However, much of the content of the conference was dominated by the role of markets and the financial crisis. Many of the speakers had the financial pitfalls in mind when they spoke about the problems being faced by poorer members of society. (For a definition, please click here – social exclusion .)

There was one speaker though, Josep Borrell, that addressed the issue much more concretely. Mr Borrell is former President of the European Parliament, so I think it is safe to presume he has some knowledge and insight to be applied.

He described the influence of the markets and how they are able to dictate policy to governments – albeit indirectly. This power to influence, by devaluing a currency when the financial policies of a government are not liked, is something that he called the “negation of democracy”.

He also highlighted the terrible inconsistency of large financial organisations and their market behaviour. The ability to punish governments in the financial markets by selling currencies down, having just needed a bailout, and using the bailout money to do it, shows the problems we have with markets currently.

If you would like to hear more, get it from the man himself. I asked him to elaborate:

I have had the pleasure of meeting Ann on a number of occassions and I can attest to her knowledge and commitment to seeing Europe become the economy that many of us hope it can be.

Ann writes:

Greek default and the risk of contagion: Has the time finally come for Fiscal Sustainability?

What can I say? There isn’t a person I know who didn’t see the impending Greek default coming. It’s a country that has had no strategy for generating growth, unfunded pension liabilities en masse, a bloated, inefficient state sector, poor educational institutions, and an abysmal demographic outlook. For years, these developments could be softened by borrowing ever more and running up an unsustainable deficit, currently standing at 120% of GDP.

The only real surprise with what’s happening now is the speed with which events are unfolding and how visibly unprepared Europe is, despite the fact that experts have been warning that this would happen for years. It infuriates me that up until now fiscal sustainability has been the exclusive preoccupation of a handful of economists. I have argued for years that just as we taught citizens the need for environmental sustainability, the same can be done for fiscal sustainability. People deserve to know what happens when governments go on spending binges, driving up public debt and shouldering young people and future generations with the expense of today’s excesses. Just like no individual can permanently live beyond his or her means, no state can do so either. And you believe Argentina can’t happen in Europe? You better think again.

What is a mystery to me is why this looming and well-known threat was never communicated to a broader public; why this was never made an issue on par with environmental sustainability; why it had to remain the exclusive domain of academic economists, when the repercussions were so clearly to be felt by society-at-large.

Back in 2006, the Lisbon Council tried to kick off a fiscal sustainability initiative, attempting to broaden the widely accepted concept of sustainability to public finances. There was mild interest and encouragement from the European Commission’s DG Economic and Financial Affairs. We even got to host then-Economic Commissioner Almunia for a keynote speech but it was impossible to sustain any kind of momentum in the ensuing months in the absence of political leadership. None of the subsequent EU Presidencies or the European Commission highlighted the issue of unsustainable public finances in a concerted and ambitious manner. I guess after making the Stability and Growth Pact more “flexible” in 2005, ruining public finances was officially condoned and member states thought they could just go on with their reckless behaviour.

Reading some of my editorials from 2006, I feel angry and ashamed about the path of fiscal ruin that we in Europe subsequently embarked on, and which I back then warned of:

“The [Stability and Growth Pact] has utterly failed to explain to the average citizen the need for future-oriented budget priorities, fiscal discipline and long-term sustainability of public finances. The ultimate price for today’s lack of leadership will be borne by future generations, who – unless something is done now – will inherit a system so loaded with debt and so burdened by interest payments that political room to manoeuvre will be remembered as a luxury of the distant past.” (From ‘Europe must take an honest long-term fiscal view’, Financial Times, 6 November 2006)

“If Europe wants to be a responsible and respected global citizen again, as we were when we embraced and advanced the concept of environmental sustainability, we must urgently take action and kick off a second sustainability movement, one that will prepare our public finances and social security systems for the cataclysmic demographic changes on the horizon. How can we expect the world to listen to our calls for environmental sustainability while we squander the precious fiscal resources of our children and future generations? The time has come to abide by the values and principles we claim to possess.” (From ‘ Now What About Fiscal Sustainability?”, BusinessWeek, 22 November 2006)

