Meanwhile, on Wall Street (Part II)

Part I here.

In response to the debt crisis on Wall Street, Washington itself has been going into debt like there's no tomorrow. (For the world's pre-eminent nuclear and military power, that phrase takes a whole new meaning.) Now Bush is ready to write a blank cheque to prop up the debt bubble and delay financial collapse until after his term. Although they disagree on the details, senior US decision-makers agree that this bailout needs to go ahead. But they simply don't have the wealth to back up all the dollars they're throwing around. (Maybe it's time to sell Louisiana territory back to France!)

It would be pointless for me to discuss solutions to this crisis. They are obvious, and it's up to the US public to demand them. I'm more interested in what the ripple effect will be for me and mine if the bailout does go ahead. I readily admit that I don't understand macroeconomics, but here's the situation as I see it.

In the short term, since the government is offering no support to individual debtors, hundreds of thousands of families will lose their homes and become New-Orleans-style internally displaced persons. Although this will cause widespread misery, it will not affect the economic or political systems much because those Americans are already disenfranchised. In the medium term, the most likely outcome is hyperinflation. By all appearances, the government intends to keep running a deficit, but sooner or later creditors will no longer be willing to buy US securities (public debt). To stay solvent, the government will need to either default on its debt payments or print a lot more money*. When this happens, US dollars and US securities will devalue, international investors will dump them, and the value of the currency will crash. The end result would be that financial wealth (dollar bills, bank accounts, shares) quickly becomes worthless while real wealth (real estate, factories, goods) becomes much more valuable. Wages couldn't keep up with inflation, so those in debt would go bankrupt. Nearly all of the debt-free real wealth is held by the richest 1%, so in practice, hyperinflation quickly leads to deep and widespread poverty. What happens next depends on many things, but there would certainly be a humanitarian crisis.

The financial industry protects itself with opaque or absent record-keeping, so very few really know what's going on. It's impossible to predict with any certainty what will happen in the US, let alone in Canada. Export-oriented industries will certainly suffer from a loss of American spending power, and if Canadian financiers get spooked, our own debt bubble could burst. Individuals can insulate themselves somewhat by reducing their debt load, but the only real defence is to work collectively to create an economy which is insulated from speculative bubbles.


*The fundamental value of a US dollar has been very murky since they stopped using the gold standard in 1971. The dollar has been anchored by the global oil trade--Washington (backed up by the Pentagon) insists all oil must be traded in US dollars. In other words, any time the US wants $20 worth of oil they can simply print another $20 and get the oil. In fact, any country that wants to buy oil must first buy dollars from the US at face value. Most countries also use US dollar reserves to anchor their own currencies. So if the US dollar has hyperinflation, it would trigger hyperinflation around the world. Theoretically a country could protect itself by starting to sell its US bonds and dollar reserves, but no-one is willing to do so because such a public "lack of faith" would trigger a mass sell-off of dollars which would wipe out their own currency.