Illinois and Pension Funds Point to Another Great Depression
The markets continue to run up new highs. Yet, the potential of another 2008-style collapse is all too real, even if investors and the Federal Reserve have chosen to ignore it. Some economists and analysts remain believers. They see the dangers ahead, yet suggest that the big banks and investors have learned their lesson from the sub-prime crisis. The fact is, they haven’t even learned their lesson from the Great Depression.
Indeed, another great depression is coming. That prospect should be scary enough to stop investors in their tracks. Perhaps that’s why so few are paying attention. Yet the current market buoyancy suggests that nobody has learned from the mistakes of the recent past. And, there are no barriers strong enough to prevent another major financial crisis.
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Noted investors like Paul Singer or Bill Gross said they have become weary of the current level of risk in the financial markets. They see little difference between the risk today and the risk of nine years ago, when the world was on the brink of one of its biggest financial crises ever. Singer, Gross, and others like them have attributed the flyaway risk and markets to low-rate central bank policies.
Nobody Has Learned Anything from the Last Financial Crisis
Thus, in the case of the United States, the Federal Reserve, by keeping interests low, has allowed asset valuations to swell beyond reason. But those same policies have also stalled or stunted real economic growth. Thus, Main Street has suffered or not seen any benefits while Wall Street has gone ballistic. Meanwhile, the triggers of the last financial crisis are still in place.
These imply an excess of debt in one form or another such as the sub-prime mortgage and related toxic derivatives floating around Wall Street. Debt was also one of the causes of the Great Depression, of course. Debt is often the main cause of market crashes and economic collapse.
Simply put, the markets are running on empty. They are like a building without foundations. There is a huge gap between stock values and profits. Values have risen faster and higher than corporate earnings.
In turn, the actual business dynamics have deteriorated. This should raise questions such as how healthy credit availability is, what the true extent of debt is, and how soon it will be before it explodes. The de facto bankruptcy in Detroit highlighted the problem, and Illinois has confirmed it. American local governments, whether municipal or state level, have adopted pension fund schemes that have put them into massive debt. (Source: “State pensions could be in jeopardy if Illinois goes bankrupt,” Newschannel 20, June 20, 2017.)
The risk of bankruptcy is not far away. If Illinois goes bankrupt, what does it say about pensions and the stability of a rapidly growing senior population? They are consumers as well. Indeed, given the current demographics, they are important consumers. But, if their pensions are compromised, they are cut off from the economy.
The Pension Crisis in Illinois Is a Major Warning Sign of Economic Collapse
Illinois’s pension default risk is no joke. Many cities—not to mention territories like Puerto Rico—have already achieved that dubious target. Some state administrations are unable to pay the promised pensions to their pensioners. Those still able but struggling have resorted to halving them, such as in Loyalton, California—the state with some of the worlds’ most profitable and richest companies. (Source: “Pension Benefits In Tiny California Town To Be Slashed As “Ponzi Scheme” Is Exposed,” Zero Hedge, October 13, 2016.)
It won’t be long before towns in similar predicaments simply decide not to pay their bills anymore—not just pensions. That is the thrilling prospect that Illinois is facing. It has accumulated arrears of some $14.0 billion. The usual vultures, the rating agencies, have sounded the warning shots. Illinois has some $130.0 billion in unfunded pension obligations on top of the arrears. (Source: “Illinois careens into financial meltdown – and not even the lottery is safe,” Fox News, June 20, 2017.)
It’s Not Just Illinois
Another name for Illinois now might be “time bomb.” But, Illinois can hardly be unique; this is a situation that might soon spread to other states. It’s another subprime crisis in the making, but somehow, nobody is paying attention. Just as nobody is paying attention to massive student loan debt or the new “subprime” auto loans. These situations could implode, which has placed investments in the public markets in highly suspect circumstances.
The underfunding of pension funds is in fact widespread and it raises the question as to just how many municipalities or states remain solvent in the first place. Indeed, Americans are probably more indebted now than at the time of the 2008 financial crisis. Meanwhile, U.S. economic growth, which you would think is stellar given the markets caps now, has not recovered in any strong way. U.S. GDP was just 1.7%.
As for the pension crisis, it’s not just Illinois’s economic growth that’s causing the pension problem. The aging of the population and the increase in life expectancy offer a weak explanation. The liberalization of pension schemes since the 1990s has played a major role. Local authorities have put aside pensions, investing them in various risky instruments. This links them to the risk in the markets. The next financial crash could reach far deeper than the previous one, and prompt a major economic depression.
Local politicians, like individual savers, have taken to investing in order to maximize their savings. They put their money in stocks, bonds, or derivatives in the hopes of making their money grow. Pension funds are all the more difficult to earn money as interest rates are at their lowest. But, even if Janet Yellen raised rates tomorrow, the economic conditions would be unable to absorb such a shock.
Investors would do well to keep their eyes and ears open to the signs of imminent economic collapse. And they need not look far; irrational exuberance is the first and most important sign of the next crisis. The trigger—a black swan—for a new crisis may come when you least expect it and the financial system does not seem ready.
