parts, all economic cycles and power trading are caused, so understanding the deal will understand the economy as a whole.
A market with the sale of all buyers and sellers of a commodity component, such as wheat market, the automotive market, the stock market and millions of other kinds of market economy that consists of all transactions in all markets. The total expenditure and the total market volume together to get all the information needed to understand the economy, it's that simple.
Individuals, businesses, banks and governments are engaged in the manner described above transaction, credit and monetary exchange of goods, services and financial assets. Government is the largest buyer and seller, and the government has two components, namely tax and spend central government and central bank. The central bank controls the money and the amount of credit in the economy, and therefore different from other buyers and sellers, the central bank to implement this control by influencing interest rates and issue more currency. We will see in the following, which is why the central bank plays an important role in the flow of credit them.
Credit
invite you to pay attention to credit, credit is the most important part of the economy, but perhaps most people do not understand part of the reason why it is most important because it is the economy's largest and most unpredictable part of lenders and borrowers people with buyers and sellers to trade in the market is no different. Lenders usually want their money to give birth to more money, and the borrower is currently want to buy something that can not afford, such as a house, car or investments, such as starting a business, loan lenders and borrowers can meet at the same time need.
Borrower to repay the loan guarantee is called the principal and interest payment of an additional amount called. Will reduce borrowing at high interest rates, because the loans become expensive borrowing will increase when low interest rates, because the loans become cheaper. If the borrower to repay the debt and to ensure that lenders believe this commitment, the credit arises. Any two people can create credit out of thin air by the agreement, the credit seemingly simple but actually complex, because there are other names of credit, credit once produced, immediately becoming debt.
Debt is the lender's assets, the borrower's debt, until the borrower to repay the loan in the future and pay the interest on these assets and liabilities will disappear, the transaction was completed. So why credit is so important? This is because, once borrowers access to credit, they can increase their spending. Do not forget that spending is the driving force of the economy, it is because a person's spending is another person's income. Think about it, every time you spend a dollar to another person to earn a dollar, and you earn a dollar each, there must be someone to spend a dollar, so the more you spend, the more people earn. If someone revenue increase, will increase its credit, lenders are more willing to lend money to him. Good credit borrowers have two conditions, repayment ability and collateral.
High-income debt ratio, the borrower will have the ability to repay, if not repaid, the borrower can also use the assets can be sold as valuable collateral, so that the lender can be assured to lend money to them. So make lending revenue also increased, which can increase spending. Since one person's spending is another's income, which would lead to a further increase in borrowing, and continue the cycle, the self-driven model lead to economic growth, it is precisely because of this it produced a business cycle.
The economic cycle
in a transaction, in order to get something, you have to pay another thing, in the long run how much you get depends on how much you produce. Our knowledge gradually increased over time, the accumulation of knowledge will improve our standard of living, we call this improved productivity. A hard worker and good at innovation, than those who are complacent and lazy, faster to improve productivity and living standards, but are not necessarily reflected in the short term, productivity is most critical in the long term, but the most important credit in the short term. This is because the increase in productivity will not be sharp fluctuations, and therefore is not an important driving force of economic ups and downs, but this debt is power. Because we can borrow to make consumption more than output, but at the time the loan had to consume less than output.
Fluctuations in the amount of debt there are two cycles, where a cycle lasts about 5--8 years, another lasts about 75--100 years. While most people can feel volatility, but volatility due from too close, are immersive day a week, usually do not think this is the period over, we will examine these three stocks the main driving force in this chapter, and observe how they interact, as well as their performance in the everyday economy.
As mentioned above, the economic ups and downs, is not good at innovation or depending on how hard people work, but mainly to see the total amount of credit.
Let's imagine the economy without credit. In such an economy, the increase in spending is the only way to increase revenue. Therefore, the need to improve productivity and workload, improve productivity is the only way of economic growth, due to my spending is another's income, when I or other people improve productivity when the economy will grow. If we observe a variety of transactions to summarize, you will find a similar productivity growth trajectory progressive line, but because we are borrowing so have the cycle. Not because of any legislation, but human nature and mode of operation of credit.
But consumer debt in advance, in order to buy things now can not afford, your expenses must exceed income, so you need to borrow money, in essence, to borrow money in the future of their own. You give yourself a set time in the future, by that time you have to spend less income to repay the debt, so immediately form a cycle. Once you borrow money it usually creates a cycle, for the individual is also true for the entire economy. That is why it is important to understand credit, because credit triggers a series of events that will occur in the future mechanical and predictable. This is where credit is different from the currency.
