The Great Reset

the-great-reset

A recent New York Times headline read:

“Consumers Increase Savings While Spending Less”

That sounds like a GOOD thing doesn’t it?

It used to be that savings and thrift were basic, core, American values. Check out Tom Brokaw’s the Greatest Generation if you can’t remember a time when Americans valued thrift and savings. The media is so focused on “reviving” the economy that it is now seen as a negative sign when saving increases and spending declines. I know the economy as we have known it over the last 10-20 years depended on consumer spending, but the problem was THAT WAS MONEY WE DID NOT HAVE!

Part of the problem is that we are still viewing this as a recession. Hopefully this is not a recession. Hopefully this is the GREAT RESET.

The word recession implies that it is a temporary decline and that things will return to “normal.” If we define normal as the last 10-20 years, “reviving” that version of the economy would be the definition of insanity (doing the same thing and expecting a different result). That version of of the economy was not REAL. That version was on the wicked, performance-enhancing drug LEVERAGE. That version was not sustainable.

The most basic measure of what I call the “Real Economy” is the total value of all goods and services produced (key word: “produced”). That seems to work just fine. You produce something (widgets or the new design for widgets), and you get paid. You take what you get paid, you save some against the future, and you live off the rest. It’s sustainable and healthy.

Then, for whatever reason, we decided that it was not enough, and we put some very smart people, who should be working on cancer research in a back room, and had them “engineer” complex tools to leverage what we were producing, so we could spend more. This is where we got the “Real Economy” on top of a giant expanding cloud of “Leverage.” But we were not actually increasing the total value of goods and services produced! One day something happened, and the “Leverage” went away. Just like that we are back to the “Real Economy.”

Now in real life this GREAT RESET is a very painful process, but to ignore the reality won’t help. We can’t go back to the levered up version because it is not REAL. As Thomas Friedman said recently, “…there is no easy escape here, except taking our medicine, getting our fundamentals right again and working our way out of this, brick by brick…”

By Carl on 02.04.09 > Link

Tagged as: greatest generation, savings, the great reset

  • We need though to build a strong foundation for the future - which will be very different than today in unpredictable ways. But trying to get consumers spending again and ivnesting to keep the status quo functioing is exactly the wrong approach for financial sustainability.
  • ghina
    What if it isn't a zero sum game? I tend to think of leverage as having "faith" in a growing economy. Now in the last 10 years with China's contribution, the world economy really did grow didn't it? So maybe leverage expanded at a greater rate and expectations became unreasonable. But what if BRIC continues to pump up the world economy, ie create a bigger pie. In that case the higher growth was/is real.

    How can we differentiate between real and overestimated economy?
  • dustinjruybal
    Then, for whatever reason, we decided that it was not enough, and we put some very smart people, who should be working on cancer research in a back room, and had them “engineer” complex tools to leverage what we were producing, so we could spend more. This is where we got the thrift savings plan “Real Economy” on top of a giant expanding cloud of “Leverage.” But we were not actually increasing the total value of goods and services produced! One day something happened, and the “Leverage” went away. Just like that we are back to the “Real Economy.”
  • Now the question is we will stay so hyper-focused on "reviving" the economy
    or if we will take the hard medicine and reset....
  • Very lovely post that I think accurately describes our situation. Wanting to "return to normal" and going through the same economic situation as before WOULD BE insanity. This is a good way for many of us to start fresh.
  • Kristen
    Love this post. My sentiments exactly. Elizabeth Warren gave a fantastic lecture about the disappearing middle class. Her data showed that while income and consumer spending has been stagnant over the post-war period, housing prices have increased exponentially. It pains me to hear government talk about stopping foreclosures and keeping people in their homes. I'm not cold-hearted, of course I don't want to see people lose their homes. But housing prices became insanely over-inflated. If we allow bankruptcies and foreclosures to happen, without government stepping in with a band-aid, then the housing market will reset. I am an office worker, my husband a teacher, we make an equal, fair salary, and during the height of the housing boom, unless we got into one of these crazy ARMs, all we could afford was a 400 square foot studio. That is not a long-term investment that we could start a family in. I for one would really like to see the housing market re-set, so that young, middle-class couples can afford to purchase a starter home (a real starter home, not one of these 2500 square foot mcmansions) and start a family.

    Elizabeth Warren's lecture given at Berkeley: http://www.youtube.com/watch?v=akVL7QY0S8A
  • This is how capitalism works. If someone takes advantage of the system, it resets itself. Things get fixed. It might be uncomfortable for a time, we may be poorer, but there are consequences for actions and sometimes they affect other people.

    But see, the issue is that so many supporting the current "fix" don't believe in capitalism, don't believe in being uncomfortable, and won't accept that "change" they thought they were voting for. Selfishness still pervades, and that's why the "Great Reset" won't happen.

    It's par for the course for the US to disregard lessons it should've learned from its history in favour of *new* ideas for *new* problems. These aren't new problems at all. They're the same old problems dressed up differently. We spent more than we had and now we're going to spend even more money to fix that? There's a reality disconnect someplace in there.
  • David Locke
    So we are in the great reset. Prices will fall to the degree that our pay has been cut relative to inflation since Volker. So we are in the great reset, and somehow the old standbys of savings and work are supposed to save us as our jobs go overseas, careers vanish, and the next job you take won't pay enough to get that mortgage paid, because prices don't fall as fast as wages.

