What's the next bubble?
Big money needs another bubble in order to multiply fortunes on the way up.
We've had the dotcom bubble and the real estate bubble.
What's next? Health care at 16% of GDP and growing might be a possibility?
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Big money needs another bubble in order to multiply fortunes on the way up.
We've had the dotcom bubble and the real estate bubble.
What's next? Health care at 16% of GDP and growing might be a possibility?
I don't want to go off topic, but you have invited a discussion of the definition of a bubble, and I'm going to run with it.
Firstly, the so-called "dotcom bubble" is more properly named the "TMT bubble" -- that is, technology-media-telecommunications -- or perhaps, the "Y2K bubble." Its expression in the form of marginal share prices was a second order event.
Secondly, share prices -- even at very elevated and unjustified levels -- cannot cause a bubble unless they support extreme levels of debt. But margins which allow only 2-1 leverage do not generate those levels of debt.
There was a bubble in 1997-2000, a lending bubble that supported M&A activity and over-investment in TMT. As usual, it was the big investment banks which were the culprits. The resulting "crash" was a capex investment recession. Greenspan lowered rates to 1% to save the banks from their bad lending decisions (9/11 was just his excuse).
I agree with Merrill that the banks need bubbles if they are to make outlandish profits. But these bubbles must be credit bubbles. Obama may be trying to jump start a bubble in health care ($19 billion for medical e-records), but I don't see that the health industry has an adequate demand for the type of assets that banks are able to generate bubbles out of.
Bubbles are everywhere and always the result of an excessive extension/creation of credit.
March 28, 2009 12:45 AM | Reply | Permalink
Ellen,
and so is it perhaps the credit card industry that provides the next bubble?
I get real concerned that we have such a keen focus on "Last week's problem" (Housing & Derivatives & other gambling) that we fail to see the runaway train that is about to run us over. All these Congressional inquiries. All this expressed angst over Exec Compensation.
Yet it seems the credit card industry - with its 21% and higher interest rates and predatory practices in granting unsecured debt - will prove to be unsustainable as more and more households suffer unemployment and bankruptcy. And the collapse of that industry will bear impact on a majority of middle income households
If the exec pay scandal was newsworthy, wait until people begin understanding what a bone was tossed to these credit card/legalized extortion companies like MBNA by Biden & Gramm and other "purchased" politicians as they trashed consumer bankruptcy protections.
In the famous words of Gen. Custer: "This is about to get ugly!"
March 28, 2009 9:56 AM | Reply | Permalink
Here's Meredith Whitney on the where we're headed on credit cards, just in case you missed it.
http://online.wsj.com/article/SB123664459331878113.html
March 28, 2009 10:39 AM | Reply | Permalink
Pretty weak article. She's up in arms about credit card limits likely in her view to be reduced from $5T to about $3.2T, while balances she says are only at about $0.8T.
She doesn't make a case for significant distribution edge effects. That is, she doesn't show how people who might desperately need marginal credit will lose it.
I think she's now demonstrating the Peter Principle after having got Citi nailed a couple of years ago.
March 28, 2009 7:07 PM | Reply | Permalink
Agreed.
A credit bubble is manifested at the point where 1) borrowers' incomes are inadequate to service their debts and 2) lenders are left to rely upon rising asset prices to maintain the mark-to-market value of that debt.
ABSs backed by credit card balances ("securitization") have exhausted #2, already (no one will buy them at face value); and #1 is fast approaching.
March 28, 2009 10:46 AM | Reply | Permalink
And don't forget the Commercial Real Estate Bubble all those credit cards were supporting.
The dominoes are lined up.
March 28, 2009 2:41 PM | Reply | Permalink
Indeed, the Commercial Real Estate market is already a bubble, it just hasn't burst yet. Many contributing causes:
1. The Internet has decreased the need for retail "brick and mortar" locations. Even the huge and established retail companies that own a lot of brick and mortar sites are now doing a lot of business via the Internet.