Rather than feeling vindication because I knew this crisis would happen one day, I frankly feel anger and frustration at our policy makers and the economists who advise them. It is their closed-shop mentality – either trying to keep bad news from the public in the case of the former or simply believing that it’s not their job to communicate more broadly in the case of the latter – that is coming to haunt us now. Imagine if we had kept the threats of climate change to a closed, secluded group of decision makers and experts. What kind of public action and acceptance could we have expected? The people of Europe will now pay a heavy price for years of denial and acquiescence. And perhaps, just perhaps, we will see broader public movement towards fiscal sustainability after all. It is a pity that we were unable to do this in the mature, pro-active way that advanced democracies should be capable of, and that we are now faced instead with top-down, harsh austerity programmes that will impact our lives for years and decades to come.

- Today (28th April 2010) the Lisbon Council has released an e-brief about the financial situation and the actions required to rescue the situation. The paper has been written by Alessandro Leipold, economic adviser to the Lisbon Council and a former acting director of the European Department at the International Monetary Fund (IMF) and can be found here.

According to the story, it seems that confidence in Wall Street is ‘on the line’. Which line would that be?

Perhaps it is the final line that an economy will not cross after being corrupted by personal and corporate greed, it has blown up it’s own residential property market, financial services and investment banking industries, borrowed trillions that it can never repay to the rest of the world, failed to regulate and govern and done it’s best to export this ‘business, economic and political model’ to the rest of the world!

Whew! Thank goodness there is a line after all…

When considering words like Enron, Madoff, WorldCom, Andersen, ratings agencies, NINJA loans, Bear Stearns, LTCM, Amaranth, financial crisis, bail out, unfunded liabilities, dollar weakness and many many more that your author cannot be bothered to list, there remains just two questions of interest:

1) Is there anywhere left in the world other than Wall Street where confidence remains in Wall Street?

2) How much of your pension fund, college fund for your kids education or investments in general that you own, are responsible for and can control, do you still have invested in the US dollar or United States?

I bet that feels like too much right now…

Both major parties seem to have been pre-campaigning on spending cuts, fiscal restraint and responsibility. But only one of the parties is in power and could actually be doing those things right now.

I suspect that the reason for New Labour being so slow to get the scissors out to public spending is political. If things are slow in the economy now, how much slower could they be if they used some restraint? Slashing budgets and spending over the preceeding 12 months would probably have made the recession even deeper and would not have helped their re-election prospects.

So the political imperative has been winning over the economic. For now.

But if the Conservative Party are elected with any level of majority, they will need to start wielding the scissors – and be seen to be doing so – immediately. This could easily be the start of the next ‘leg’ down in this recession. With public sector borrowing so high, this needs to have started months ago, but better late than never.

This might sound ‘doom and gloom’ of me, but the prospect of a devaluation of sterling, substantially increased inflation or a full-blown default on sovereign debts are not that unreal. Somehow, the UK needs to start dealing with it’s huge financial deficit before things are too late. They might be too late already, but there probably still is time to act and have a meaningful influence.

The real problem scenario lies in a hung parliament. If that were the case, the Liberal Democrats would suddenly become the most important people in town!

Broadly speaking, I quite support the occassional hung parliament. One problem with government – to my own slightly libertarian eyes – is that it always feels the need to act. But often times, doing nothing would probably be just as effective. The level of action is merely to give the impression of being vital and to justify an existence.

So when a hung parliament slows down the level of action, that can be a good thing for individual liberties and responsibilities.

However, at a time like now, a hung parliament would be a financial disaster for the UK. The one silver lining would be that Vince Cable would be propelled into a front bench position. Otherwise, any delay on financial restraint could be crippling in the long-term.

