Monday, March 16, 2009

No Such Thing as a New Economy... Ever

One of the hallmarks of a bubble is people talking about a new economy. The arguments typically go something like this: real estate prices or tech stocks or tulip bulbs or [INSERT NAME OF FASHIONABLE ASSET HERE] can continue to appreciate forever because we are living in whole new economy or the fundamentals have changed or demographic trends are different now or [INSERT SEEMINGLY RATIONAL EXCUSE HERE]. Well, that never ends well. There is no such thing as a new economy and there will never be one. The fundamental drivers of a free market economy are and will always be supply, demand, government regulation and human nature, especially as they all relate to financial incentives. Anyone who claims a new paradigm needs to provide bullet-proof evidence to support his claims.

So what am I doing talking about bubbles again when the economy is in the dumps? Well, for one thing I suspect that we are living through a bubble in government bond prices. People are so fearful of risk these days that they are flocking en mass to the perceived safety of US government debt. This seemingly insatiable demand has raised Treasury prices so high, that bond yields - the return you get on your investment - has declined to a tiny sliver of interest, and this is happening at precisely the time when government debt is  becoming more risky as the government piles-on ever more debt. This bubble too shall burst... but that's a topic for a more detailed post at some other time.

My main point for this post is different. Did you notice how everyone these days is talking about how we are living in a whole new era? About how people have become permanently frugal? About how the rules of capitalism are changing and about how capitalism as we know it may be coming to an end? This strikes me as nothing more than bubble talk in reverse. While no sane person can deny that these are tough economic times, it seems preposterous to claim that we are now living in a new, horrible economic reality that shall last forever. As if we have never been through a major economic crisis. As if the entire system is about to collapse or worse, as if the entire free market system was some sort of mirage or sophisticated ponzi scheme perpetrated by the evil people on wall street and in government for the sole purpose of fleecing the masses...

This, my friends, is nothing but bull, and the people that utter it deserve to be called out to defend their ludicrous statements. Better yet, time will prove the gross error of their delusion, and those of us that do not succumb to our fear and pull all our assets from the markets just to hide them under the matress, will reap the financial rewards of our prudence. What drives the free market system are very basic elements of human psychology. Those aren't changing any time soon, and as long as they persist the free market system will continue to be the best one that we have available to us - cycles of booms and busts and all. 

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