John Butler's Blog

Professor Paul Krugman and Rep. Ron Paul (R-Texas) went head to head on BloombergTV this week. True to his neo-Keynesian form, Prof. Krugman insisted that the US government could and should add further debt to stimulate growth. Rep. Paul responded by asking how much debt would be too much, to which Krugman replied: “We’re not anywhere close to a red line.”

The greatest investment returns accrue to those who take the greatest risks yet are proven right by events. Nowhere is this more frequently observed than when it comes to investing in distressed assets, that is, those that are involved in bankruptcy: potential, imminent or actual. Indeed, bankruptcy provides the single most effective way for investors to acquire real corporate assets at fire-sale prices.

Already on the defensive due to a persistent failure to achieve its stated policy aims, the US Fed was subject to much fresh criticism over the past week, including from the BRIC nations, collectively the largest foreign holders of US dollar reserves.

Implicit in much economic comment of late is the assumption that, although the key monetary and fiscal policy decisions of recent years may fail to quickly restore healthy, sustainable economic growth, they are, at least, a way of buying time and that, eventually, things will improve of their own accord.

Prior to his retirement some years ago, Hugo Salinas-Price was a highly successful businessman in Mexico. He took a tiny radio-manufacturing company and turned it into a completely integrated chain of retail stores selling a range of durable consumer goods. Interestingly, one of the ways in which he financed this dramatic expansion was by introducing vendor financing, something which had already become common in the US and a handful of other countries but was entirely new in Mexico.

Central bankers continue to pour monetary petrol on the raging fires of insolvency. As a result, central bank balance sheets across the developed world continue to expand in size and deteriorate in quality. The US Fed claims that its policies will support asset prices, yet without contributing to rising consumer prices.

Financial markets have ushered in 2012 with a collective sigh of relief. 2011, the year of the never-ending crises, is over. Although the crises continue, equity markets have risen moderately month-to-date. There is clearly hope that things in 2012 will improve. While hope may not be a strategy, past episodes of misplaced hope are instructive.

For those awakening to the unpleasant reality that the global financial crisis which began in 2008 has never been resolved, we have some important news for you: There are, in fact, two crises unfolding in parallel. One is phoney and in the spotlight; the other is real yet lurks in the shadows.

With the recent expansion of the European Financial Stability Facility (EFSF), European leaders have taken yet another step to try and contain the euro-area sovereign debt crisis. As part of the arrangement, banks and other private entities will reduce the value of their Greek debt holdings by 50%, thereby recognising what has been a material deterioration in European bank solvency.

German President Christian Wulff posed this provocative question in a speech in late August, the first official German statement to the world that Germany can no longer be relied upon to save euro-area member countries from the consequences of fiscal profligacy.