Completion of the transaction requires the use of money, when the money to buy a bottle of beer at the bar, the transaction is completed immediately. But if you use credit to buy a bottle of beer, such as credit, you promised the equivalent of a bottle of beer in the future to pay for this, and you create a bar with an asset and a liability, you create credit out of thin air. Only after this you pay off a credit in the future, these assets and liabilities will disappear, only to pay off debt, the transaction will be settled.
The so-called real life, most of the money is actually credit, total domestic credit of about $ 50 trillion, while the total amount of money only about $ 3 trillion. Do not forget, there is no credit in the economy, the increase in spending is the only way to increase production, but there is credit in the economy, but also to increase spending by borrowing. Therefore, the economic operation of the credit can increase spending, so that the growth rate of revenue growth exceeded productivity in the short term, but not in the long term. But please do not get me wrong, the credit is not necessarily a bad thing, but will lead to cyclical changes.
If the credit result in excessive consumption of more than ability to pay is bad credit, but credit if efficient allocation of resources and generate income so that you can repay the debt is benign credit.
For example, if you borrow money to buy a big TV, the TV will not let you bring any revenue to repay the debt, but if you borrow money to buy a tractor, use it to harvest more crops, earn more money, you able to repay the debt, they raise living standards.
Credit in the economy running, we can track a variety of transactions, how to observe the credit brought about economic growth.
Let me give you an example, suppose you earn $ 100,000 per year, no debt, you have good credit can borrow $ 10,000, such as using a credit card to borrow. So you can spend $ 110,000 a year, your immediate income of $ 100,000. Because you are spending someone else's income, other people have earned $ 110,000, which earned $ 110,000 if the person does not have any debt, you can borrow $ 11,000, he can spend $ 121,000, even though his annual income only $ 1.1 million. Because of his spending is another's income, we can see that this self-reinforcing process by tracking individual transactions. But do not forget that the formation of debt, will rise cycle will eventually fall.
Short-term debt cycle
Let's talk about the short-term debt cycle, with the increase in economic activity, there has been expansion, which is the first phase of short-term debt cycle. Spending continues to increase, the price began to rise, leading to increased expenditures due to the credit, but the credit can be instantly out of thin air. If the growth rate of spending and revenue exceeds the rate of production of goods sold, the price will rise, we rise in prices is called inflation.
The central bank does not want high inflation, as this will cause many problems. When you see the central bank will raise interest rates rose, as interest rates rise, the ability of people to borrow money will be reduced, while existing debt costs will rise, it means your monthly credit card payments will increase . Because people to reduce their debt, increase the amount of the repayment, the remaining funds for spending is reduced, and therefore spending slowed, and because a person's spending is another's income, interlocking, people's income will decline. Because expenses decreased prices will fall, we call deflation, reduced economic activity, the economy will enter a recession. If too severe recession, and inflation is no longer a problem, the central bank will lower interest rates, economic activity accelerated again.
With lower interest rates, debt service costs down debt and increase spending appears another economic expansion. Visible economy like a machine, in short-term debt cycle, the only limiting factor is spending lenders and borrowers of loans and borrowings will. If the credit is readily available, the economy will expand, if not easy to get credit, the economy will decline. Please note that this cycle is mainly controlled by the central bank, short-term debt cycle typically lasts 5--8 years, repeated for decades, but note that after the trough and the peak of each cycle, economic growth and debt in excess of the previous cycle. Why this is so, it is people contributed, people have a tendency to borrow more money and spend more money, not like debt. This is human nature, so in the long-term increase in the debt faster than income, thereby forming a long-term debt cycle.
Long-term debt cycle
Despite the increase in debt, but lenders will provide more easy credit conditions, which is why? This is because everyone thought form is excellent, people only pay attention to recent developments, what is the most recent case is it? Income has been increasing, rising asset values, stock market thriving, now is the boom period, with borrowed money to buy goods, services and financial assets, a good deal, when people consume excessive borrowing, the foam will be produced. So while debt has increased, but revenue also increased at a similar rate to offset the debt. We called the debt-to-income ratio of the debt burden, as long as income continues to rise, the debt burden can bear.
At the same time, the rapid rise in asset values, a lot of people to borrow money to buy assets because investment in asset prices prompted increased day by day. People feel very rich, so despite the increase in accumulated a lot of debt, income and asset values help borrowers to maintain good credit in the long term.
But this obviously can not last for ever, and did not last for decades slowly increasing the debt burden of the debt service costs higher and higher, to a certain time, debt-servicing costs increase faster than income, forcing people to cut spending . Since one person's spending is another's income, income began to decline. Thus reducing people's credit, resulting in reduction in borrowing, debt service costs continue to increase, making further expenditure reduction. Cycle began to reverse, this time to reach the peak of long-term debt, the debt burden becomes too heavy.
