Credit Cycles & the Rise of Inequality, Populism and Trade Protectionism
Updated: Dec 15, 2022
Where are we headed socially and economically
Economic cycles are inevitable..and we seem to be on the verge of a new one in the coming year or so (no one can really say), so it pays to understand the fundamental forces that drive a cycle and what has the world been suffering from in this past decade.
The Credit/Debt Cycle
The stages of credit available to borrowers are described by a credit cycle. Credit cycles begin with periods where money is readily available and cheap to borrow; these periods are marked by lower market interest rates (due to central bank intervention) and less lending restrictions, resulting in a general growth of economic activity.
These times are followed by a reduction in the availability of money as financial institution risks rise, pushing central banks to begin raising interest rates. In addition, lending standards are tightening, resulting in fewer options for business loans, home loans, and other personal loans.
The contraction period lasts until the lending institutions' risks are decreased, at which time the cycle bottoms out and begins again with renewed credit.
Credit/Debt cycles occur on short term (7–10 years) and long term (70–100 years) scales.
When an economy is bloated with debt and risks a breakdown, it's time to pay up/reduce the debt burden. Governments can act in a variety of ways to do this, the most common of which are:
Cut spending: people, businesses and government cut spending (2011 austerity measures in Greece, Italy, Spain, Ireland,..)
Reduce debt: through defaults and debt restructurings, the amount of debt in the economy decreases
Redistribute wealth: usually by increasing taxes on the rich to fund government spending for social security and projects. The first three measures are deflationary (i.e reducing economic activity) and create a lot of political unrest due to to the people feeling less well off (poorer).
Print Money: the central bank starts printing money to stimulate spending and maintain a healthy inflation to balance the first three deflationary tools
The Widening Wealth Gap
The problem here is, that most of the measures mentioned, benefited the holders of financial assets which are disproportionately the rich in the society. This has led to a rising wealth gap in most countries ever since.
These indicators may help us understand a few sociopolitical trends that have started rising ever since, mainly trade protectionism and populism/nationalism.
The Rise of Populism
In data released back in March 2019, the international network of academics have highlighted the extent of the rise in populism in the past two decades by analyzing speeches — through textual analysis — by key leaders in 40 countries during this period.
This latest wave of populism, fueled in part by the global financial crisis, has left a larger footprint than possibly ever before, according to the research. As a result, according to the data, about 2 billion people are now controlled by "somewhat/moderately populist," "populist," or "extremely populist" politicians, up from 120 million at the millennium's start.
Taking the US as an example, we can see the impact of the wealth gap on the rise of populism as it compares to the 1930s right after the great depression.
Trade Protectionism and the Decline of Globalization
The decades-long structure of rules and regulations that has governed global trade is now in jeopardy.
President Donald Trump has shook the foundations of global commerce by imposing hefty tariffs on items worth billions of dollars from the EU, Canada, Mexico, and China.
Many analysts argue that the rate of globalization expanded so rapidly between 1990 and 2007 that the global economic crisis of 2008 exposed the dangers of too much integration, interconnectedness, and interdependence.
Many regard this as an unavoidable result of over-globalization, necessitating greater autonomy in the affected countries as well as a more localized economic structure.
This has elicited a retaliation from those who have been harmed by international competition and capital flight in the aftermath of the crisis. Furthermore, the fact that local businesses were dying as a result of a lopsided playing field that favored foreign companies over local companies meant that domestic industries and the individuals engaged in them were suffering. Naturally, the backlash against globalization was severe in most Asian countries except China.
Further, there were many who pointed to a select few benefiting at the expense of the many and hence called for greater protection to local companies and local industry and not for foreign companies alone.
From what it looks like, the world is getting more polarized and moving slowly and gradually towards closing the economy with trade protectionism, blaming minorities for economic troubles (Britain, USA,..) and populism and nationalism.
It pays to stay aware of these rising trends in the global economy in order for us to make more sane and rational investment decisions in the coming years.