Financial Crisis 2020 – The New Depression

31 Mar Financial Crisis 2020 – The New Depression

Over the last few weeks, the global economy has been going through an extremely hard time, with all the major stock market indices falling by 30–50%, predominantly on the news and actions related to coronavirus. At the same time, many people lost their jobs due to a huge contraction across multiple industries (including hospitality and travel), while many others had to get used to a work-from-home arrangement due to nation-wide quarantines. In this short essay, I will therefore try to explain:

1. What has been going on with the global economy in 2020 so far,
2. What we should expect to see in the near future, and
3. How we can prepare for the rise of a new economic paradigm which will eventually replace the one the entire world lived in since the early 1980-s.

The Great Depression 1929 – 1932

The global macroeconomic situation as of March 2020 is similar to the beginning of the Great Depression in the US in 1929, except it is exacerbated by the coronavirus quarantine. This is what happened back then:

• October 1929: the stock market bubble bursts without any adverse impact on the economy
• November 1929 – March 1930: the stock market rebounds, gains back ~1/3 of the drop
• March 1930: the so-called deflation shock (explained further) hits the US economy, the Great Depression begins

The underlying factors behind the Great Depression

• The spending of the American households exceeded their income by ~15%/year
  • This means that the real production of the US economy was ~15%/year lower than the expenses of the households
• To compensate for the 15% difference, extra cash was printed
• To avoid a 15%/year inflation, the extra cash was “parked” in (mainly) the stock market as stocks were purchased by banks and other financial institutions

This economic model relied on the credit system

The credit system in the 1920-s was a circular mechanism where the price of financial assets (such as stocks or real estate) served as a collateral. Under normal circumstances, the continuously growing price of the collateral made it possible to keep issuing new credits. However, when the assets’ prices dropped in October 1929, there wasn’t enough equity in them anymore, so:

• insurance premiums on existing credits increased, and
• new credits were no longer issued

As a result, businesses and individuals had no way to fund their spending needs – this is what deflation shock means.

The 2020 Economic Crisis in the US

The 2020 economic crisis is a result of so-called Reaganomics, a set of economic policies that came around in the early 1980-s and were gladly adopted by the whole financial world as an effective way of creating stock market bubbles and reaping large profits in the process.

Due to its (1) credit mechanism and (2) excess cash parking logic mimicking those of the 1920-s, the 2020 financial crisis would be a mirror image of the Great Depression had it not been for the coronavirus because, due to the quarantine, the deflation shock hit the global economy instantly (last week, there were 3.28M new unemployment claims in the US alone, which is ~5 times higher than the previous record set in October 1982).

Between March, 1930 and late 1932, America’s GPD was falling by ~1%/month. We could expect similar results this time, but the current gap between household spending and income is not 15% but ~25%. This suggests that the Greatest Depression will be either 1.5 times worse, or 1.5 longer than the Great Depression (or both); in any case, the real GDP of the US is set to fall by ~$4-5 trillion dollars.

• Try to imagine 1 trillion dollars – it’s an excellent exercise in abstract thinking

The US elite, both political and financial, understands perfectly what is going on. Right now, there are two major scenarios of action: the Powell plan, and the Trump plan. Here is what they are.

The Powell plan

Jerome Powell is the Chairman of the Fed. Consequently, he wants to bail out the banks by giving them the burst $4-5 trillion. This way:

• • the banks can buy out the gap and allow the stock market to temporarily gain back ~1/2 of the drop before it collapses again (and for a very long time)
  • most importantly, the Greatest Depression will begin immediately, and
    • the banks will remain largely unscathed, while
    • the people will carry the entire burden of the economic collapse

The Trump plan

Donald Trump is the President of the United States. Consequently, he wants to bail out the people by giving them as much of the burst $4-5 trillion as possible. This way:

• the stock market is unlikely to gain back more than ~1/3 of the drop
• each US resident who files taxes will get more than $1.2K in aid, and
• most importantly, the Greatest Depression will not begin immediately but mimic the Great Depression and lag by several months before hitting the US in Fall 2020
  • in this scenario, the people and the banks will share the burden of the economic collapse

What can we do to protect ourselves?

