Some of my friends have asked me how the current crisis differs from the dot-com meltdown and the recession that followed it. They asked, with a hopeful inflection, "Weren’t trillions of dollars lost in that whole debacle, and even though that recession was really bad, didn’t we get over it pretty quickly?"
Yes, it was an obscene, huge disaster. Trillions were lost, and like today’s crisis, it was the result of a massive, irresponsible bubble. Of further similarity, the damage was initially confined to one economic sector (tech then, and home lending this time), but the fallout subsequently spread over the next year or two to the rest of the economy, resulting in a widespread and deep recession. Importantly, we did recover from that recession fairly quickly, especially when you consider that the recession was exacerbated by an event, namely 9/11, that obviously had no connection whatsoever to the dot-com meltdown. That said, to be fair, it is also important to remember that the recovery from that earlier recession was made possible at least in part by the credit-fueled bubble that we’re currently suffering from.
So, will the recovery from this recession also be quick? If not, what’s different this time?
My feeling is that the current government-sponsored stimuli will lead to the appearance of recovery for a time, but it won’t be sustainable. Why? Because all true recoveries are born from the failure of the weak, and the redeployment of sidelined assets (including human assets) in the creation of new goods and services that consumers really need and want by viable businesses with the know-how to cost-effectively leverage those assets. In other words, financial capital (whether it comes from investors or taxpayers) must be deployed in ways that will generate true demand in order for economic activities to be sustainable. Government-sponsored spending initiatives don’t do that. Why? If they were viable, sensible investment opportunities, investment capital would have already found its way to them.
In the dot-com meltdown, the likes of Webvan, Pets.com, and Kozmo.com were allowed to fail. Shareholders and bondholders lost billions, but there were no bailouts. Their business models were flawed from the get-go, and there simply was not enough demand for their services to make them viable long term. Death was a fitting and proper solution, and the hordes of tech workers who had been wasting their time creating animations of gerbils jumping through flaming hoops were provided an opportunity to move on to the likes of Apple, Cisco, Google, Salesforce.com, and countless other enterprises old and new to create new products and services. Had the government propped up Webvan with billions of dollars to build additional unneeded warehouses, where would we be today? Of course, there was that painful couple of years in which businesses and consumers hunkered down, cut costs, rebuilt their financial strength, and regrouped strategically. That was no fun, but the healthy emerged from that period stronger, leaner, and more focused on providing true value to the consumer.
Today, unfortunately, we refuse to take the pain and we are propping up the weak, afraid to face reality. Insidiously, those who have been in bed with Wall Street for years have been put in charge of cleaning it up, so no real progress will be made until all personal favors are repaid and the players move on to their vacation homes on Long Island. So, rather than promoting failure and a healthy redeployment of assets to capable stewards of those assets, we are left with zombie corporations that will need, in Treasury Secretary Geithner’s judgment, $2 trillion of additional funding to survive. (Geithner is one of the bad guys, by the way.) In the meantime, while we’re trying to resuscitate those zombies, we plan to spend trillions more on bridges to nowhere (i.e., “shovel ready projects”) and other social programs that are destined to become anchors around taxpayers’ necks, as our politicians will surely find ways to turn temporary stimuli into permanent entitlement programs. When all is said and done, we’ll be no better off. Our economic engines will not be refueled, the corrupt and incapable will still be in charge, the casino mentality responsible for this mess will be allowed to return (if not facilitated outright), and we’ll be saddled with $10 trillion more in national debt, with no obvious benefits from its expenditure. Hence, these are the reasons why the recovery will not be sustainable.
Capital is precious, and it must be used in ways that will provide returns. Life support for zombie corporations, bridges to nowhere, and high speed trains to Las Vegas don’t provide a return on investment. Like information, ideas, and humanity itself, capital needs to be free to find its proper place. It needs a home where it can prosper and multiply. Ineffectively deployed capital needs to be allowed to move to a new home, as it did following dot-com mania, the S&L crisis, the “Asian Contagion” currency and credit crisis of the ‘90s, the oil patch meltdown of the early ‘80s, the foreign lending crisis of the late ‘80s that almost took BofA down, and the LBO junk bond boom-bust of the ‘80s. (See, there’s really nothing unusual about crises. We have them all the time!) All of those crises were considered devastating at the time, but they ultimately had no long term ill effects. On the other hand, the current blueprint for recovery was tried in the U.S. in the ‘30s and in Japan in the ‘80s-‘90s, and the outcomes then, respectively, were the Great Depression and the “Lost Decade.” I wouldn’t call that a blueprint for success.