2. A great deal of overbuilding of malls, motel chains, etc. This was caused by Investement houses that made it possible for development firms to gather the funds for more and more retail malls. They stole leases from the older malls/strip malls that now have many vacancies.
3. How many retail concerns will be going out of business and leaving empty stores?
4. Proliferation of franchises. How many places can we now buy a hoagie? Subway had a good idea, but now they have about 14 competitors. Can't see how they can all make it. Then there is Chicken and Popcorn Everyway.
All the above were financed by long term loans. When they default, the empty stores will cause the mall owners to default and lease revenues to decline which will cause more defaults.
March 28, 2009 10:48 PM | Reply | Permalink
Sleepin - Like your opinion and your word choice. Maybe the credit card companies will find themselves in the fix they have put so many. Don't they get their funds by borrowing? If so, when enough of their card holders default, would that not pull them down? Hope so. The Credit Card companies have no collateral. They will be last in line when the customer goes under. They have made their fortunes by considering a percentage of defaults as a "cost of doing business." Their models though, could fail if/when the default percentages double, tripple or worse. Right?
March 28, 2009 9:54 PM | Reply | Permalink
I would also add the availability of cheap and easy credit as a component of conditions that cause a bubble to appear (so the Fed interest rate policy).
"Irrational exuberance", in my opinion, takes on a whole new significance today than it did when first spoken.
Where I disagree is the premise that banks "need" bubbles. If you think define a bubble as a vehicle for rapid and easy profit, then everybody needs a bubble, including consumers (aka us).
I think a bubble is the result of serveral factors converging to create a bubble-enducing environment: Fed rates, credit, regulation, overall economic trend, etc.
March 28, 2009 10:03 AM | Reply | Permalink
Here's where, I think, I differ:
Excepting purchases on margin (50%) all purchases of shares of stock, no matter how irrationally exuberant the prices paid for them, result in a transfer of M1-type currency from the buyer to the seller. In other words in monetary terms it's a wash.
But bank loans generate money. A true story as example:
Lucent borrows money from bank; Lucent loans money to Turkish ISM startup; ISM purchases Lucent routers based on seller-financing; Lucent pays out bonuses and dividends to people who then, deposit receipts in bank. Bank loans money to Global Crossing based on the "new" deposits. And credit inflation rolls on.
A few years later the routers are in a Turkish warehouse; the Turkish ISM is bankrupt; Lucent is in trouble; the bank is downgrading the value of its loans. Debt deflation has replaced credit expansion.
March 28, 2009 10:30 AM | Reply | Permalink
C'mon Ellen, get real. First it was "create money", now "generate money"??
Bank loans facilitate commerce and attempts at growth. Some growth is aborted or fails, regardless of any apparently recursive attempts to milk the system. The economic activity generated by the attempt is not "money", whether the business venture succeeds or fails.
And btw, debt inflation is not credit inflation. Both are problematic in their own ways.
March 28, 2009 6:03 PM | Reply | Permalink
Actually, banks -- that is, financial intermediaries -- transfer savings and newly created money from those (including the banks themselves) with low time preference to those with high time preference, some of whom may, in their roles as investors, immediately turn themselves back into low time preference individuals.
What we want is a balance between the two types of preferences sufficient to grow the economy at a sustainable rate.
LOW PREFERENCE + BANKS = HIGH PREFERENCE
The current crisis was brought on due to the banks (actually, their managers) adopting a high time preference which resulted in an insufficiency of low time preference individuals.
LOW PREFERNCE ≠ HIGH PREFERNCE + BANKS
March 28, 2009 9:58 PM | Reply | Permalink
Ellen, we just love it when you talk dirty.
March 28, 2009 10:18 PM | Reply | Permalink
lol! And Co-signed! ;0)
March 29, 2009 8:08 AM | Reply | Permalink
I don't know what you mean by "time preference" nor how high/low applies. But banks are in the business of time value arbitrage, dealing with short term and long term investors and offering rate structures so as to profit stably from the value spread of short and long term investments (creditors or debtors).