We are caught in a very difficult situation because, even in the better scenario, the Greatest Depression will hit us in a matter of months. There are, however, simple steps that we should take to prepare for what is coming. First and foremost, keep in mind that:

• every day we scrounge before the Greatest Depression is precious
• should the Trump scenario prevail and gain us several extra months, do not be fooled by the media singing that “the worst is over” and “everything’s fine” because
  • most of the American media is the exact opposite of “free” and “independent” as it belongs to the very few people whose actions led to this financial collapse, and
  • they will rely on optimism in the stock market to have somebody to sell their toxic assets to before their tank
• instead, keep building a financial and intellectual cushion by following these simple pieces of advice

Pay off your debt

Did you already decide what new plasma TV-set you will spend that Trump money on? Here’s a better idea:

• pay off your debt, at least the highest-interest credit card loans

Regardless of how much money you end up getting “for free”, in Trump’s distribution, as unemployment payments, or whatever else, remember: if you have any debt at all, no money is yours until you’ve paid off all that debt.

Save money

The next (or concurrent) step is saving money. Be as frugal as you can. Be more frugal than that (you still won’t beat me, you spendthrift). Cook your own food. Sell your new car and buy a reliable old one (the Japanese cars, especially Toyotas, are usually the best in this respect). Don’t buy new clothes. Don’t buy anything unless you absolutely must. Every dollar you save will go a long way. Think about it:

• if the stock market drops by 50%, every dollar you have buys 50% more of the US economy than before.

Don’t forget how expensive those dollars become during economic crises. Don’t waste them. They are the best investment right now.

Do a good job at work

If you haven’t already, now is the time. The unemployment rate will skyrocket, and the “benefits holiday” we’ve seen so far will not last long. Be grateful for every day at work; enjoy the thought of being employed; cherish the work-from-home arrangement: there are countless advantages to that even if you save less than 3 hours of commute time per day like some of us do.

Also, if you have good ideas about your work, and there are intelligent people among your higher-ups who are not as selfish as the bankers who got us in this mess, share your ideas with them and try to build a think-tank. We are heading toward a new macroeconomic paradigm (I’m aiming to write another article on this), and people who can come up with solutions become priceless and irreplaceable, especially when their good ideas are applicable to large groups.

Quit bad habits, exercise more

Alcohol, tobacco and other types of narcotics debilitate you, dulling your mind and making your docile and lacking the edge that you will need to succeed under pressure. Don’t go for runs until the pandemic is over: do sit-ups, do push-ups (Can you do 50 in a minute? How much are you ready to bet that I can’t?), use some of your Youtube time to find videos that show how you can take care of your body indoors. Yoga is a good option, so is stretching, so is mopping the floor (it’s the best warm-up I know).

Educate yourself

Refine your taste, remain alert
And never scorn the proper rhyme:
Such is the science to avert
A major waste of priceless time.

The truth is, nobody knows what the new economic paradigm will look like, but you can bet it will require intelligence, resourcefulness, and knowledge. Learn new skills, especially those related to computers; if you ever considered taking a class on programming languages, do; if you didn’t, do. In addition, read classical literature, watch classical movies, brush up on true culture (as opposed to pop culture), and refine your manners: these values are eternal and will be in demand for as long as humanity does exist.

In Conclusion

I heard that the words crisis and opportunity are synonyms in Chinese. I don’t speak the language to know for sure, but the fact that the death of the old always opens up countless chances for new successes should not be doubted even as an exercise in sophism. The trick is to quickly adapt to the altered environment: if you don’t, you’ll be crushed and rendered obsolete; but if you do, you’ll be the ones reaping the fruit of the new order.

This is what I wish you the more, the better people you are.

Danil Rudoy – March 30^th, 2020