What are your thoughts? Do you have any insight into how bad the UK economy really is?

Perhaps once a month, when it is time to set interest rates, people remember faintly who you are and what you do. But things are so good that don’t even need to change interest rates for months at a time.

Life is good.

Then things go wrong. Your knowledge needs to be used to fix an economy. You need to prevent a recession. There aren’t many of you and yet you are there to hold back the tide of the global economy. Suddenly, you have the weight of the world on your shoulders and your ideas need to work. They were only theoretical before…

Now you need to try and explain words like ‘Quantitative easing’ to a sceptical public. Uh-oh. Trying to tell the world that fixing an economy with too much borrowed money by borrowing a much larger amount can’t be easy. It is like a pilot telling air passengers that this turbulence is normal. You hope, you want to believe, but you are still scared by it.

That Greenspan fella had it right. Get to the top. Stay there. Watch the bull market run and run. The world loves you. Then, see the problems coming on the horizon and retire quick!

Smart guy.

These days there are stories like this one about Greece and how it may – or may not – need a bailout in the news. Or whether Greece was helped by Goldman Sachs with fair means or foul.

Jumping in to rescue a bank is one thing, but a country? And the stakes are high! This isn’t about saving Greece. I doubt there are many European Finance Ministers that give a fig about the Greek economy. Their main interest will be in a nice summer holiday in Crete, not salvaging a nation. They have their own problems to ponder upon. No, instead, they are worried about the potential for the euro to become unstitched and the impact that will have on their own position.

Then there is Portugal, Ireland and Spain. Then Britain! Fixing this little lot won’t be easy. Can we all rely on the German economy? We don’t need a Central Banker, we need Superman!

Will the euro survive this? Or will other weak economies (the UK?) be forced to join for safety in numbers?

It seems that the biggest beneficiary has been Scotland. I’m not going to go along with the conspiracy theorists that charge two Scottish Chancellors of the Exchequor of expanding their financial pie to secure votes at election time. But it is easy to see why such theories exist.

It is clear that the policy works however.

Your author has been to Scotland about 10 times, with another trip due this summer, and the transformation is clear. Glasgow is now a great place to visit with lots going on, great shopping, bars and clubs and a modern and cosmopolitan feel. Contrast that with the Glasgow of the 1980s! Finding links from the 80s isn’t easy, so instead I offer this link and picture as my poor attempt at proof. Needless to say, the Glasgow of the mid 1980s was a very barren place.

The Scottish economy isn’t the most well diversified on earth. At least not to the poorly informed naked-eye of a tourist like me. Now that North Sea Oil is slowing down, tourism and agriculture appear to be the mainstays. Well, that isn’t quite true or fair. Edinburgh has a financial services industry of some note. And Glasgow now has a number of call centres for nationwide UK companies.

But somehow, somewhere – and it seems reasonable to presume that the NHS and education are the locations – taxpayers money is really being spent. This post from the SNP in December is trying to highlight just how badly impacted Scotland would be if the Conservative spending cuts were implemented.

But the recent news ( here on the BBC ) suggests that there will be significant cuts in public sector positions in 2010. With public debts rising out of control, changes are inevitable – so inevitable that even President Sarkozy is having to discuss pension reform with the unions! – but the outcome of the changes may be felt much more in some places than in others, making this recession much deeper in these areas.

My fingers are crossed that Scotland fares well. But I fear that my finger crossing may not be enough.

Well the story explains a little of the real numbers. As we must all have – at a minimum – suspected by now, governments have a habit of reporting nmumbers in the best possible light. With inflation we have RPI, RPIX, ‘Core’ rates and more. Over time, the subtle changes in methods of calculations make these numbers meaningless to most of us. This post by Greg Hunter suggests that US inflation – if calculated using the same method as in 1980, it wouldn’t be 2.7% but 9.7%.