    Offshoring isn't working. It was supposed to work by freeing cash to be used to create new wealth. Instead it disappears. As it disappears, reset or not, we face a very long contraction. It won't end even if we save and work for nothing. Economists predicate offshoring as being good as long as we don't play it as a zero-sum game. Yet that is exactly how it is being played. The players hold panels and tell the world that their way is the only way, so the zero-sum virus spreads. There is no upside in this. When was the last wealth created? Sure we can move cash around, but creating wealth creates new cash.

    There are lots of problems. Old values don't face the new problems.
  • TC
    Love it.
  • While this is a big piece of the puzzle that people have been ignoring, the other element is the current recession triggering this reset. Similar to the way people pulling money of some banks triggered their failure or people not reinvesting in the Madoff Scheme triggered the failure of the scheme. The problem is that our economy now has to deal with both the pain of the recession and the great reset. If some people got their way we would go the insane route and perhaps that is why the media is ignoring this concept.
  • Interesting concept, but that explains only a _part_ of the entire problem.
    The point is, the leverage that you are talking about, did influence the producers/service providers to produce _more_ (even though what they got was MONEY THAT WASN'T REALLY THERE). so in a way, leverage did have a +ve effect, but the downside was that they got so dependent on this that when it was taken away all of a sudden, they couldn't survive anymore. Many businesses started to depend on this and suddenly got broke when it wasn't there anymore...
  • Michael Conness
    Who are the biggest leverage takers?
  • The people at the top were pushing us into this situation just to siphon more and more money out for themselves only to have the very people from whom they took the money (tax payers) left holding the bag.

    Hopefully the average American will realize it was not that smart of an idea to push all the small businesses out of the market.
  • Leverage is not a bad thing, but too much leverage is. I'm sure the majority of people will eventually come to understand that principle but perhaps not until we make the same mistake again (probably on an even larger scale).

    The real question is how do we find the right balance of leverage in the global economy?
  • @monevator- thanks for the comment, yeah leverage is a powerful tool, we just got carried away and forgot that it goes both ways.
  • This is a fantastic piece of new thinking on a well-worn subject. But as Chris says, not all leverage is bad. Not even just from a personal perspective, but also economically.

    If a company is making a product we all want to buy to improve our lives, and which it can generate a 20% return on (say) but it is cash-constrained, then it makes perfect sense for everyone for it to borrow money at a low rate and reinvest it to generate money at a high rate. A better company gets richer faster, and we get more products of the kind we want without wasting 20 years. ;)

    The trouble is if we bid up the price of assets like houses, which doesn't benefit society as a whole. Which is as you say what we did. :(
  • @Jeanne: Amen!
  • @Chris- I agree, I just think that "we" (speak collectively) got a little carried away in using a sharp power tool (leverage) in unsustainable ways.
  • @Becky- It seems that this revolution is going to have to start from the bottom.
  • JJ
    Bravo. My wife and I have been saying this for years. Unbounded, leveraged growth is not sustainable. It's like cancer. It will eventually kill the host unless it is cut out or otherwise eradicated. This reset is necessary, and inevitable. The more we fight it the worse it will be. Part of the reset needs to also be the cessation of Wall Street insistence on double-digit revenue growth in corporations. It needs to be the cessation of building more houses and commercial development than is supportable. It needs to be the cessation of people living beyond their means.
  • Aolis
    You make a good point concerning savings. Much of this econmy has been driven by decreasing savings and increasing debt of the consumer. However, that debt or leverage hasn't gone away. It has gone away on the producer's side.

    If a producer borrows money and starts a business, they are actually producing more goods and services. If they can't keep that leverage open, they have to shut down their business. Now the consumers, with their increased debt, are now chasing fewer goods and services with the same limited amount of money, causing inflation.
  • Becky
    I like it! Someone needs to let the "big guys" know your term. I'd love to see headlines on CNN or Fox as "the Big Reset" instead of the "r" word.

    It seems obvious to many of us "little guys/gals" out here in the real world that some sort of adjustment time would eventually be necessary. How come it doesn't seem obvious to those who are supposed to be experts?
  • I completely agree. We act as if our parents and grandparents have not lived through one of these. Throwing money at the issue will not resolve, only dissolve any chance to have of preventing a issue of larger scale in the future.
  • Chris
    Hey, wait a minute. Not all leverage is bad. What is a 30-year mortgage, if not leverage of future earnings? What is a credit limit good for? I agree about putting a halt to overleveraging, but leverage is a good thing. I mean, its root word is "lever." Who doesn't want to use a lever for things?

    I just think this is all part of a cycle. When it bottoms out and goes back on the rise, won't it be fair to say that the pundits will cry for the use of greater leverage to take advantage of the up part of the cycle, and we'll have these same arguments again?
  • I agree. People need to change the way they live. Businesses need to learn to survive with less access to leverage. Investment companies need to avoid over leveraging. Systematic change is needed. Good post.
  • Consumers should ignore the commentary admonishing them of spreading “weakness,” and “lacking confidence.”

    http://pacificgatepost.blogspot.com/2009/02/oba...

    Stay the course.
  • Excellent write-up, good sir. I agree wholeheartedly, and am sick and tired of the constant calls to "prop up housing prices" or "boost consumer spending."

    The leverage party is over, people. Deal with it.
  • I love this concept, and it does make a lot more sense than talking about a recession or depression. And really, what we want is a reset - otherwise, we are continuing the cycle of living beyond our means and mortgaging the future. Sure, this will be painful, and there is no stimulus package to save us. We need though to build a strong foundation for the future - which will be very different than today in unpredictable ways. But trying to get consumers spending again and ivnesting to keep the status quo functioing is exactly the wrong approach for financial sustainability.
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