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The Shrinking US Economy:How Much Will It Shrink?

The past week has shown that the subprime credit mortgage crisis in the US has metastasized into something bigger, and is spreading into other parts of the economy, and is now beginning to affect bond markets in the US. This is a worst-case scenario gradually unfolding before our eyes, and the Fed under Bernanke and the politicians seem unable to do anything to stop it, which is why they talk so little about it.

The issue made me think about something. Several years ago, a report was issued (I believe it was Goldman Sachs), which said that the Chinese economy would become the same size as the US economy by 2040 based on current trends. The key term here is “based on current trends”, something which almost never happens, as things almost never continue smoothly in politics and economics.

The present crisis in the US is causing what I call a double shrinkage. The size of the economy is shrinking as highly-leveraged credit derivatives are slowly worked out of the system. As these derivatives, which were as good as cash just two years ago, creating more money in the system than the Fed are worked out of the economy, the GDP of the US economy will shrink. It is not a question of whether it will shrink, it’s just a question of how much. That is something the market, the politicians and policy-makers are figuring out.

But it does not shrink just on the GDP level, it also shrinks on the US dollar level, which has been losing value steadily, and will likely continue to lose value as US interest levels fall. (The problem for the Fed is that although interest rates have fallen, US banks have tightened up their lending qualifications.) This means that US goods will become cheaper, and more foreigners will go to the US to buy real assets.

Roger Ehrenberg has written an excellent article about what US headlines will look like over the next 2-3 years on his Information Arbitrage blog. No wonder that even companies like Apple are looking overseas for sales growth in the face of slow growth in the US market.

This takes me back to the report which talked about China overtaking the US economy by 2040. The report did not take into account the shrinking of the US economy on both the GDP and currency levels. If the Chinese economy continues to grow and the US economy shrinks, isn’t it likely that the Chinese economy will overtake the US economy much sooner than 2040?

Of course, there are a lot of variables. Can China continue to grow at a brisk pace without a healthy US consumer economy buying Chinese exports? And what can the Chinese government do to curb inflation, which is growing faster than in the past 15 years?

We will find out…eventually.




10 Responses to “The Shrinking US Economy:How Much Will It Shrink?”

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  2. [...] jiHymasnH(The travail for the FRS is that though welfare rates impact fallen, US banks impact tightened up their effort qualifications.) This effort that US whole power improve cheaper, and more foreigners power go to the US to take actualised assets. … [...]

  3. Andron says:

    Excellent article. Im looking at some of these stuff for my website right now.

  4. trevelyan says:

    >As these derivatives, which were as good as cash just two years ago,
    > creating more money in the system than the Fed are worked out of
    > the economy, the GDP of the US economy will shrink.

    Disagree. The Fed is doing the only thing it can to prevent the US from falling into a liquidity trap. This is keeping the monetary base stable at the expense of impressive inflation (commodity markets are already swamped). Unless some major banks start failing US GDP shouldn’t shrink significantly, although it will probably grow slower than population growth. What we’re getting instead is the appreciation of pretty much every currency against the USD and rapid “GDP catch-up” by countries just because of changes in the value of the USD.

    I’ve been hearing from some friends who work quant that they’re predicting the USD will stabilize at 6:1, but when I press them for numbers they’re evasive, and I get the feeling that a lot of these predictions are mostly guesswork (pick a low figure, and far enough away that estimates can be revised as appropriate) than actual substantive calculations, even back-of-the-envelope ones.

    Until the US gets its fiscal policy and trade deficit under control I can’t see much cause for long-term reversal. And it’s a major political problem. I’m hearing a lot of Democrats complain about how Clinton’s economic policies in the late 1990s “enabled Bush”, which suggests that the mood is turning ugly. If the Democrats stop being the party of fiscal sanity the whole country will probably end up in a handbasket.

  5. neil signo says:

    Big Fat Joke!
    The USA economy when measured correctly will tell you the same as in China.
    Since the beginning, small companies, farms were in large numbers. These small companies to reach other areas about 40 miles, a 1 hour drive to every customer. The business of re-label, and OEM was created for technology companies as large as Ford, Sanyoung, Motorola, … In the area of clothing and food there is the legendary McDonalds, Pink’s Los Angeles, Marriot, Hyatt, Wendys’, Pepsi, and Coca-cola. Even Dole and Del Monte.
    These financial anaylsts are walking on ‘dreams’ most companies in the USA are small, the person just cant drive 1 hour to get food, office supplies, and it cost too much to deliver.