Well it is the same with US jobless numbers. As you will see from the story, and from Greg Hunter’s post, the real number is likely to be much higher. The BBC thinks more like 17%, while Hunter (via shadowstats.com) thinks 21.9%.

(It is worth pointing out that while some statistics may change in the level of their importance, when they were first invented, it was with a reason. That reason was to measure something. It seems reasonable to presume that they were invented to measure that thing as accurately as possible. Therefore, most changes probably reduce the ability of the numbers to measure accurately. So when something is compared to the (for example) 1980 method, that method is probably a much purer reflection of the underlying number. End of rant.)

It is numbers like this that will ensure that public sector debt is stubbornly difficult to reduce and that this will be a very long recession.

There are two factors that make such statistics really meaningful. Firstly, we all know just how important the US economy is to the global economy. The longer and deeper this recession lasts for America, the longer and deeper it will be for all of us. This will not be easy to shift.

Secondly, there are many developed nations that ‘massage’ their economic statistics like this. If I happened to speak several languages and read several different nations major newspapers each day, I could probably quote similar situations in many European nations. But I don’t so I can’t. But there have certainly been changes to the way numbers are calculated in the UK.

How we – and I include government – are meant to deal with the debts of the world and this economic crisis if we don’t really understand how bad the problem is, I have no idea. Confronting the problem is the first step in dealing with it. But still, around 2 years in, we are unable to see the real numbers. It seems that we are still hiding behind lies and statistics.

The first major shot in what will probably become a global political war to reduce deficits has been fired. President Obama has announced a new budget which contains cuts to many areas. While the obviousness of reducing debt levels is hard to deny, personal and corporate interest will create mass cries of ‘not this’ to many of the proposed reductions.

The fact that President Bush’s proposals to get NASA really moving again are for the chop is being criticised, for example. It is hard to deny that no further space flight can be seen as a disappointment. But really, when you are forecast to owe US$1.56 trillion, do you really need to send Man back to the Moon? Aren’t there more important things to do with the money?

To make this seem a little more real, an example would be a family on the verge of bankruptcy, with a massive mortgage and other unsustainable debts. The husband has just been asked to take a pay cut by his employer and to celebrate, he bought a Porsche!

If your neighbour were in such a situation, you would – rightly – blame them for their financial demise. When they ought to be switching off the cable channels and looking for additional part-time work, they are spending big money on an unaffordable luxury.

Is it really so much different on a national level?

But this is the easy end of the scale. With such high national debts, there will be many more important projects that will need to be cut. In time, a couple of years perhaps, there will be medical projects, childcare, road safety and much more that will be dumped to stave off national bankruptcy. This will be happening in many Western democracies.

And in those same democracies, there will be political argument after political argument.

Of course, this will all be very tough for private investment. When state plans change, so will personal circumstances – possibly removing vital capital from stock markets – leading to knock on effects in areas I dare not try to forsee.

This is – to my mind – the real start of the hang-over after the party. So far, we have simply been getting home to bed. But the spiral down of reduced spending from governments, causing reduced spending from corporations and the public, leading to further reduced spending from all three will take a long time to balance. Just as the party was pushed upwards by ever increasing public sector spending – based in large part on borrowing – the recession will be exacerbated by it.

Hold on to your hats…

In a blog post from Davos, the Beeb’s Robert Peston discusses the thoughts of some of the world’s top bankers about the state of things now.

It seems that these guys agree with the opinions recently alluded to in this blog in this post about Public Sector Debt and this one about my estimates for the length of this recession.

I’d like to bring your attention to points 1 and 2. “prospects are particularly poor for the heavily indebted economies of the west” and “a meaningful risk of sovereign debt crises in economies with large and rising deficits“.

Why do I do this?

Because I am mean and like to write depressing things? Because I like poking fun at politicians and their lies? Because I like to delude myself that I understand economics?

Well, yes, all of those. Of course!

But this blog is aimed and written for investors. To be an investor – especially a successful one – requires a mindset that is realistic and sees the world as it most likely is.

