A Review of Soros and the Bursting of a Super Bubble

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This is a guest post by Richard Vague, a Republican business person concerned about the economic consequences of the Iraq War. Richard Vague is Chairman of “American Respect” and authored Terrorism: A Brief for Americans.
In George Soros’s new book, The New Paradigm for Financial Markets: The Credit Crisis of 2008 and What it Means, you get three short “books” interwoven into one. The most central is an enhanced statement of his reflexivity investment theory, the second is an analysis of our current financial crisis complete with investment recommendations, and the third is a brief but vivid history of postwar financial markets intertwined with Soros’s own story. This book ranges widely, from the origin of conglomerates to a discussion of Enlightenment philosophy, with doctrines of falsifiability and radical fallibility mixed in for good measure, but is lively at every point along the way.
Soros calls his central economic theory the concept of reflexivity, and contrasts it against the rational expectations theory that he contends is utilized by most economists–as well as by most investment valuation models and synthetic investment instruments. In rational expectations theory, the economy can be studied like a natural science, inputs have predictable outcomes, markets are self-correcting and tend toward equilibrium.
Soros views this rational expectations theory as dangerous, primarily because of the certainty it presumes–and sees it as part of the reason we find ourselves with our current economic crisis. Soros instead states that investors’ perceptions and behaviors change outcomes and therefore have an inherent circularity, with the result that markets are often wrong and outcomes are always uncertain. Two examples: 1) people buy stocks in anticipation of future share prices, but those prices are contingent on their expectations, 2) lenders extend credit based on a belief in the value of underlying collateral, but the act of lending itself can diminish the value of that collateral.


Ultimately, Soros’s theory suggests a level of constant uncertainty that requires an equally constant vigilance on the part of investors, lenders, policymakers and regulators–especially as regards the level of leverage in the financial system. As relates to investment strategies themselves, given reflexivity, Soros suggests an approach that seeks to identify dislocations or “fertile fallacies”–the divergence between reality and the participants’ perception of reality– and invest to take advantage of those dislocations.
As regards our current situation, Soros’s pronouncements are dire. He states that we are in the midst of the worst crisis since the Great Depression (somehow I don’t recall the President saying that), and forsees inflation, and the continued weakness of the economy and the dollar, all contrasted against the strengthening of China, India and oil-producing countries. He sees our current situation as being the result of not one “bust” but two. The first is the housing bust and the second is the bust of a more structural nature that he calls the” longer-term super-bubble.”
This super-bubble theory contends that during the last several decades, the US and its corporations and citizens have essentially fully leveraged themselves across the entire financial system and therefore the entire system is on the brink of a breakdown. He contends that one outcome will be a structural diminishment, however large or small, of U.S. global financial leadership. During the writing of the book, Soros begins to make investments based on his new prognosos–with underwhelming results. We can only hope that he will keep us informed.
An analysis that Soros did not include that could have strongly supported his thesis is an analysis of basic population trends themselves. In the 60s, the nation could experience a bust and grow out of it because our population was growing rapidly. Furthermore, we were the center of the financial universe because we were the center of the population universe. We had more people than any developed country–and while China and India had greater populations, their per capita GDPs left them economically marginal.
Today, our population growth is low, so we have a harder time of “outgrowing” our busts. And while we are the still the third most populous country (and a distant third at that), now that China and India are rapidly increasing in per capita GDP and overall economic prominence, our economic hegemony is at risk. After all–the reason the U.S. dollar replaced the British pound as the world’s currency was that we grew larger than England.
While Soros invokes the Great Depression, the more relevant comparison may be to the post-Vietnam era of stagflation, which was the second worst economic period of the 20th century, and is more like today’s period than was the Depression — e.g., staggering levels of debt, inflation from financing a war, and the inevitable accompanying rise in commodity prices.
One other note–in spite of the blame Soros apportions for the housing crisis to policy leaders and complex financial instruments, I would submit that it took very little sophistication to detect the coming mortgage crisis. All that was required was to look at the total balance of mortgage loans outstanding–in reports readily and publicly available–which clearly showed an unprecedented and massive rise in mortgage debt. The tsunami was easy to track–the participants just rationalized it away.
Overall this book is an enjoyable, timely and important read from an extraordinarily successful investor. While others may debate his theories, this book is filled with useful information for the policy maker and investor alike.
– Richard Vague

Comments

7 comments on “A Review of Soros and the Bursting of a Super Bubble

  1. rapier says:

