There is a blog called hypertiger wisdom that talks about the bottom being sucked dry by the top, which isn't entirely true, but it hints on what the real problem is once we reach the point of deflation. I have known for years that what causes a deflation is a lack of credit going forward. There is more. I believe the Keynesians thought that it was one group of people having too much money and the other side having not enough. This goes deeper than this simple equation, as there seems to be a troubling idea that giving money to people to spend hasn't solved this in the past. Some think public works or war should be employed to create this new demand, but in the form of public works, it is clear that this hasn't solved anything in Japan.
This is my theory and I believe it is a good one. Time goes on and more and more money becomes concentrated in fewer hands and the debts of those that don't have money get larger and larger. As a result, the capacity to profit from doing businuess suddenly becomes difficult as there are fewer and fewer customers among the lower side of the income scale. Since the upper income people are usually either employed or own the businesses, they are left with being their own customers. I know I am going to have to work on this idea because the entire game is complicated and the fact is that recovery could never take place if this theory is true. But, then again, this might explain the societal collapses we have seen over history, that commerce eventually gets to where it can no longer function and the leaders run out of solutions.
There is something to be said for business as a whole that employs a group of employees and makes money. This implies that business has to make more than it pays its employees. But the problem is the employees and the other business owners are the customers of the businesses as a group and their expenditures have to be greater than their pay for something to be left over. This would be true whether we are talking about a single country or the world, as something would have to give.
What we are really saying here is that the upper class can't pay the lower class and make a living off itself. We have reached the point of maximum profit potential and now moving to a lower level of profits and probably to no profits at all. There cannot be profits greater than the sum of payments for ever. We can only have them for a time.
An example might be drawn out of the California housing bubble, where the cost of owning a home so far exceeded the rent the home would provide that the bubble collapsed in on itself. Also, there wasn't another sucker with enough money to buy out the last sucker, thus no one to sell to for a profit. Since this was all financed, it went on as long as the financing was being provided to someone. Once the cost of providing financing exceeds the income from providing financing, the financing leaves. At some point, those that owe money reach a point they either cannot pay it back or cannot keep up the payments and common sense prevails.
I am going to do a post on how the Dow is going to finish this mess, most likely under 1000. This is something that few believe possible, but I believe it is going to happen. The reason I believe it is going to happen is the government is out of real tricks. The debasing of the money and allowing banks what was almost infinite credit has already been done and the banks are now at a point where they cannot collect their assets to service their liabilities. The under class and in a lot of cases, even richer people are going to be forced to either pay or declare bankruptcy. If they pay, they won't be spending. If they declare bankruptcy, the bank incurs a reduction in capital which reduces its capacity to lend more money. In either case, the amount of money available for creating demand and profits for business has declined. This is even more severe when the businesses themselves are in the position of the prior mentioned consumer.
We have reached a point where legitimate demand cannot support prior profits and the value of business declines. Unlike hte typical middle class person, most well to do people know that they need to match income with outgo and thus they don't let money slip through their hands. Their enterprises depend on them having money to operate. If they spent all the money, there wouldn't be any capital spending and if they spent all the money on capital spending, there wouldn't be the demand for the finished product, as demand is already insufficient.
The current government efforts are being concentrated on the ends of this problem, the capitalization of banks and the demand from the lower end of the income scale. This is clearly a right now solution, but it doesn't fix the math problem that has been present since the beginning. At best it provides government debt in return for consumer debt. If the consumer spends the money, the banks probably need more bailout funds and if they pay the debts, the level of business activity declines.
The American public isn't ready for what will be necessary for government to put out in order to reverse this problem. The real problem is collateral has either been used up as is the case with home equity or the value of assets have imploded to the point that they no longer merit more money being loaned against them. Or course, there is only one place to get the money to pull off such a series of transactions and that is business and its owners. Thus we are looking at a solution to prevent collaspe that will eventually lead to a collapse.
We are quite probably going to the bottom on this one and this will require the total reconstruction of the economy as we know it. I cannot see government morons running the business of the world, as they would lose sight of what was needed and lead the human race down roads that would lead to starvation and war. Profit motive and having the door open to the masses for success is probably key to the survival of mankind. Otherwise, genocide is going to be used as a solution as it always has in totalitarian economies. So, capitalists and mild socialists are going to need to get together on this one or we are all in a mess.
I am going to suspect that the government is going to end up with the banks. They will also end up with the bad loans and the liabilities of the banks. I don't believe they can keep rolling the banks and expect them to stay in business this time. We have reached the point where debts probably can't be paid without government help and what eventually happens here is the government eventually becomes the debt. I am not sure they will allow this to occur.
The point here is that enough people in society have to hock their future in order ot have a present in business. This is probably a perpetual flaw in capitalism. Hypertiger calls it an I want to be a rich guy tax, but I suspect it is just as much I want it now tax and neither side of the equation wants to give. The point about the US is the American consumer and worker have taken both sides of the equation to the extreme. The other point is that the US had been the demand for the world or the financier of the world for the past 60 or so years, which means the rest of the world goes with us.
If the government would come up with a ways to start this game over and exacty when to do so, we could probably go on and on with it. It is clear that the value of all assets are probably in shrink mode, but it is also clear that the bank liabilities are going to have to be liquidated at some point. The other effort, to keep the bubble inflated isn't going to work and is going to destroy the US for once and for all.