US, Europe and many other parts of the world occurred in 2008, this situation, Japan and the United States in this case occurred in 1989 in 1929 for the same reason, the economy is now entering the period of deleveraging.
Deleveraging
people cut spending in the deleveraging process, falling incomes, credit disappeared, falling asset prices, a run on banks, stock market crash, exacerbated social tensions, the whole process begins to decline and a vicious circle. With the decline in revenue and increase debt service costs, borrowers feel constraints, along with the disappearance of credit, credit dried up, the borrower can no longer borrow enough money to repay the debt. Borrowers trying to fill that hole, had to sell assets, while spending decline, the market is flooded with sell upsurge sale of assets, then the stock market crash, the real estate market slump, troubled banks, as asset prices fall, borrowers can provided the value of collateral drops, which further reduces the borrower's credit, people feel poor, credit quickly disappeared.
Reduce spending, reduce income and wealth reduction, reduction of credit, borrowing and so reduced, it is a vicious cycle, and it looks like a recession, but the difference is, unable to restore the situation by lowering interest rates. In the recession may be stimulated by lower interest rates to borrow, but in the process of deleveraging, due to the already low interest rates close to zero, thereby stimulating the loss of function, thereby lowering interest rates does not work.
US domestic interest rates during the deleveraging of the 1930s down to zero, as well as in 2008. The difference between a recession and deleveraging that in the deleveraging process, the borrower's debt burden becomes too heavy and can not be mitigated by lower interest rates. Lenders realize that debt is too large and can not repay the full amount, the solvency of the borrower loses its collateral lose value, they think it hurt debt, do not want to borrow more debt, lenders stop lending, borrowers stopped lending. Economy as a whole and as individuals have lost their credibility. So how we should cope with deleveraging? The problem is that the debt burden is too heavy, must be mitigated, for which four approaches can be used.
1, individuals, businesses and government spending cuts
2, to reduce debt through debt default and restructuring
3, wealth redistribution of wealth from the rich to the poor transferred to
4, the last central bank to issue more currency
The four options are used for each deleveraging process in the history of now (the United States in the 1930s, Britain in the 1950s, Japan in the 1990s, 2010s Spain and Italy).
Spending cuts
is usually the first measure is to cut spending, we have just seen individual corporate banks and governments are tightening their belts in order to cut spending to reduce debt. We often call this crunch, when the borrower no longer borrow new debt, and begin to reduce the debt of the old, you would think the debt burden will be reduced, but the opposite is true, reduced expenses, and a person's spending is another a person's income, which led to falling incomes. Decline in revenue faster than the speed of debt, so debt burden even heavier in fact, we have seen this practice caused deflation spending cuts, painful, companies have cut costs, which means job losses, rising unemployment this leads to the next step, namely the need to reduce debt.
Debt restructuring,
many borrowers could not repay the loan, and the borrower is the lender of debt assets, if the borrower does not repay bank loans, people will worry about the banks can not return their loans, deposits have been withdrawn from the bank. Banks received a run, while personal and corporate bank debt default, this severe economic contraction is depression. A key feature of depression is that people find that they had thought that their own wealth in large part does not actually exist.
We once again to the bar, for example, when you buy a bottle of beer with open account terms, is the promise of future repayment bar credit. Your commitment to become an asset of the bar, but if you do not honor their commitments, do not repay the bar credit, actually defaulting on its debt, then the bar of this asset in fact worthless, it is actually gone.
Many lenders do not want their assets disappear, agreed to debt restructuring, the repayment of debt restructuring means that the lender to get the reduction or extension of the repayment period, the interest rate or below the level originally agreed, in any case the contract is broken, the result is to reduce debt, how many lenders want to recover some of the loans, which is stronger than lose everything.
Let debt restructuring debt disappear, but because it leads to income and asset values disappear at a faster rate, continue to increasingly heavy debt burden. Reduce debt and reduce spending as painful and lead to deflation. All of these are produced on the impact of the central government, because lower incomes and employment mean that the government reduce the tax reduction, at the same time due to the rise in unemployment, the central government needs to increase spending, many of the unemployed lack of savings, the government needs financial support. In addition the government stimulus plan to develop and increase spending to compensate for reduced economic activity.
Deleveraging process, the government's budget deficit soaring, because government spending exceeds tax, what you hear in the news budget deficit this is the case. The government must raise taxes or borrow to cover the deficit, but the decline in revenue and a lot of people unemployed, it should finance it to whom? - the rich.
