Kondratieff was a Russian economist, one of the leading Russian economists during the 1920’s. He basically undertook a study of capitalism in which he formulated that the economy ran through a long cycle of expansion and then contraction.
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JIM PUPLAVA: Joining me on the program is Ian Gordon. He is Vice President of Canaccord Capital, a Vancouver-based brokerage firm. He was educated at the Royal Military Academy at Sandhurst and has a Bachelor’s in History from the University of Manitoba. He is also the editor of The Long Wave Analyst. Ian, welcome to the program.
IAN GORDON: Thank you, Jim.
JIM: I want to talk about your newsletter, The Long Wave Analyst, and I thought, before we do so, that you might explain who Kondratieff was, since a lot of your work is based on his work.
IAN: Kondratieff was a Russian economist, one of the leading Russian economists during the 1920’s. He basically undertook a study of capitalism in which he formulated that the economy ran through a long cycle of expansion and then contraction. The cycle was approximately 50 to 60 years in length. He did it by going back, really, to the dawn of the industrial revolution about 1789 and looking at things like the movement of capital, prices and international trade movements.
JIM: Now, in this Kondratieff Cycle there are four seasons, just like we have the four seasons of nature. In fact, in your newsletter, you quote W. D. Gann and he said, “The four seasons of the year teach us that there is a reaping time and a sowing time and a time that we cannot reverse the order of nature’s law.” Explain those cycles.
IAN: Really, all I’ve done, and I think all other writers who’ve written about Kondratieff, have done, is to break the cycle into the four seasons and I think they’re very apropos. Spring being the rebirth of the economy. Summer being the period when the economy really flourishes and it’s also the time when you get the inflation. Autumn being a period when people feel good even though winter lies ahead. You still get those Indian Summer days and so on. Then Winter being the time when the economy sleeps and it’s the season when debt is flushed from the economy so that it can start refreshed in the Spring.
JIM: Joseph Schumpeter, who is an Austrian economist, quoted that the Kondratieff Wave is the single most important tool in economic prognostication. Where are we now, in your opinion, in terms of those four seasons?
IAN: I don’t think that there can be any doubt that we’re now in Winter. We’re in the period when debt is cleansed from the economy, so, as I say, that the economy can be renewed with little debt in the system. The winter period starts, following the peak in stock prices at the end of autumn. We always know we’re getting into that Autumn period -- when we’re going to have the greatest Bull Market in stocks in our lifetime and probably the greatest Bull Market in bonds and also the greatest Bull Market in real estate -- because four events anticipate these great autumn Bull Markets. Those four events occurred between 1980 and 1982. They were the peak in commodity prices, the peak in interest rates, the recession and the Bear Market in stocks. I think people can remember the ‘81-’82 Bear Market. They can probably remember the peak in prices in 1980 and the peak in interest rates in 1981. Those same four events occurred between 1920 and 1921 and similarly they occurred in 1864 and again in 1816. When those four events come together, and it only happens once per cycle, we know that we’re going to go into this great big Bull Market, the biggest of our lifetime. And when that Bull Market peaks, we know that now it’s the end and we’re going into Winter. Normally that peak in the Bull Market in stocks is signaled by a crash as it was in 1929. We had the peak in September then in 1929 and the crash in late October. This time we really haven’t had a crash because a crash is caused by panic, an emotional panic, and we haven’t seen that yet. Although, I think we’re very close to seeing that now.
JIM: Let’s talk about some of the substance behind the Kondratieff Long Wave, which is essentially waves of credit inflation and credit deflation. I wonder if you might discuss the role that credit inflation has played in this cycle, in this kind of boom and bust cycle, that we go through.
