The Aftershock Investor: A Crash Course in Staying Afloat in a Sinking Economy (5 page)

In addition to massive money printing (the dollar bubble), the government has pumped up another enormous airbag to temporarily cushion the falling bubble economy. Weighing in at more than $8.5 trillion when our 2006 book was published and now (2012) nearing $16 trillion, the whopping U.S. government debt bubble, as shown in
Figure 1.7
, is currently the biggest, baddest bubble of all. Much of this debt has been funded by foreign investors, primarily from Asia and Europe. But as our multibubble economy continues to fall and the dollar starts to sink, who in the world will be willing—or even able—to lend us more?

Figure 1.7
Growth of the U.S. Government’s Debt

The U.S. government’s debt is massive and growing rapidly. With no plan and little ability to pay it off, the debt is quickly becoming the world’s largest toxic asset.

Source
: Federal Reserve.

On the way up, the six conjoined bubbles described above helped co-create America’s booming multibubble economy. In a seemingly virtuous upward spiral, the inflating bubbles helped the United States maintain its status as the biggest economy the world has ever known, even in the past few decades, when declines in real productivity growth could have slowed our expanding economic growth. Instead, these bubbles helped us ignore slowing productivity growth, boost our prosperity, disregard some fundamental problems, and keep the party going.

Not only did the U.S. economy continue to grow and remain strong, but the rest of the world benefited as well. Money we paid for rapidly increasing imports boosted the economies of developing countries like China and India. First World economies benefited from America’s Bubble Economy, as well. Because of our rising bubbles, developed economies, such as Japan and Europe, were able to sell us lots of their cars and other high-end exports, which helped their home economies prosper. The growing world economy created a rising demand for energy, pushing up oil prices, which made some Russian billionaires, among others, very happy. Growing demand for minerals, like iron, oil, and copper, pumped money into every resource-producing country. For example, China’s and India’s expanding appetite for steel boosted iron ore exports from Australia, lifting their economy. All combined, America’s rising bubble economy helped boom the world’s rising bubble economy.

Now, as our intermingled global party bubbles are beginning to deflate and fall, the virtuous upward spiral has become a vicious downward spiral. Linked together and pushing hard against each other, each time a bubble begins to sag and pop, it puts tremendous downward pressure on the rest.

As we said earlier, the first four of the six bubbles—real estate stock, private debt, and discretionary spending—have begun to pop, creating the beginning of what we call the Bubblequake. In response, the federal government and the Federal Reserve have been pumping up the remaining two bubbles—the dollar and government debt bubbles—with massive money printing and massive deficit spending since early 2009 in a dramatic attempt to stop the falling bubbles and to boost the overall economy. This massive stimulus spending and especially the massive money printing have been helping
in the short term
to temporarily boost the stock market and keep the overall bubble economy from sagging further.

But this massive stimulus cannot continue forever, and in the longer term, the bubbles will continue to fall. Not only will the massive stimulus eventually have to end, it will actually make our bubbles crash even harder when they finally do pop. Continued use of massive stimulus is like using a powerful short-term drug that will later become a toxic poison. The stimulus itself will later make the future crash all the worse.

It is important to understand that the Bubblequake problems we are now facing are due to much more than merely a popped real estate bubble. If all we had was a burst real estate bubble, it would not have created so much financial pain here and around the globe. In addition to the real estate bubble, the private debt bubble and the stock market bubble also began to fall. These Bubblequake problems are not going to be permanently resolved anytime soon, not even with the temporary boost from massive stimulus spending and massive money printing. Rather than a real economic recovery, the combination of sagging bubbles and the future poisonous consequences of the massive stimulus will put increasing downward pressure on our entire bubble-based economy.

Once our last two bubbles—the dollar and government debt bubbles—finally burst, we will enter the next phase, what we have dubbed the Aftershock, in which all our asset bubbles will burst and the U.S. economy will fall dramatically.

When America’s bubble economy fully pops, so will the world’s bubble economy. Why? Because all these bubbles are
linked together
. On their way up, each supported and fueled the others; and on the way down, each falling bubble will put increasingly downward pressure on the rest.

For example, the real estate boom in the United States created a consumer spending orgy here that helped fuel China’s rapid economic growth and boomed China’s own real estate bubble. To keep up with growing demand for their exports, China in turn has been buying more natural resources from other regions, such as South America. But when our real estate bubble began to pop and U.S. consumer spending dropped a bit, China’s growth also began to cool down over the past few years, although it is still growing, just at a slower rate. In the coming Aftershock, when U.S. consumers will buy much less than they do today, China’s bubble economy will take a deep hit, which will then spill over to South America, Australia, and other places that currently supply China’s commodities demand.