Making poor judgements about economic conditions or business and market reality will most likely lead to buying the wrong asset or company and – sooner or later – losing money.

Therefore, we need to see the reality. And the reality is that more and more of the people that really ought to know, are starting to say that this will be a very long recession.

It is almost a year ago that I was involved in interviewing Paul Krugman where he called it ‘The Mother of all Recessions’. Despite being a Nobel Prize winning economist, the tide was against him – as he has published a book about depressions (a clear bias). But now the world is agreeing more and more with him.

In between then and now, just about every politician in the world has seen ‘green shoots of recovery’, ‘an end in sight’ and all sorts of other hopeful things. They can’t really say much else, of course. But as an investor, it is our job to see through the smoke and past the mirrors to get to the underlying reality.

What is that underlying reality?

It seems clear – at least to this amateur economist – that real GDP growth in major economies will be hard to find and that this recession will last and last. It also seems clear that we as investors need to think very deeply about how to best manage our finances. In a world where either inflation or deflation takes hold, the correct decisions will make or break family finances.

The low interest rate ’stimulus’ environment ought to have a finite lifespan and has probably built something of a bubble in stock markets. When cash on deposit earns less than 1% pa gross, why keep money in the bank? When governments are borrowing like a drunken Admiral, why buy or hold bonds? That, in combination with quantitative easing (I suspect) has pushed money into global markets when the majority ought to be selling.

We all need to be thinking deeply and clearly about our financial positions right now.

In The Economist this week (16th January 2010 – Economics Focus | Digging out of debt) is analysis and opinion of the analysis and opinions of another. The other in this case is a report about debt and global deleveraging by the McKinsey Global Institute. No lightweights here then.

Both report and article are worth the read if you have any interest in the medium-term economic future of the world.

As The Economist notes, there are only three ways to reduce the debt levels of us all (government, corporations and individuals) to a sensible level. They are default, inflation and a prolonged period of belt-tightening.

As you might imagine, both report and article focus on prolonged belt-tightening as the preferred route out of debt. It is fair to say that the prospect of countries such as Spain, Britain, the US, South Korea and Canada choosing default – and the consequences for us all thereafter – is not an appealing one. However, the elected officials of the day may well choose inflation as their preferred escape hatch. While this is obviously unappealing to economists and the general public, it may prove to be popular with government officials. Regrettably.

When looking at past examples of deleveraging, The Economist tells us that, “Typically deleveraging began about two years after the beginning of the financial crisis and lasted for six to seven years. In almost every case output shrank for the first two or three years of the process.”

It continues, “big increases in public debt, while cushioning demand in the short term, increase the overall debt reduction that will eventually be needed. Once private deleveraging is done, the public sector will need to cut back.” And closing with, “Investors may worry about the sustainability of public debt long before private-debt reduction is over, forcing a lot of belts to be tightened at once. The most painful bits of deleveraging could well lie ahead.”

Thus, it seems that more respected voices than mine fear that this recession could run and run.

The part of this that never ceases to amaze me, is the capacity of politicians to avoid the reality. The pronouncements about the recession being over have slowed a little to my mind in recent weeks, but that might simply be a change in focus to Christmas and climate change. Of course, the sales numbers on the high streets of the world have had their temporary December fix and so consumer spending has – at least in the very short-term – come to the rescue.

But the article seems to suggest – though not actually say – that this process of debt repayment will have the effect of dragging the recession out for more years than we are currently hoping for. Of course, the economists are saying something slightly different, “If history is a guide, many years of debt reduction are expected in specific sectors of some of the world’s largest economies, and this process will exert a significant drag on GDP growth.” which I think is the same thing…

Thus, my thoughts remain the same, if slightly enhanced. I know that recommending yourself is no recommendation at all, but I shall end this post as I ended the previous post, “What this all means is that we all ought to be managing our finances as if we may never see the good times again and that things are going to get much worse before they get any better.”