    America will not accept being less than number one economically. That means continuing to dominate global financial flows to our advantage, keeping all our debts dollar based and making sure the dollar is acceptable as the currency accepted for our import purchases. Along with other things of course but I pick those as important markers totally off the radar of most.
    Our relative economic superiority has declined every day since the end of WWII and that we can continue to live with as long as we are #1. No longer being #1 is something beyond the conception of our elites and for the most part our populace.
    It is not understood by even the most ardent neo cons that American militarism is a reaction against our decline. If we destabilize the world or blow parts of it up then we remain the ultimate safe haven. The dollar remains king. Our assets remain by default the most preferred. If the economic decline as seen by Soros and so many others continues then in all probability we will proceed to with demonstrations of our military might.
    Iran and North Korea are in our sights. Outright belligerence could begin with China any day we choose. (The original Cheney plan) Further drift from ‘Old’ Europe should be expected. Nuclear weapons will be used eventually.
    The unsustainable nature of our debt based system has always been easy enough to see. That system however was fantastically favorable to the financial and corporate elites so they let it run as long as it could. They might not have consciously understood that our position was implictly backed up by the barrel of our guns but now that such is becomming explicit they will come aboard.

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  2. PissaedOffAmerican says:

    Hmmm, make that THREE in South America.
    http://www.iris.edu/seismon/

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  3. PissedOffAmerican says:

    8:30 A.M. Sunday, on the West Coast, and today has already seen five quakes of magnitude 4.5 or greater on the Ring Of Fire. Two in South America, one on the Bering Strait, one in Indonesia, one at the Loyalty Islands, and one near Japan. The Ring Of Fire is blazing, and one of the world’s largest economies, California, is right on top of it.
    How wise is it for our leaders to take us to the edge of an economic abyss, and commit the bulk of our National Guard to this ill fated disaster in Iraq?
    Taxation without…..
    ….representation.
    ….security.
    ….governmental accountability.
    ….national soveriegnity.

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  4. easy e says:

    http://www.cnn.com/2008/WORLD/meast/04/12/iran.explosion/index.html
    As the sheeple continue to sleep, black-ops are succeeding on behalf of the new reich. Just a matter of time before this Horror Show and Ring of Fire combusts to the next level.

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  5. ckrantz says:

    As I understand Soros. In short the rational investor and with it much of what is current economic orthodoxy is based on false assumptions. Soros is basically questioning the idea of the self regulating free market and the hidden hand that is supposed to correct it.
    A somewhat revolutionary concept in some circles I belive.
    What makes it the worst crisis since the 1930s is the accompaning crisis or sclerosis in the political system in many western countries and international structure built after www2. A system built with the US as its anchor. A leadership role the Bush administration left. And of course the US is leveraged and with it much of the global economic system.
    What happens when the american consumer stops buying consumer products on credit from cheap factories around the world? In a global system based on a high value dollar and the american economy as a motor for products it would have an impact.

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  6. Tony Foresta says:

    The current economic crisis is a result of many decades of corporatization of the US economy, compouned by seven years of Bush government predatory economic policies robbing from poor and middle class Americans to feed the superrich. Trillions of the peoples dollars have been redistributed out of social services, entitlements, and public assistance benefiting the people and ruthlessly funnelled into the offshore accounts and select cabals, cronies, klans, and oligarchs in or beholden to the fascists in the Bush government. Private and government warmaking, oil, energy, agricorp, pharmaceutical, and financial oligarchs pillage and expropriate the peoples money, (in the form of government largess), – while poor, and middleclass Americans (the latter being the heart and engine of the American economy) have suffered from stagnate wages, absolutely no labor bargaining power, diminshed job opportunities, a brutal reduction in home equity, monsterous government and personal debt, and a radical increase in core cost of living outlays, particularly housing, healthcare, higher education, energy, gas, and insurance costs.
    We are in the midst of the 4th Reich, and the unabated nazification of America. The superrich are and will prosper obscenely and wantonly, – but the rest of America and particularly the heart and engine of America (a prosperous middleclass) are and will be oppressed, virtually enslaved, denied our former rights, freedoms, privileges, and protections, and relegated to the status of former thirdworld populations.
    This horrorshow will have global impact and implications all of which will further entrench the power and engorge the wealth of the predator class, and the fascists tyrants and thier warmachine.
    Any nation that systemically abandons and deprives the majority of that nations children (particularly the notrich notwhite children)is doomed. There will be a balancing, and a reckoning.
    “Deliver us from evil!”

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  7. PissedOffAmerican says:

    Steve, check your link to the “American Respect”, it seems to be inoperable.
    I love how these economic predictions, theories, and strategies imply a control that mankind has never quite mastered.
    The Ring Of Fire is currently blazing. Considering how these destructive eight years of a criminal and malfeasant Executive administration have brought this nation to its knees, do you suppose we could survive, economically, an 8.5 earthquake on the West Coast?
    Somehow, I sincerely doubt it.
    http://www.iris.edu/seismon/

    Reply

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