Banks get into trouble if their short term investors want more money back sooner than the bank can deliver by closing out long term positions (loans). That's what happens in a run on the bank. They also get into trouble if they cannot attract enough deposits to generate enough business to pay their fixed and variable costs.
Are you talking about something else?
March 29, 2009 4:25 AM | Reply | Permalink
I ran across this year 2000 BusinessWeek review of Mike Dash's book Tulipomania: The Story of the World's Most Coveted Flower the other day:
http://www.businessweek.com/2000/00_17/b3678084.htm
and found much of it rather thought-provoking as to our current situation. Like the last paragraph:
Tulip mania differed in one crucial aspect from the dot-com craze that grips our attention today: Even at its height, the Amsterdam Stock Exchange, well-established in 1630, wouldn't touch tulips. ''The speculation in tulip bulbs always existed at the margins of Dutch economic life,'' Dash writes. After the market crashed, a compromise was brokered that let most traders settle their debts for a fraction of their liability. The overall fallout on the Dutch economy was negligible. Will we say the same when Wall Street's current obsession finally runs its course?
March 28, 2009 10:47 AM | Reply | Permalink
The interesting part of that for me is the idea that bubbles are inflated by fake and imaginary money. That way, trader debt was easy to forgive. How much of that is inherent in our current situation? Who was really being fleeced?
The intrinsic value of a tulip bulb is quite different in kind and quantity from the intrinsic value of housing but the parallels can be instructive.
March 28, 2009 7:15 PM | Reply | Permalink
The next bubble will be US Treasuries. Just wait for double digit interest rates again once the government gets into high gear with its borrowing.
March 28, 2009 11:03 AM | Reply | Permalink
Hey MCB, you may be right. Sure heard that a lot from those with your point of view - ie, trillions of new dollars created out of thin air, so the dollar will be inflated, government borrowing costs soar, and inflation kicks in. Maybe. Another consideration though, is that the money being created out of thin air is only replacing money that disappeared into thin air. In other words, when a credit card holder defaults, or a house is sold by a bank for less than the loan, that money disappears. Right? How many trillions of dollars are now disappearing or will soon dissappear? Therefore, the new dollars only replace, they do not inflate the money side.
March 28, 2009 10:25 PM | Reply | Permalink
"In other words, when a credit card holder defaults, or a house is sold by a bank for less than the loan, that money disappears. Right?"
Wrong. Debt disappears, not money. Borrowers took trillions out of the pockets of investors.
Pick-pocket may be overstating it, but it's apt. The money doesn't disappear, it merely disappears from your pocket.
March 29, 2009 4:30 AM | Reply | Permalink
eds and MCB, In my opinion, you are both wrong. Money does disappear. When one borrows money from a bank, that bank does not use existing deposits to fund the loan. Instead it borrows from the Fed which creates that money out of thin air. The borrower uses that loan to buy, for instance, a car. The car dealer puts the money in his account and that money then circulates. It is part of M1, and never disappears, unless one phsyically loses the cash greenbacks.
However, the loan is also an asset on the bank's books as well as a liability to the Fed. When the loan goes bad, it reduces the bank's equity. That equity disappears.
At some point, the bank must pay the Fed back for the loan. When it pays the Fed back, that money then disappears.
The effect of how our money system works is that our money is indeed based upon debt. It is created when banks borrow from the Fed. Recently however, the Fed has been creating brand new money by simply buying existing Government Securities.
March 29, 2009 10:49 AM | Reply | Permalink
"At some point, the bank must pay the Fed back for the loan. When it pays the Fed back, that money then disappears. "
No. You're buying into and spreading a false myth about fractional reserve banking.
The Fed does "create money". And banks do get overnight loans. But when you go to get your car loan, the bank doesn't go to the Fed, it lends you money based on its current book.
If you, as a depositor, go to take money out of the bank, THEN the bank might have to go to the Fed to bulk up its reserves until it can liquidate some other positions to bring its reserves up to snuff.
Bank loans create debt, not money. Equating money with debt or with credit is just a rational mistake even if it works to put one over on some folks.
