How the Coronavirus could topple America, the world’s greatest superpower — Part 5
How COVID-19 pops the credit bubble
Disclaimer: The following is an opinion piece backed by factual, historical information, which can be found throughout the articles in this series. I am not anti-establishment, or anti-America. I am a proud Canadian and global citizen that values transparency, is pro humanity, and is hoping for the best.
This is not investment advice.
By now, if you’ve been reading along in the series, maybe you’ve seen the writing on the wall the same way I have. If you are joining us for the first time, I recommend that you go back and start from the beginning. The previous context is important.
As I started to comprehend how all these pieces fit together over the last year it felt like a veil was being lifted. By December 2019 I had suspected that the US economy was overinflated and would be headed for a major correction in the next year or two.
I thought it could be caused by a pandemic. I credit that to Bill Gates. That thought entered my mind after watching his Ted Talk from 2015, and then hearing him describe the same thing in an episode on “The Next Pandemic” in the “Explained” docuseries on Netflix. However, I figured a series of weather events resulting from global warming would be the more likely catalyst, which probably wouldn’t have been so acute.
A recap on how we got here
In the previous posts in this series:
- I foreshadowed how bad the economic impact of COVID-19 could be.
- I then wrote about what money is and that the US Dollar is mainly built on trust. I also spoke about how, for decades, the US Government has been borrowing against the future tax revenue to fund operations of the present.
- I then explained how the US financial system actually works to achieve this goal and highlighted the conflict of interest when some of the same groups that caused the 2008 financial crisis, American banks, got bailed out while at the same time play a critical role in the US Federal financing operation.
- Finally, I outlined how the US debt has ballooned and its global financial dominance has been silently giving way to the rapid rise of China’s economic engine.
So now, let’s talk about the order of events leading up to today, and how the next few weeks and months could play out. Unless America makes the right chess moves, it could very well culminate in the bursting of the credit bubble and a global recession.
The side effects of corporate greed and cheap, plentiful money
The US economy has been artificially inflated by money printing known as Quantitative Easing (QE), performed by the US Treasury and The Fed since 2008. For more info, refer to parts three and four in this series.
The only reason the US economy hasn’t already felt the inflation pain of Trillions of dollars in value creation out of thin air is because the US Dollar is the global reserve currency and many other countries are doing QE too!
Stock buy-backs, huge corporate taxes, and cheap loans fuelled by QE, combined with greed further exacerbated the problem. Causing “one of the longest bull markets in history”.
This enabled businesses to spend their free cash on stock buy-backs, take on cheap debt, and over extend themselves.
Corporate debt ballooned in November of last year to $15.5 Trillion, 74% of GDP.
This tsunami of cash also made its way to private markets and resulted in an explosion of venture capital funds (VC), inflated private company valuations and a record level of IPOs.
Household debt levels exploded
Because money was flowing and companies were growing at break-neck speed, we saw higher wages and more employment, especially in the high growth tech industry. This, in turn, caused an increase in the cost of living and households to borrow more at record low interest rates. Many becoming overleveraged.
US household debt is the highest it has ever been at $14.5 Trillion, 69% of GDP.
College tuition also drastically increased and US students have been facing predatory lending rates for their student loans. As a result, student loan debt is about $1.6 Trillion dollars of the total household debt alone.
Unless the Trump Government defers student loan payments, since most students won’t be able to get jobs, there will be mass defaults.
In comes the Coronavirus like an organic missile
Now the novel Coronavirus COVID-19 appears and rapidly starts infecting and killing people. Instead of social distancing and washing hands to contain this thing, many Americans bury their head in the sand (literally) until it’s too late. The US government has already taken too long to act in order to contain the virus. Short of some sort of miracle, lots of people are going to die.
Pretty soon panic will set in. Everything non-essential will shut down and the economy will grind to a halt. Businesses are already closing and people are losing their jobs or taking wage cuts left, right, and centre. In the next few weeks and months, businesses and households will start to default on their debt and lease payments. This will cascade up the chain and the banks will have a massive liquidity crunch and risk becoming insolvent without Trillions more dollars in bailout money.
Global Warming is still a thing
Our carbon footprint might get significantly better with lock-down but Global Warming has been going on for decades, and staying inside for a few months won’t magically make it go away.