  6. Tony Vario says:

    The economic downturn as seen in New York these last two weeks will eventually cause the fragile American dollar to dive, probably causing the Canadian Dollar, and other currencies to gain substantial strength against the US dollar.

    The rescue plans by the US government to help some of it’s financial institutions to not go into complete bankruptcy is merely a “band aid” solution to an inevitable problem at hand – The failing US Economy. Everyone is so afraid of uttering the word “recession” or most probable the word “Depression”. This downward spiral in American confidence will eventually have dramatic consequences to the American economy probably creating a crippling recession. Canada on the other hand will weather the storm, as the Canadian financial institutes have not followed it’s US counterparts, thereby the Canadian economy is much more stable than that of it’s US neighbors. I would in fact loose sleep and begin to worry a lot if I had money tied up in any US dollar portfolio.

    My prediction is that the US dollar will probably fall by as much as 15% against all major currencies within the next two months

  7. Tony Vario says:

    With regards to my postings regarding the US economy. I believe my predictions are on track as outlined in the exchange rate. Both the Canadian and the Euro has climbed during the last sessions, and will show substantial growth within the next two months.

    My predictions – buy Canadian Dollars, Buy Euros. These currencies will probably be the currency of choice

  8. TONY VARIO says:

    President Geo W Bush is pushing congress to adapt a policy in which there would be a $700,000,000,000 bail out program. This program will only be a band aid solution to an inevitable problem that will come up again once all funds have been used up by the administration at these financial institutions. What is required is to stimulate the economy so that citizens will have the confidence to spend and invest again – something that has not been happening.

    Hand the funds ($700,000,000,000) over to the people of the USA. Let us assume that there are 100,000,000 people in the USA that fall below 150,000 per year in household income. Why not give $7000.00 to each of these individuals that fall below the “Threshold” to use to pay down their own debt or to buy appliances or cars or anything that is manufactured exclusively in the USA – this is what stimulates the economy – it is measures like this that get people investing in the country again. Mr Bush just does not get it. You cannot get the financial institue to start creating revenue unless there is confidence – he is merely putting up a smoke screen to show his government cares. This seems to be another one of his hair brain ideas just like the on e that put the US into war with Iraq and Afganistan again drawing out hundreds of billions of dollars from the people of the USA.

    These policies will indeed drive the US economy into the ground – I maintain the US dollar will weaken again because of these poor measures

  9. Tony Vario says:

    Today marks one week of financial turmoil in the world markets, a fictitious and fabricated recession – only one problem with that specific wording – The only country that truly has any problems is the USA. These financial companies must get a grip on themselves – they are no different than our own households. When things go bad with household income – the leader of the house or the person that runs the household, makes decisions in order to curb the losses sustained. This is not evident with the US financial institutes – they have been mismanaged for years, and now it has reached to the point of no return. Yes, many will say that banks and lending institutes from abroad have also contributed to take a loss – this is only because these financial institutes took risks – it could have been profitable and non of us would have heard of any repercussions when earning billions of dollars – but now that they have lost, and they ask for hand-outs, we now hear of the problems related to hard economic times. – well ladies and gentlemen “Business is business”, and it is unfair for governments or countries (via the backs of tax payers) to bear the brunt and contribute in order to keep these companies afloat. If these financial institutes have made bad decisions – then they should be allowed to fail. Had any of us faced the same consequences – the banks and governments would have allowed us to go into bankruptcy – they should be no difference. These governments have absolutely no right in allowing any bailout programs.

    The Canadian Government as well as the British, Italian, German, Iraqi governments should all stand and spell out that their counties do not have the same financial problems as the USA, and that these financial problems are solely the USA’s problems, and the USA should not drag other countries down with their financial worries

    Stock markets around the world should not be reacting negatively, instead Canadian, Italian, British, German and most European countries should all be booming.

    The media has done an excellent job securing fear in the world markets

    Facts – the USA has more debt than any other country
    The USA continually spends billions on a war that they should not be involved with
    The USA will never be able to pay off its debt in our lifetime

    These are the facts