March 29, 2009 3:12 PM | Reply | Permalink
Let me add:
The question is whether investor money disappeared. I'm saying it went to borrowers who refused to pay it back. That's not "disappeared from circulation", it's "disappeared from investor pockets and got laundered by borrowers who have put it into circulation or hidden it under their mattresses".
If Fed reserve money appears and disappears, that's something else entirely. It might help to be clear about micro vs. macro. We often use symbolic micro examples to talk about macro issues, and to some extent the opposite also happens.
March 29, 2009 3:16 PM | Reply | Permalink
you're confusing debt with money. they are different
March 29, 2009 7:22 AM | Reply | Permalink
Swedish tulips.
It doesn't matter. as long as we have this system of capital markets, there will be bubbles.
The problem is all the gambling with phantom money on the bubbles.
March 28, 2009 1:57 PM | Reply | Permalink
A bubble needs to be based on something big enough to move the economy, attractive enough to gather the crowd, and complicated enough to allow for manipulation.
The dotcom bubble was based on digital integrated circuits, magnetic disk storage and fiberoptic communications each following their own Moore's Law towards greater cost effectiveness, combined with the conceptual attractions of a host of proposed data networking services.
The housing bubble was based on the Fed's easy money policy, excess foreign savings flowing into the country, and the deregulation of financial markets combined with the complexity of the deregulated mortgage industry, with its layers of participants and novel mortgage instruments.
A new economic bubble in the US seems most likely to arise from the vast government spending being put into place.
Health care is one possibility because it offers the best opportuntity to apply technology - biopharmaceuticals, stem cell innovations, and new medical instruments as well as the application of information technology. It is also complex, and will be more so by the time legislation emerges from Washington. Simplification is unlikely, given the legislative process. Cost cutting is unlikely, given that health care supports lots of employment and demand will increase as boomers age. On the other hand, it is already so big a sector of the economy that significant expansion may not be possible.
Altenative energy may be another possibility. We've already had a minor boomlet in ethanol, with plants newly built now idled by the low crude oil prices. Alternative energy has the conceptual attractiveness needed for a boom, it can consume large sums of credit and investment, and it is complex enough to allow for manipulation, especially with respect to subsidies and the regulatory processes.
Globally, there may be opportunities to generate a boom in either emerging markets or in commodities. "Big money" isn't necessarily restricted to the United States.
March 28, 2009 2:07 PM | Reply | Permalink
I just don't understand how the health industry could create a bubble. Doesn't demand have to be in place to create a bubble? The housing demand was there - about everybody wants a nice and nicer house. It is still there because there are tens of millions living in mobile homes and apartments who would like to own a house. The "Dot Com" demand was fueled by greed. Tulip, same, same - greed. How can demand for health care increase more than marginally? Health care cost can rise but that isn't a bubble, right?
March 28, 2009 10:33 PM | Reply | Permalink
Doctors can be greedy.
Patients can be greedy, and demand more money with which to pay bigger bills for more services.
If anyone thinks they can corner a market, you can get a speculative bubble. It happened with silver and sugar around 1980 give or take about 5 years. It might have happened to oil over the past two years.
March 29, 2009 4:34 AM | Reply | Permalink
Health care demand can rise pretty fast.
Consider if someone came up with a drug the prevented Alzheimer's disease. Suppose that the only hitch is that you have to take one pill a day from age 40 on, and that the pills cost $100 each.
Clearly, most people couldn't afford the new drugs at $36,500 per year from 40 on. However, it is easy to envision a hue and cry that fairness demands that the government pick up the tab.
While this hypothetical scenario is unlikely to happen, it illustrates that generally people have been willing to consume more and more health care goods and services, particularly if someone else if paying for them. Fear of disease and apprehension of dying are great drivers of demand.
March 29, 2009 12:31 PM | Reply | Permalink
We, this general culture, are trained to hold on to life at most any cost.
There is room for new "economic models" (cultural models/memes) to appear and grow here, incl. but not limited to assisted suicide.
March 29, 2009 3:05 PM | Reply | Permalink
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