Tornado, fire, drought, and hurricane season are also right around the corner. The cost to deal with global warming prior to COVID-19 was projected to be at least $360 Billion. After people are low on food, supplies, morale, and shelter, unless we have a miracle year, extreme weather events will further damage the economy. If severe enough, likely many more people will lose their lives due to an overwhelmed emergency system, and as a result of increased homelessness.
All of this will likely come to a head in a few months to years. The actions taken today will be amplified weeks, months, and years from now.
So where do we go from here?
The US has already missed its chance to contain COVID-19. Now it’s about minimizing the damage. I believe there is still time to do that, but time is quickly running out.
Swift, decisive action is required by the public and leaders of the United States of America.
The US Government has already taken too long to pass a fiscal stimulus policy and they are vastly underestimating the amount of money required to keep the economy afloat. If they don’t act soon, and start getting money directly into businesses and households, people will be unable to afford food and shelter. If that happens, to quote Ray Dalio, “God help us all”.
The cost of action is much cheaper than inaction
The United States’ GDP for 2019 was $21.427 Trillion.
If we take a conservative line we can assume the country will run at 50% capacity for the next 3 months due to unemployment, social distancing, reduced commodity prices, and temporary leave from COVID-19 and other exacerbated health issues.
Since 3 months amounts to ~25% of GDP, and half of that is 12.5%, this would result in a nominal GDP loss of approximately 12.5%. We can probably assume that we see at least a corresponding 12.5% of debts default, since many small businesses lack huge amounts of cash and 47% of Americans don’t have enough savings.
With some quick napkin math, between GDP, household debt, and corporate debt totalling $51.4 Trillion, based on the above assumptions, the US Government will need to deploy $6.42 Trillion dollars in the next 3 months to compensate for this economic loss and keep the second domino from falling.
Given the risk of severe knock-on effects, I think the capital required will actually be much higher. Nonetheless, the proposed $2 Trillion Dollar stimulus package is nowhere near enough. Everything will not be back to normal in 3 weeks.
The cost of inaction will most definitely be considerably more. Donald Trump was right about one thing yesterday, if the economy implodes, many more people will die. Not only in the US but all over the world.
The US government needs to put away its partisanship and take action NOW. It will take time to distribute the capital provided by any fiscal stimulus plan. Every day they delay is likely a death sentence for many.
How could the US try to course correct?
The only way to stave off an economic meltdown is to:
- Get the Coronavirus spread under control ASAP. Since some American’s are still partying on the beach, the USA should be enforcing mandatory lock downs and running mass education campaigns on how to prevent COVID-19. They need to ramp up testing as fast as possible and likely set up red-green zones and use random sampling to focus health efforts and lock-downs since they can’t test everyone;
- Fire up the money printer ASAP and be prepared to deploy 3–5X more than they think they need today. Deliver money to businesses as a wage subsidy to keep them operating, and people employed, while they sort out how to adapt to the “new normal”. Additionally, money will likely need to be injected directly into certain industries and regions that are the hardest hit;
- Any business that gets a capital injection should have strict controls on what it can use that capital for until things are back to “normal”. This should include preventing stock buy-backs, corporate bonuses, issuing dividends to shareholders, and acquisitions. That way capital is focused on employment, growth, and innovation; and
- Hope to God a vaccine is developed that works and is fast tracked.
If this doesn’t happen. I’m convinced that the US will fall into a depression and so will the rest of the world. It could be the worst depression we’ve ever seen.
China’s quick lock-down and suppression of the Coronavirus doesn’t seem like a crazy trade off now, does it? Unfortunately due to America’s “freedom culture”, and distrust in the current administration and media, I fear that they will act too little too late.
Coming out the other side of this, the United States will need to undergo significant social, political, and financial reform. Over the last 100 years, history has perverted these systems in America. I hope after reading this series you’ll agree with me — they are broken.
The role of the elected government officials is to take care of ALL their constituents. Not to pad their own pockets or the pockets of large companies and their executives. The USA needs to return to its “good old days”, when it embodied those values.
So how does this end?
This story may sound unbelievable. Trust me, I really wish it was fiction. If we look at just how long our experiment in inflationary monetary policy has been around, it has been less than 100 years. For some countries, less than 50. Not a long time compared to humanity’s history with money that spans thousands of years.
