Friday, May 27, 2011

Titanic Financial Misgivings

In my day job, I am an IT industry analyst. I am a Research Director for a large Research and Analysis firm. Back in November, I started doing research for a report that was to be entitled "Lessons in Data Management from Leaks, Spills, and Meltdowns". That report was going to detail the computer system problems that may have contributed to the 2008 financial market meltdown, as well as explore the data management implications of the BP oil spill and the WikiLeaks phenomenon. I started my research by looking into the 2008 financial meltdown, and stopped there. This topic turned out to be too big to fit within a single report.

I had merely to scratch the surface of the 2008 financial crisis to realize that the root causes have in no way been addressed, and have merely been papered over. Not one of the perpetrators of the 2008 financial fiasco, which very nearly caused our entire financial system to meltdown,  have gone to jail. No imprudent or corrupt leaders in the financial world were fired -- indeed, I was shocked to realize that several have been promoted into leadership roles in the federal government. Most of the companies that should have been taken down by market forces were instead propped up with unimaginably huge stacks of Dollars that the federal government created out of thin air. It did not take long to realize that this financial crisis can and will recur, and the encore threatens to take the US Dollar down with it, because the federal government has all but guaranteed to backfill any holes that the too-big-to-fail banks might dig for themselves and fall into in the future.

Having realized all of this, I had to acknowledge that we actually face several potential economic outcomes. Perhaps I am wrong about all of this (because I am just an IT guy, after all), and maybe we are on the path back to prosperity. Or maybe we will merely have a double-dip recession. Or maybe Japan-like deflation is our destiny. Or perhaps the US Dollar will be brought down by the collective weight of the massive misdeeds of the financial power-elite. And maybe that will bring down our entire modern civilization. I could not be sure, so I set about to discover which outcome is the most likely.

Each of the potential outcomes has its proponents: the bulls, the bears, the deflationists, the hyperinflationists, the anti-globalists, and the survivalists. On the web I found that these various proponents do lots of analysis work and write lots of articles about their preferred outcome. In my day job, I read a lot of analyses, because I lead a team of IT industry analysts in my role as Research Director. After doing this job for several years, I know good analysis when I see it. So, I decided to see which group of proponents are writing the best analyses, and reasoned that the best analysis will point me to the most likely economic outcome.

The best analysis is performed when the analyst considers all of the relevant facts in an unbiased, open-minded manner. The analyst must be a detective and simply follow the evidence, wherever it happens to lead. Following the facts and the evidence will indeed lead the analyst to the proper conclusion. Unfortunately, conclusions that are reached in this manner often are unpleasant, and usually violate some dogma or orthodoxy or misconception that the people in power hold dear. That is certainly the case this time.

I found the bulls' analyses simply assume that the existing financial system is a solid, never-changing foundation -- a rock on which all manner of financial edifices can be eternally built. The same with the bears' analyses. They whistle past the graveyard, kick the can down the road, and extend and pretend, because in their minds our economic system "has always worked in the past" (even though it hasn't always). Guys, do you realize that the government, not the free market, is now picking winners and losers? Capital is being allocated and distributed not to the best run companies, but to the best connected companies. There are no markets any more, only interventions. Also, can you not see that "too big to fail" also means "too big to jail"? The big banks now find themselves above the law, they possess unrivaled power and wealth, and they can act with complete impunity. Don't you think it is just a little strange that the big banks have been showing no losses on any trading days? In this market, why do you put so much faith in traditional watchdogs? Don't you remember how well Arthur Anderson policed Enron? And how about the rating agencies' glowing praise of mortgage-backed securities? And how can you be so casual about counter party risk? Do you think that conspiracies are only for tinfoil-hatters? Ever heard of the cigarette papers? And why do you think all of the whistleblower laws are needed? And what about all of those books about systemic and widespread corruption in the financial industry? (You won't see a collection of books like that about the IT industry, btw.) Based on my training and experience in implementing advanced computer systems, I know what sustainable systems look like. And when I look at the current financial system, a sustainable system is not what I see. Based on the moronic analyses I have seen from the bulls and bears, I have to say that the term "sheeple" is far too kind.

The deflationists examine a few vital facts that the bulls and bears take for granted, and based on those additional facts, the deflationists seem to reach their conclusion: deflation! They readily acknowledge the corrupt nature of the political and financial elite. But the deflationists seem not to consider that the political and financial elite might somehow break the economic tool that they are currently abusing: the US Dollar. The power-elite are in charge of the US Dollar, they are intentionally abusing it in a race to debase it against other currencies, the Dollar is backed by nothing but people's faith, the Dollar has lost most of the purchasing power it had a few decades ago, and yet deflationists believe that the Dollar will remain the absolute king of the financial world (I guess by virtue of the exorbitant privilege afforded by its world reserve currency status). Nothing lasts forever guys, and faith is a fickle and fractured foundation. I am not inclined to bet my life on a paper currency whose efficacy its custodians are now actively trying to destroy.

As someone who critiques analyses all of the time, the best analyses I have seen within the financial world, in which the analysts give open-minded consideration to all of the relevant facts and evidence, come from the hyperinflationists and the gold and silver bugs. The anti-globalists provide some excellent analyses too. (The survivalists aren't much into analysis, and prefer to concentrate on active preparation for a very grim future.) I will provide more background on these assertions in future blog posts.

In short, I am an outsider looking in at the financial industry. And as an unbiased outsider, when I look at the financial industry, I have titanic misgivings about the future of the financial system.

Yeah, someone could say, "You're an IT guy! You don't even know what you are talking about! Leave the financial stuff to the financial experts!" In fact, experts in the financial world have already said that to me. However, I couldn't resist pointing out to them that their financial industry remains intact only because the government bailed it out to the tune of $700 billion. The IT industry has never needed a bail-out like that, so maybe the "experts" in the financial world should back off and take their arrogance down a notch or two.

They have steered the financial Titanic into the iceberg, and even though the band is still playing, the ship is going down.

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