Saturday, 13 August 2011

The economic conflagration and you.

So you dear reader are like me; employed in what seems a prosperous and thriving company, your income has not fallen and if you have any debts the rates you are paying to service them will have most probably dropped. So what is there to fear from the global economic conflagration and why is everyone so upset about it anyway.

There is an excellent book / poem (yeah you read right poem) called the grumbling hive, in this piece the author describes the entire economy like a hive of bees, millions of individuals bees labour and strive and the outcome of all the millions of individual action is the market. I sometime think that the global economic system looks to us as the hive must look to the bee. Oh we sort of know we are a part of it but when we look upon it we see something gigantic disorder and almost wholly detached from us.

So why should us lowly bees care about the giant economic hive. Well let’s start with are employed status. We receive money for are labour, we buy things with this which in turns provides other with their labour and the whole labour circle is entered in. The trouble is we only buy, when we feel it safe to do so. I.e. if consumer confidence is low people don’t like to buy stuff.
Yes, yes, all fairly basic stuff so what causes a recession, well first what is a recession. Every nation calculates the amount of business they generate called GDP, if GDP falls for 6 months (2 quarters) then you’re in a recession and they are common. Now there are many causes for recession; if we look at the most recent it was caused by massive levels of debt.

The current economic conflagration is caused by national government effectively buying this debt from the banks. Nations which were already in debt, incurred more debt to buy these banks and their bonds. Therefore national debt increased and the amount government paid for this debt effectively rested on their credit rating. As you know the better your chances of paying back the cheaper you can borrow; well it’s the same for nations.

So the amount nations had to pay (an amount funded by tax) increase at the same time due to lack of credit in the economy and decrease demand due to falling consumer confidence, unemployment level rose and thus tax take decreased. The worse this paradox was the worse a nations credit rating and the more likely they be unable to pay their debts (some owned to foreign banks) and thus the more likely these banks where to fail and thus the worse consumer confidence and higher loan rates.

This circle of contraction is normally slowed by the birth of new businesses and a expansion of government spending. The expansion of government spending is impossible as they have increasing problems merely servicing there debt and the growth of new business have been effected by the banking crises, which lead to a glut of credit in the system and a lack of consumer demand caused by economic uncertainty and high employment.

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