Our little Keynesian experiment is in its infancy and it looks like it might fail.
Unfortunately, we’ve seen this scenario play out a few times before — people in power make a few poor decisions or get greedy, they print money to try and compensate at the expense of the taxpayers, and eventually people lose faith in the government, economy, or the currency, and the system fails. We might just be at that point again and it would be naive of us to think, “it could never happen to us!”.
I’ve focused on the USA because they are the economic super power and the US Dollar is the global reserve currency. Every economy is tied to it in some way. But it turns out, pretty much every country in the world has a similar system and is in a similar situation. It’s severity is just a spectrum.
We’re now in a period of time where all major world governments need to take bold action and coordinate their fiscal policies to make sure they don’t outpace each other’s money printing in the hopes of maintaining the current world order.
Ray Dalio, also mentioned this in a recent post. Like him, I think this is very difficult and highly unlikely, albeit not impossible. However, I feel more certain that we are headed for profound change.
At the end of the day, the US Government isn’t wrong when they put the phrase “backed by the full faith and credit of the government” on the dollar. They never lied. The system just became obscured by layering on additional complexity over time. Our global financial system has become an incredibly complex machine. Unfortunately, most people, including politicians, stopped paying attention and just put their “faith in the system”. A system that seems to have been flawed from the start.
Ultimately, money is really just about faith. Faith that it accurately represents the exchange of goods and services. It’s really just an easy way to record IOUs.
What these IOUs fundamentally represent is an exchange of scarce resources (land, minerals, energy, water, etc.), human effort (work hours), or the cost of this human labour to produce goods and services from these scarce resources. Additionally, now in the age of automation, we should also include machine effort in this list.
Nevertheless, if we lose faith in money’s ability to maintain this function because it doesn’t accurately reflect the value of people, machines, and resources, then it will lose all value.
I don’t know how this will end. I don’t think anyone does. I truly hope I’m wrong and in 1 year I look back on this as some great fiction.
Much like the Great Depression, and the collapse of the Roman Empire, should we survive, the Coronavirus and the events leading up to it will be studied for all of human history.
One thing history does tell us is that humans are resilient. It’s in our DNA to survive and innovate. That gives me hope.
History also tells us, that upon coming out of this hardship, people will flock to the most liquid, most trusted, and easiest form of money to acquire and transact with. Whether that continues to be the US Dollar, or we transition to something else, I do not know. I would not be shocked if the Euro or the Chinese Yuan usurped the greenback as the global currency in this decade. As I mentioned in Part 2 of this series, during WWI, Germany’s economy imploded in the same amount of time. A lot can change in 10 years.
However, this might just be our chance to further iterate and redefine what is “sound money”. I could see a more resilient global currency based off of a collateral basket emerging. Something like the IMF Special Drawing Right (SDR) or Facebook’s Libra. I could also see a case where we move back to currency based off the value of a scarce resource like gold, or hell, maybe even Bitcoin — which, at its core, is a proxy for energy that derives its value from the predictable supply, censorship resistance, and immutability.
My personal belief is that managing money at such a macro scale is too difficult for people and is a job better suited for computers. In order for this to happen, we’d need an Internet of Money — a digital record of transactions, with a native digital currency, such that computers can accurately determine (and manage) supply and demand. During the last financial crisis in 2008, this concept was born and released from Pandora’s box. It’s called Bitcoin. It may not be the solution, but the creator Satoshi Nakamoto has shone a light on the path to get there.
I’m not sure if we will get there… time will tell.
As history has taught us, humans seem to be incapable of managing such a complex system without corrupting it. Maybe we should let software try?
Once thing is for certain, the novel Coronavirus COVID-19, and the cascading ripple effect it will bring over the coming months, and years, will have lasting effects on our financial and social structures. We might just be seeing the perfect setup for a more secure, transparent, and borderless global digital currency.
About the author: Eric Kryski is a Canadian data & computer scientist and the CEO of Bidali — a financial infrastructure company that uses blockchain technology to provide better, cheaper and more transparent financial services. This year he spoke in Davos during the World Economic Forum on the future of money and is the chair of the Canadian Blockchain Consortium FinTech committee.
