Devil Take the Hindmost

After reading this book, I’m convinced that humans are programmed to not learn from history.

Devil Take the Hindmost: A History of Financial Speculation
Devil Take the Hindmost: A History of Financial Speculation by Edward Chancellor covers financial speculation from Tulip Mania through the LTCM crisis of 1998. The book was published prior to the dot-com crash. Even though I found the early chapters a bit dry, the second half of the book provided an excellent overview to many of the financial disasters of the 20th century.

The most interesting chapter was Kamikaze Capitalism: The Japanese Bubble Economy of the 1980s. Listen to these characteristics of the Japanese economy at the end of the 1980s.

  1. Property values soared to records.
  2. Homes purchased with exotic loans (100-year mortgages).
  3. Low import prices kept inflation low.
  4. Rising asset prices caused an increase in spending (Wealth Effect).
  5. Cuts in income taxes.
  6. People borrowed against the equity of their homes.
  7. Consumer debt increased.

That list reads as if it were the United States from 2002-2007. After the bubble burst in Japan, they started a long period of deflation. I use the term deflation to mean a contraction of the money supply, not falling prices, which are a symptom.

What happened to Japan in 1990 looks like what is happening in America in 2008.

  1. Falling stock and real estate prices.
  2. Insolvent financial institutions.
  3. Banks with a growing amount of non-performing loans.
  4. Fear of risk and rush to Government Treasuries.
  5. Decreased consumer spending.
  6. Recession

The Japanese spent over a decade attempting many failed policies to jump-start the economy. Unfortunately, this list looks familiar as well.

  1. Aggressive cutting of interest rates. This had the effect of foreigners borrowing money in Japan and exporting it to other countries to seek higher returns.
  2. Central bankers turned a blind eye to banks that wouldn’t write down bad debt.
  3. Fiscal spending packages (checks in the mail).

Almost a decade after the bubble burst in Japan, Standard and Poors estimated that Japanese banks still had bad loans of $1.1 Trillion USD. Perhaps Ben Bernanke would be wise to read this chapter. In a global economy where capital flows to seek the highest returns in a transparent marketplace, Japan’s 1990s is much more relevant than the United States’ 1930s.

1 Comment

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  1. It is my understanding that Japan had such a long dreary time of it because there was a lack of transparency on Japanese Bank’s balance sheets. We have the same problem here due to SIVs and “mark to myth” accounting practices.

    The Federal Reserve has rerouted the financial plumbing thru their auctions, since the Banks won’t deal directly with each other. This has resolved the short term liquidity crisis, but leaves the “shadow banking system” completely intact.

    The part that scares me is that I see no movement anywhere to force the banks to come clean and take their true markdowns. The SEC is even making the problem worse:

    Some banks are “walking dead” and would immediately be shown insolvent …but it is only going to get worse. Since most of the ARM resets are in 2008 …and it takes 15 months to end up at auction the worst is going to hit between 2009-Q1 and 2010-Q1.

    I see three possible scenarios:
    1) Banks come clean now. Since the SEC is making it easier to hide this seems unlikely.
    2) Come clean in a couple years after the true damage from the housing bust is better understood (i.e. how far did housing prices drop?).
    3) Drag this on for decades except for the ENRON-like exceptions that implode out of the blue from time to time.

    Anyway, I am very scared that we are indeed setting ourselves up for a Japan style recession. Fraud and too much leverage brought us to this place, but I think the biggest issue now is Bank transparency …and either no one is getting it …or they are conveniently ignoring it.

    Thanks again for another insightful post MAS!

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