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Daniel Wagner

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Investors Still Think They Can Fly

Posted: 08/05/11 11:16 AM ET

In March 2006, 18 months before the recession erupted, I published an op-ed in the International Herald Tribune entitled "Investor Beware", in which I noted that:

"Borrow and spend fiscal policies are very much in vogue among governments and consumers, the global housing bubble has reached unprecedented proportions, and many of the world's stock markets are so hyper-inflated that investors seem to have forgotten the basic law of physics - that what goes up must come down. This investor 'frenzy' is occurring on the heels of some of the largest corporate bankruptcies and financial boondoggles in history and indicates that investors appear not to have learned much in the process.

Investors appear to believe that, for some reason, the age of globalization has made the prospect of a global economic meltdown remote, and that the global economy will recover from whatever may be thrown its way. Their thinking is that since the world's economies are so closely linked together, they will all somehow swim, not sink, when the next major shock to the system occurs. The more logical conclusion, however, is that globalization has made all the world's economies more vulnerable to collective shock. Unlike the past, those shocks can be more severe because of the economic linkages and because of new threats to the system with unpredictable consequences.

Yet the capital markets are humming as if there were no tomorrow and investors seem impervious to the risks that are now ever present in the global economic system. Some governments have made their fiscal quagmire worse by piling more debt on the national books and continuing to spend recklessly, while doing little or nothing meaningful to increase national revenues. Governments, investors and lenders continue to build the house of cards, with little apparent regard for the long-term consequences or concern for the many risks that could cause its collapse at any time.

Here we are, more than five years later, in the third year of what is becoming the 'perpetual' Great Recession, and these words could easily have been written today for the first time. As the latest global stock market meltdown proceeds apace, it indeed appears that after all we have been through over the past three years, incredibly, governments, investors, and lenders have learned very little. Unfortunately, human nature, short memories, and greed all continue to coalesce to ensure that history will indeed continue to repeat itself.

The passage of the U.S. government's debt deal last week was the product of absolute political paralysis in Washington, it really achieved very little, and the markets know it. What is going on in Washington is a pathetic display of entrenched interests and the utter failure of the democratic process to function effectively in a time of crisis. If you ask me, we should throw them all out and start over, requiring each new member of Congress to sign an oath acknowledging that he/she actually understands why they were sent to Washington and making their pay contingent upon getting the job done!

Yesterday's declaration by ECB President Trichet that the Bank would offer European governments unlimited liquidity at fixed interest rates for the next six months was the ultimate confirmation that in fact, the ECB has lost control and is powerless to contain the freefall in Europe. It is difficult to understand why the ECB is now buying Portuguese and Irish bonds instead of those of Italy and Spain - which are the current source of concern, are not part of an existing bailout plan, and may still be salvageable. The Chinese government looks like the bastion of fiscal conservatism and effectiveness compared to the performance of the U.S. and European governments - and it has looked that way since the Great Recession began! Maybe the Chinese would agree to send delegations to Washington and the capitals of Europe for some training!

I would like to be able to state that I am optimistic that there is going to be a happy ending to this debacle, but, being a realist and having a tendency to speak the truth, just the opposite appears to be the case. Since:
So few lessons appear to have been learned by western governments, investors, and lenders,
Fragile, ineffective and vulnerable fiscal band aids have been placed over the gushing wound that is the global economy, without a realistic alternative, and
We continue to keep piling more debt on this house of cards some of us have deluded ourselves into believing is actually a recovery,

I would have to say there is a 70 percent chance of a double dip recession as bad or worse than what we just went through, and it has already begun.


Daniel Wagner is CEO of Country Risk Solutions, a political risk consulting firm based in Connecticut, and senior adviser to the PRS Group.

 

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