2008: The end of innocence
Probably the best thing to be said about 2008 is that everyone over the age of 30 can expect never to see its like again.
That is not to say that markets will never again fall on that scale. That is not what “never again” refers too. Indeed, there are numerous analysts – among the serious ones, who don’t work for banks and brokerages and therefore are not professionally and psychologically constrained in what they think and say – who expect that markets will fall by 50% or more, from current levels, before an eventual bottom.
And that’s just equity markets. What about government bond markets, which have achieved tremendous price rises this year as yields sank to levels considered unthinkable hitherto? Are not government bond markets the last great bubble, soon to burst? Maybe.
That is one of the key issues currently dividing serious analysts, and it is part of a much more fundamental argument about whether the outlook beyond the next three-to-six months is for deflation or inflation. Where you stand on that determines what you expect to happen in pretty much every asset class except real-estate.
But whether you think prices will double or halve, the one thing you won’t do ever again, after living through 2008, is to say about ANY market scenario that “it can’t happen.”
This was the year when supposedly impossible things occurred with increasing regularity, so that by year-end all existing notions of what is and is not possible have been either obliterated or turned on their heads. This was the year in which illusions, myths and entrenched dogma about markets, finance and political economics were all systematically destroyed – by the markets and by the politicians themselves. True, there are precedents, notably in 1929-31, but a systemic collapse of this magnitude cannot happen more often than once every two or three generations. The scars it leaves behind take that long to heal, but those who endure it or come after it are immunized for life.
So whilst nothing is impossible, the likelihood that we will see anything like this again is very remote – not because it can’t happen, but because it just did.
It’s worth making the effort to recall what the mainstream view was one year ago. It included the following:
a) the subprime crisis – as it was then called – would have a limited impact;
b) America would not experience a recession or, if it did, it would be short and mild, like those of 1990/91 and 2000/01;
c) the rest of the world, especially Asia, would “de-couple” from America and continue growing;
d) China, in particular, would continue to grow at double-digit rates;
e) the main threat to the global economy was inflation, driven by energy and commodity prices.
But that was just the consensus re the outlook. More fundamentally, what people – almost all economists and most of the general public – had been brainwashed to believe was that:
a) free markets are inherently good and government intervention is inherently bad;
b) this is the age of “the great moderation,” wherein sharp swings in economic activity no longer occur;
c) in particular, central bankers know how to prevent depression and deflation;
d) modern financial theory, specifically the ability to construct diversified and well-balanced portfolios, allow investors to achieve higher returns without exposing themselves to high levels of risk;
e) consequently, in the long run, equity is always superior to fixed-income, so that a buy-and-hold approach to owning equities will always prove itself.
These, of course, are just bullet-points – and a sample, at that; the whole page could be filled with additional ones. They can be summed up simply, however: the financial world that existed a year ago is as much history as the Seleucid monarchy that the Maccabees fought against. The ideology that underpinned this world is totally discredited; the institutions that promoted that ideology and built their business model on it have either gone bust, been swallowed up or are on government life-support systems; and the people who championed the ideology and/or led the institutions have gone from being revered to reviled – in the space of one year or so.
That is the main achievement of 2008. The general public, finance and economic professionals and even politicians have been forced out of la-la-land and back into the real world. That provides a basis – flimsy, no doubt, but currently that’s all we have – for beginning the mammoth task of rebuilding the global economy and its financial system. This task will get under way in 2009, but the focus of attention next year will be elsewhere, as the next column will discuss.