Not too long ago an industrial giant experienced one of the greatest economic booms in its history. Thanks to easy credit and low interest rates, investors in that country ran up astronomical debts and used those proceeds to bid up the price of real property and the stock market. With home values and pensions way up in value, folks were feeling very secure about their economic futures. For the average investor in that country it seemed like the good times would never end.
Then the bottom fell out. Realizing the boom was becoming unsustainable, the country’s central bank raised interest rates. Suddenly, the enormous debt built up during the boom years went bad. Banks began to fail and the government responded by bailing out the financial institutions which were “too big to fail,” in order to avert a total collapse of the economy.
Anyone who remembers the 1980s and early 1990s know the country in question is Japan. Beyond bailing out the too big to fail banks, the Japanese government also attempted to use fiscal stimulus and the Japanese central bank attempted to use low interest rates to produce an economic recovery. The result has been two decades of little or no economic growth and an unemployment rate that has hovered around two times what it was in the 1980s. This period in Japanese history has come to be known as Japan’s Lost Decades
Now, you may have guessed that the country being described in the first two paragraphs above was the United States. Obviously, you would have also been correct. During the 2000s, we experienced our own phony, central bank-induced economic boom. Easy credit and low interest rates were used by many Americans to amass huge debt while bidding up the price of housing and the stock market. New-found wealth through asset appreciation gave many a false impression that they were set for life and the good times would never end.
As in Japan, the bubble burst when interest rates rose and a heck of a lot of homeowners were holding mortgages that they could no longer afford. Banks failed and were bailed out by the federal government. Stimulus packages were passed and interest rates lowered to produce economic recovery.
As if emulating Japan were not bad enough, the really scary thing is the Federal Reserve’s Survey of Consumer Finances report released earlier this month. According to the report, the median net worth of American families dropped by 39 percent between 2007 and 2010. That means the typical American family is roughly worth what it was worth in 1992; eighteen years without any economic advancement! And it gets worse. The report indicated that the median net worth of the middle class had the biggest drop, owing mostly to declining property values. At the same time, the median net worth of America’s wealthiest families rose slightly.
So what does all this tell us? For one thing, we are in for a long period of sluggish economic performance and above average unemployment because the powers that be in America responded to the bust of 2008 in the same ineffective fashion the leaders of Japan handled their downturn in the early 1990s. Propping up failed financial institutions, stimulus spending, and below market interest rates did not produce recovery in Japan. In fact, 20 years later, the Japanese economy still has not recovered. Likewise, the same policy initiatives still have not produced recovery in America some four years out from the crisis, and if economic policy in the U.S. doesn’t change soon, economic historians may be calling the next twenty years America’s Lost Decades.
Secondly, the wealth produced in the last 20 years was phony. It was built on artificially cheap and widely available credit. This in turn produced false property values and huge consumer debt. When the crisis hit it, the floor under the economy was apparently a long way down. At least 18 years down, according to the Fed’s report.
Lastly, what can be learned from our most recent economic experience is that Washington and Wall Street have hoodwinked the country into believing prosperity is a result of everyone spending beyond their means. In reality, true prosperity comes from hard work, thrift, and saving. It comes from the formation of pools of capital made available to business to borrow in order to open or expand operations. Simply having the central bank print more money does not produce wealth. In fact, the Fed’s monetization of the government’s debt has done more to destroy the American middle class than any other factor. Devaluing the dollar diminishes disposable income and erodes savings. Conversely, the price inflation produced by the Fed enhances the assets and investments of the wealthy.
At the end of the day, there are significant similarities between Japan’s financial crisis in the early 1990s and America’s in 2008. Due to its government’s policies after the crisis, Japan has lost two decades of economic growth. According to the Fed’s Survey of Consumer Finances report, Americans have already lost two decades of economic gain. Given that Uncle Sam’s response to the financial crisis of 2008 mirrored Japan’s in the 1990s, two more are potentially on the horizon. At that point, it would be almost a lost half century.