Friday, January 09, 2009

State of the economy

Here's my basic analysis. For the past 2+ decades we have been engaged in a self-inflicted Ponzi scheme -- during more or less the same period in which Madoff was doing the same thing but to other people. We (the entire world) did it to ourselves. We recently reached the point where it became clear that it really is a Ponzi scheme and that the money we all thought was there isn't. That's actually not a particularly complex systems issue. It's pretty straightforward. Lots and lots of people have a lot less money than they thought they did. (See this nice piece about bubbles.)

The question is: now what?

One of the interesting things about a financial crisis is that nothing is actually destroyed. No manufacturing plants are damaged. No power plants are destroyed. Nothing is bombed. The world's farm land has not been poisoned. Nothing physically has changed. It's just that a lot of people now know that they have a lot less money than they thought.

One thing that's happening is that people are a lot more careful about spending money. That ripples through the economy putting people out of work, which causes even less money to be spent, etc.

It would seem that it should be possible to achieve a new stable state. But no one seems to know what that state will look like or what can and should be done for people who are suffering during the transition. It's also not clear whether the monetary and fiscal policies are helping us get there.

So it seems to me that the basic questions are: what are the possible new stable states and how can we get there with the least pain?

P.S. By a stable state I don't mean a government-run economy but one that is in relative equilibrium -- but obviously not complete equilibrium or there would be no evolutionary progress.

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