IAN: Well, when the Kondratieff Cycle starts (and our present cycle started in 1949 with the beginning of Spring), debt has been cleansed from the economy during the previous winter. People are very, very wary. They’re scared that the depression will come back. Everything is paid for in cash. But, as the economy starts to regain some strength, as spring moves a long, some people start to borrow money for their major purchases like housing, but it’s mainly corporations borrowing to expand in line with demand. During the Summer, borrowing picks up pace in line with increasing confidence. Corporations borrow quite heavily to expand their enterprises. So that borrowing goes to what I call a worthwhile cause because it goes to expand the capital goods area of the economy. When the recession hits at the end of Summer and the interest rates peak. The Federal Reserve gets very, scared about what’s happening, so it start to bring down (the) interest rates, quite dramatically, and it pours money into the banking system in an effort to revive the economy. What happens then is that most of the corporations have already borrowed throughout the Summer, really don’t need to borrow that heavily, so a lot of the borrowing is done by consumers. Because banks have all this money, they’ve got to make it available to somebody, so they make it available to the consumer.
The consumers start to borrow quite heavily. Because they’re borrowing, they have the extra money with which to make purchases and therefore the economy starts to expand and, of course, the stock market expands with the economy. So consumers eventually, or fairly soon into this expansion, start to put money into the stock market and you get the growth of the mutual fund industry and so on, growing and attracting more investor money into it and the economy continues to expand. People start to get wealthy as a result and eventually the whole system becomes completely overwhelmed by the amount of debt and that occurs right at the end of the Autumn period.
The U.S. now has, 32 trillion dollars of government, corporate and individual debt in the system. Most of that money is going to have to be cleansed from the economy during the Winter. Once the peak of the debt cycle is reached at the end of Autumn, it must be eliminated from the economy during Winter -- we’re probably 2 1/2 years into Winter now – debt is being cleansed as we can see, through corporate bankruptcies. We’ve just seen the biggest one in U.S. history with WorldCom. Before that, the biggest one I think was Enron. So we’re starting to see some very big debt bankruptcies and, , that debt being taken out of the economy. At the same time, consumers, too, are starting to file for personal bankruptcies in record numbers. So, we are starting the debt cleansing process.
JIM: In this cycle then we’ve certainly seen it with Enron, WorldCom, Global Crossing, Kmart, Polaroid and these large bankruptcies. How would you explain the housing boom in the U.S.? Because, certainly the consumer spending pattern has held up as consumers have been able to refinance debt and take equity out of their homes. A lot of people believe that this real estate cycle is going to go on for a long period of time as people feel more comfortable with real estate. But to me, Ian, it just appears to me as the end of this cycle and another manifestation of a bubble.
IAN: I agree with you, Jim. I mean, it really has. Real estate is built on debt as the stock market is built on debt, because the margin debt reached record levels when the stock market reached its peak. Real estate is doing the same thing. I think what’s happened is that the Federal Reserve has made all this money available by increasing the money supply quite dramatically, and that money has really found its way through Fannie Mae and so on into the hands of the consumers to remortgage their homes or to purchase homes at higher prices. But that bubble, as I say, is built on debt and the whole purpose of Winter is to cleanse the economy of debt. So it’s difficult to imagine the real estate market staying up in the face of a declining stock market where consumers, who are also in stocks, are losing their shirt there. Also, you have consumers who are steadily losing their jobs. It’s difficult to see that this one debt bubble would stay aloof from what’s happening elsewhere in the economy. I think the real estate market is poised to act exactly the same way as the stock market and all of that debt that’s been built into that market will be cleansed.
JIM: How would you explain Mr. Greenspan’s comments before the Senate committee last week? In many ways, he was talking about the effectiveness of Fed policy by talking about consumers or spending and the housing market that is strong. Do you think he just does not realize his own bubble or his own creation of this bubble?
IAN: I think Mr. Greenspan certainly knows the extent of the bubble. I had a friend in London who knew Alan Greenspan in the ‘60’s and Alan Greenspan, at that time, said to him, “I would love to be Federal Reserve Chairman when the Kondratieff Winter comes because I think I could override it by dropping the interest rates and printing enough money that it would overcome all the deflationary aspects of economy.” He’s certainly trying that. So, I think he’s aware of what’s out there. Official people say a lot of things to try and bring some calm into a growing economic and stock market calamity.
JIM: How would you contrast the role of the Federal Reserve today in comparison to, let’s say, the ‘20’s? We |
