Saturday, 12 July 2008

Is the credit crunch a new kind of breakfast cereal?

Legendary investor Sir John Templeton said that the four most dangerous words are “it’s different this time”.

Sadly, history shows that each time these words are uttered, it turns out that what seemed to be an economic miracle was yet again a bubble fed by a seemingly insatiable appetite for debt. The international Monetary Fund recently said that the UK housing bubble looks even more overvalued than the US one, and that the world risks a “severe global downturn” as a result of the credit crunch.

When credit bubbles burst, the primary asset, this time housing, tends to fall in value by between 50% and 90%.

Japan began its own descent into the bust in 1989, and despite interest rates at zero, low unemployment, little room to build and a population of inveterate savers, it has fallen well into that range of price drops in both shares and housing.

The technology stock bubble that bust in 2000 saw falls of around 80%. The Wall Street Crash in the 1930s saw stocks fall by 89%.

The South Seas and Mississippi bubbles, the Canal Stocks and Railroad bubbles, and the Tulip Bubble itself all savaged their investors with falls of such magnitude.

It appears that every third generation must relearn the lesson that debt makes a treacherous friend.

When Satyajit Das, an expert of 30 years who designed many modern derivatives, was asked whether the credit crunch was now in its third inning, he laughed and said:

“We’re actually still in the middle of the national anthem in a game destined to go into extra innings.”

oh deaR

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