Is it time for a New World Order?

Recently there was an article in the Sydney Morning Herald claiming that our good friend Kevin Rudd believes that now is the time for a New World Order in the financial sector.

Is this merely political posturing, or is it part of a more sinister plan? Who knows?

My current experience suggests that a lot of people are worried mostly because they don't understand what is going on. So I will do my best to give my understanding and views of how this so-called world wide crisis appeared.

Basically most people in the Western world (USA, Europe, Australia) have enjoyed steady growth in their economies for quite a long time now. For example very few people will have clear memories of Keating's 'Recession we had to have,' and the Asian crisis in 1997 didn't affect many people outside of Asia. Some people (not just economists) were so proud of the long spate of steady growth that they claimed that the business cycle was dead.

So, here is my view of things (taken from an Australian perspective). I have tried to make it as simple as possible:

1. Australia's rate of economic growth over the past ten years has come primarily from rising commodity prices, which rose primarily due to the growth of the economy in China. Resource companies, such as mines, made a lot of money which invariably flowed through to the rest of the economy.

2. China's growth has come primarily from exports to the US

3. The US demand for exports was based on the rise of US household debt. People were basically increasing their mortgages in order to buy consumer goods (eg. cars, TV's, computers etc). A similar thing was happening in Australia, but to a lesser extent.

4. Banks in the US lent too much money (because they were greedy) and had rather relaxed lending requirements. This was fine as long as house prices kept rising and peoples wages kept improving in order to cover their interest repayments.

4a. US banks packaged up and sold their high risk loans to other international banks and financial institutions.

5. By the beginning of 2008, some house prices in the US started to fall and there was a rising number of foreclosures where people couldn't pay their mortgages. Foreclosures are very bad for banks, because not only do they lose the interest repayments (income), if they cannot sell the house at market value (which is very often the case) then they lose significantly more as well. This is why banks started posting losses of up to 10 times the profits they were posting a couple of years ago.

6. Because of the extraordinary large losses being made by US Banks (causing a number to go bankrupt in the space of less than a year), other banks (including banks in foreign markets) became scared to lend to each other, making it harder for banks to get money to on-lend to it's customers.

7. Because banks no longer had easy access to finance, they tightened the lending restrictions, making it difficult for businesses and people to borrow money (for example in Italy it became so hard for businesses to borrow money, many have to borrow money from the Mafia). And because businesses no longer had access to finance, they could not expand as easily or they had cash flow problems, causing them to lay-off staff.

8. All of a sudden people have become afraid of their jobs, which means that they are no longer confident enough to buy a new car, buy new electronic items (eg stereos, TV's); and even if they wanted to, they would have difficulties getting finance. This has caused thousands of people to be fired from places such as Panasonic, Sony and has caused a significant amount of problems for car-makers all around the world (especially those in the US).

9. This drop in consumer demand has meant that people are buying less exports. Therefore China (whose growth has largely come from exports) is no longer growing as fast as it did. Therefore they are no longer buying as many resources as they did, causing commodity prices to drop. Causing problems for Australian resource companies who (as mentioned in point 1) were one of the keys to Australia's growth over the last ten years.

Well. That was a bit longer than I hoped, sorry that haven't explained anything in full. I guess it just proves how complicated everything is at the moment. In particular I have not referred to interest rates, oil prices, the food crisis or exchange rates (because these are just another level of complexity).
Nothing that has happened over the past six to twelve months was unforeseeable. People have simply been ignoring the signs. That is: rising debt levels, China's dependence on the US, instability in the share market, etc...

But is it time for a new world order? Probably not, it's just time for everyone (especially those in the West) to reduce their reliance on debt and to stop living beyond their means. (sounds a bit like hedonism, I know)
You'll have to come up with your own conclusions.