Meanwhile, back in the United States, stocks, bonds, real estate, consumer spending, and government spending will be down, inflation and interest rates will be up, and the bubble economy will be over. In the coming Aftershock, the global multibubble crash will kick off a deep, long-term downturn here and around the globe.

Please understand that we are not intrinsically pessimistic or doom-and-gloomy by nature. We are not driven by any particular political agenda, left, right, or sideways. We are not fanatical gold bugs (although we think gold will do quite well). And we are not paranoid survivalists who think you should run out and build a fallout shelter filled with two years’ worth of food. We are just calling it as we see it, based on facts and rational analysis, and we would like to help you see it, too, while there’s still time to protect your assets and prepare.

Question
: We have four falling bubbles but they are not yet fully popped. What is keeping these bubbles partially inflated?

Answer
: The pumping up of the final two bubbles!

The easiest way to understand the economy right now is to look at it as a set of deflating bubbles (stock, real estate, private credit, and consumer spending) whose fall is being cushioned by the rapid inflation of the two final airbag bubbles: the dollar bubble and the government debt bubble. By rapidly pumping up these two bubbles, the government is temporarily postponing the fall of America’s multibubble economy. Because they are cushioning and supporting the other bursting bubbles, we like to think of these last two yet-to-pop bubbles as America’s airbags—they are preventing a dangerous crash for a while, but eventually they, too, will fall. When these final airbags overinflate and burst, the rest of our bubble economy will burst, bringing on the global Aftershock. But, these airbags aren’t going to pop immediately and that’s why we don’t have the Aftershock right now.

Massive government borrowing (the government debt bubble) is boosting the economy. In fact, most of the growth in the economy since the financial crisis has been directly related to the massive 500 percent increase in federal government borrowing since 2007. And let’s not forget that the U.S. deficit wasn’t exactly tiny in 2007, when it was already weighing in at $170 billion. Now our deficit is nearing
$1.2 trillion
/year. That is a big fat government debt bubble becoming a truly colossal government debt bubble.

Naturally, with the country awash in so much deficit spending, the not-yet-popped government debt bubble is acting like a still-inflated, protective airbag, keeping the other bubbles from fully falling. Surely, had we not borrowed and spent all that extra money, the U.S. economy would be in far worse shape today. The problem is, airbags eventually pop, too. By pumping up this protective airbag so gigantically, it will only make the future crash all the bigger.

Massive money printing (the dollar bubble) by the Federal Reserve, mostly in the form of quantitative easing or QE, has also been acting as an airbag, keeping the U.S. and world economies protected from the popping bubbles. Massive money printing has worked like Viagra to reinvigorate the stock market bubble whenever it shows signs of deflating. This temporary lift to the stock market also indirectly boosts the rest of the consumer-based economy. Stock investors spend more when their portfolios are up, and studies show that even people who own no stocks spend more when the stock market is doing well. So massive money printing has been doing its temporary airbag job, first with QE1 and QE2 (2009–2011), and next with more money printing ahead.

The trouble with pumping up America’s airbags (the dollar bubble and government debt bubble) is that it is just a short-term fix. And worse than being just a short-term fix, it is a short-term fix that comes at an incredibly high long-term price. We’re not just kicking the can down the road—we’re just piling up sticks of dynamite in the can that will cause an even more massive explosion when we can kick the can down the road no further.

When the airbags fail, all the bubbles will pop. What will cause the airbags to fail?
Rising future inflation
. In a terribly ironic twist, the very things we are doing to support the economy (by printing money and borrowing money) will lead to what eventually pops these airbags and causes the rest of the bubbles to fall even harder. (For more details, please see
Aftershock
, Second Edition.)

Right now, we can keep on borrowing (pumping up airbag #1, the government debt bubble) as long as we can keep on printing money (pumping up airbag #2, the dollar bubble). Massive money printing keeps interest rates low so we can keep borrowing. We will keep printing money to fund our borrowing for as long as we can print money
without creating inflation
. As long as inflation remains low, as it is today, America’s airbags can continue to keep America’s Bubble Economy from fully popping. Rising future inflation (and the rising interest rates it will cause) can be avoided for a while longer, but rising inflation cannot be avoided forever. We simply cannot increase the money supply threefold, with even more money printing to come, and not eventually get some very significant inflation.

Rising inflation will force interest rates higher, whether the Fed likes it or not. The Fed can’t control interest rates once we have significant inflation. Printing money can solve many of our ills short term, but one ill it can never solve is inflation. That inflation will push up interest rates, and rising interest rates will devastate the stock, bond, and real estate markets, and all the bubbles will fall.

Inflation is key. When rising inflation and rising interest rates force the airbags to fail (i.e., when we can do no more money printing and borrowing), all the bubbles will fall. Until then, the airbags will hold off the coming Aftershock right up until they no longer work.