Redistribution of wealth
because the government needs more money, but also great wealth concentrated in the hands of a few, the government naturally increase taxes on the rich to help the redistribution of wealth in the economy, the wealth transferred to the poor from the rich. Under hardship among the poor began to hate the rich, to withstand the weak economy, the rich depreciation of assets and tax increases pressure began to hate the poor. If the depression continues rising tensions erupt social unrest, not only within countries, but also between this country. This is especially true between debtors and creditors. This situation can lead to political change, sometimes extreme changes. This situation led to the 1930 Hitler came to power, war broke out in Europe and the United States the Great Depression, calls for action to end the Depression under increasing pressure.
Issuing currency
Do not forget that most people's minds the fact that credit money, so once the credit disappears, people will spend enough money, people urgently need the money, but you must remember who can issue currency, the central bank can. The central bank has cut interest rates to near zero, and now have to issue more currency, issue currency and cut spending, reduce debt and different redistribution of wealth, will cause inflation and stimulate the economy. The central bank to issue more money out of thin air inevitable, and use these money to buy financial assets and government bonds. This happens in the United States during the Great Depression, and erupted again in 2008, when the US central bank, the Federal Reserve increased issuance of $ 200 trillion, other central banks around the world to do so, but also a lot of additional money.
The central bank through the purchase of financial assets with these currencies, helped push up asset prices in order to improve people's credit, but this just helps those with financial assets. You see, the central bank can print money, but can only buy financial assets, on the other hand, the central government can buy goods and services, you can give money to the people, but can not print money, so in order to stimulate the economy, central banks and governments must cooperate.
Central Bank through the purchase of government bonds, in fact, is to lend money to the government so that it can run a deficit budget and increase spending to purchase goods and services through the stimulus package and unemployment benefits. This increase people's income, also increased the government's debt, but this approach will reduce the overall debt burden on the economy.
This is a big risk of a moment, policymakers need to consider the balance of four approaches to reduce the debt burden must be balanced approach and inflation deflation in order to maintain a stable way, if taken into proper balance can bring harmony deleveraging, so that deleveraging may be painful may also be in harmony, how to achieve harmony of deleveraging?
Harmony deleveraging
despite deleveraging is tough, but the best possible way to deal with a difficult situation, but it is a good thing, which borrowed heavily excessive imbalances much better than leveraged stage. In harmony deleveraging process, debt to income ratio declined, the economy is actually a positive growth, while inflation is not a problem, this is done by an appropriate balance achieved. In order to strike the right balance, it requires a combination of spending cuts, debt reduction, wealth transfer and distribution of monetary measures to maintain economic and social stability.
Someone asked whether the issue of money will fuel inflation, if additional money to offset the decline in credit will not lead to inflation, it is important not to forget spending, every dollar of spending, whether it is to pay money or credit, the impact on prices all the same. The central bank can to make up for the disappearance of credit by increasing the money supply, the central bank in order to reverse the situation requires not only drive revenue growth and the need to make interest income growth exceeds the accumulated debt, what does this mean? The main means of income must grow faster than debt.
For example, we assume that there are countries experiencing deleveraging, debt to income ratio is 100%, which means that the amount of debt equivalent to the entire annual income countries. Assume that these debt interest rate is 2%, if the rate of increase in debt at interest rates of 2%, while the growth rate of only about 1% of income, then reduce the debt burden will never need to issue more currency, the revenue growth rate of more than .
However, the currency issue is too easy and popular than other alternatives, so this approach may be prone to abuse, the key is to avoid like the 1920 deleveraging Germany, issuing too much money leading to hyperinflation.
If the decision-makers to strike the right balance, the deleveraging process would not be so intense, slow economic growth, but the debt burden will decline, this is the harmony of deleveraging, when incomes rise, the borrower's creditworthiness improved, loan Once a person a lot more credit, lenders will begin to recover loans, the debt burden has finally started to decline, people can borrow money can increase consumption, the economy finally started to grow again, long-term debt reflation cycle to enter the stage. Deleveraging process if not handled properly can be very scary, but if done properly, will eventually solve the problem. In order to decrease the debt burden and economic activity returns to normal, it takes about 10 years or more, so it lost 10 years this argument.
To sum up, the economic model more complex than this, of course, but the cycle of short-term debt, long-term debt cycle and productivity growth trajectory combined analysis, we will get a good pattern, we can see the past and the current situation in, and the possible future direction of development.
Finally, I hope that we learn three rules of thumb:
1, do not let the growth rate of debt than income. Because the debt burden will eventually overwhelm you.
2, do not let the income growth rate than productivity. As this will ultimately make you lose competitiveness.
3, make every effort to increase productivity. Because productivity plays the most crucial role in the long term.
This is what I give you also give simple advice policy makers, we might be surprised to find that most people, including most of the decision-makers do not have to be this much attention, this model useful to me, hope it It will be useful to you, thank you.
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