I just ooh I just need a friend"
What a week, what a month, huge sigh of relief...aaah!
The S&P 500 is on track for its best October since 1974, up 13.6% as of this writing. Of course it just so happened to be down 13.6% from August 1 to September 30. But hey, up is better than down so we'll take it.
OK now what? Lets step back and take a look at the big picture.
What we have been dealing with since 2008 has been a global debt deflation. Most of the developed worlds governments and citizens have been addicted to debt for decades, and they are in the early stages of dealing with this debt addiction. This week we saw one of the oldest citizens, Greece, with the help of her neighbors, move into Stage 3 of the five stages of recovery.
Lets review.
Five Stages of Addiction Recovery:
Stage 1 - Awareness - This stage is marked by an awareness of the addiction, shifting perspective from outright denial to a willingness to address the issue.
Most of the world's debt addicts have now recognized that they have a problem. Sure there are a few holdouts, like Paul Krugman and the Keynesians who listen to him. They believe that after a trillion plus in deficit spending the government still needs to borrow and spend more. Fortunately their numbers are quickly dwindling as it becomes clear that giving a debt addict more debt is less than effectual. (See today's WSJ editorial by CMU's Allan Meltzer Allan H. Meltzer: Four Reasons Keynesians Keep Getting It Wrong )
Stage 2 - Research and Consideration - The addict seeks to learn more about their addiction and how it is affecting their lives and the ones around them.
Our debt addicts begin to see how that short-term high leads to some pretty serious long-term problems, namely slower economic growth and higher unemployment. For many of them, as their debt balloons, it becomes harder and harder to score. The dealers (lenders) begin to realize that the odds of getting repaid become slimmer and slimmer, therefore the price of that debt fix increases (higher interest rates). Before you know it the addict is borrowing just to pay the interest on the debt.
Stage 3 - Exploring Recovery - The first clear step into recovery. The addict moves beyond denial and is willing to seek help.
This is where are friends the Greeks have been for the last several months. Finding themselves in a world of hurt, being shut-off from their dealers, they have begrudgingly decided to get help. Help is coming from her many indebted neighbors/dealers (its very incestuous). They don't want to see Greece fail because it would hurt/kill some of the dealers (banks/governments). So they seek to help prop her up long enough to work off the debt and hopefully start anew. The banks "voluntarily" agree to take a 50% loss on their loans in order to keep the addict alive long enough to hopefully recovery the other 50%. One problem is that other addicts in the region might also like that 50% haircut as they begin rehab.
Stage 4 - Early Recovery - The first signs of early recovery. The very fragile addict goes through the early stages of withdrawal and hopefully doesn't relapse.
This is by far the toughest stage of recovery for our debt addicts. It is a bit simpler when you are talking about rehabbing an individual, but when you are dealing with an entire society that was promised a certain standard of living trouble starts. Withdrawal hurts. Economies slow, unemployment rises (Spain is at an official unemployment rate of 21.5%), and citizens revolt. The loss of wealth, the transfer of wealth, is all very painful. (Unfortunately Amy Winehouse didn't make it out of this stage, her British coroner ruled it "death by misadventure").
Stage 5 - Active Recovery and Maintenance - This stage has no end. It is a life-long effort to change the way you have been living.
In the case of our debt addicts, this means coming to grips with the sad reality of living within your means. Politicians and governments can not promise more than they can deliver. Citizens must also live within their means, and make sure their politicians are doing the same. It is a long-term life style change.
The Journey to Recovery
Throughout history we have seen countries enter and exit rehab successfully. Greece, Italy, Spain, Germany and many others have all defaulted on their debts. A cold turkey default, stuck it to their dealers (banks and citizens), and then moved on. The very unique aspect of our current situation is just how widespread the problem is. Many of our current addicts are also dealers. Because of its widespread nature cold turkey defaults would be catastrophic. The entire western world has a massive debt addiction that they are just in the early stages of dealing with. Here in the US we are expected to help out those that we've loaned money to, while also trying to wean ourselves off of our own addiction. China is ready to step in as the dealer of last resort, but they won't do it for free...the price will be very dear.
Rehab is always difficult and often messy. Please get your house in order to weather the storm.