The Great Unwinding

Humans have a knack for normalizing extremes. We quickly habituate to conditions that would have been intolerable before the extremes were normalized by habituation and recency bias.

In no time at all, we’ve persuaded ourselves that it’s not only normal, but healthy.

For 15 years, extreme policies have steadily dragged the economy and the wealthy higher. Now we’re finally at the top of the rollercoaster, so hang on, the ride gets “fun” from here to the bottom.

Stripped of normalcy bias, the distortions of hyper-financialization and fraud finally caught up with the global financial system in 2008.

The wealthy refused to accept any losses of their immense winnings at the rigged casino and so we’ve been living on debt and a Federal Reserve-engineered “wealth effect” that enriched the top 10% at the expense of the bottom 90% and systemic stability.

That’s the US economy stripped of artifice, propaganda and deception. Whether we “like” it or not, or “disagree” or not doesn’t change what’s ahead, which is a complete unwinding of all the extremes and distortions.

When an economy chooses to live off ever-rising debt and refuses to write off bad debt and book the losses, there are only two possible futures: Japan took the first path in 1989-90, when its credit-asset bubble popped and its wealthy class refused to accept any losses in their bubble-inflated phantom wealth.

The net result has been 35 years of stagnation as the vitality has been bled out of Japan’s economy and society.

Japan survives off its soaring debts, zombie companies and immense holdings of foreign assets while its younger generations have given up on marriage, family and home ownership, as all are now unaffordable.

If this pathway to national decay sounds like the way to go, take your blinders off and look around: we’re already well down that road.

The other pathway is high inflation which eats wage earners and savers alive. When you rely on debt to fund consumption and the spending of the wealthy (generated by the central bank-induced “wealth effect”), productivity stagnates and all that fresh debt-money pouring into the system pushes inflation into a dynamic of increasing instability.

The 1970s stock market reveals how inflation works its magic: stocks noodle up and down for years, and everyone is relieved when the market returns to its previous highs: yea, we’re whole again! Well, no. Adjusted for inflation, “buy and hold” investors lost 2/3 of their capital.

The third alternative is the debt-asset bubble pops despite everyone’s best efforts to normalize extremes, and the economy and market crash as all the debt is written off/unwound. Then the result is a classic reversal of the asset bubble, as valuations return to the pre-bubble starting point.

This is a preview of what lies ahead:

Let’s run through the extremes that will get unwound whether we “approve” of the unwinding or not. First off, housing is unaffordable to all but the wealthy, a massive distortion just begging to be unwound.

Meanwhile, here’s total debt in the US:

Federal debt is soaring because we’re playing a game of transferring debt expansion from the private sector to the public sector to make things look nice.

Unfortunately, 15 years of gulping down Delusional had addled the minds of those who believe interest rates are heading back to near-zero and so everything will be “fixed.” The reality is it’s all been “fixed” for 15 years, and that’s why interest rates will move higher regardless of how much Delusional we’re swallowing.

Historically, a range of 5% to 7% is normal, but if we try to “fix” the problem by dropping rates back to 1%, we’ll get 9% to 12% rates at our banquet of consequences.

Here’s what happens as rates normalize: all our money goes to pay interest. Once the credit card is maxed out, our borrow-and-spend consumption dries up: No more GDP “growth” funded by debt.

Corporate profits “earned” by crapifying goods and services and cartel pricing will fall from the stratosphere. Even AI can’t save corporate profits when consumers run out of credit. No matter how many MBAs are fiddling with AI chatbots, they won’t be able to extract blood from stones.

And just as a reminder of who won and who lost during the 15-year ascent to extreme distortions: the super-wealthy scooped the vast majority of the casino’s winnings:

While the bottom 50% lost ground: hey, you never had it so good, right?

The rollercoaster ride is about to get “fun,” as in unpredictable, volatile and unnerving for those normalized to extreme distortions “fixing” all things financial.

OK, so what can I do in response, you wonder? That’s the right question, for passively awaiting the wave to wash over us and then scrambling for higher ground is a high-risk strategy.

Read on for the answers.

Is There Any Way to Come Out Ahead?

By Charles Hugh Smith

Let’s start with three stipulations: 1) this is not investment advice; everything here is an observation based on history or my personal experiences after previous bubbles have popped; 2) there are no easy answers–none, and 3) my last three books can be viewed as a trilogy describing macro and individual responses to the Great Unwinding.

Do I have all the answers? No. Nobody does. All we can assemble is a coherent response based on the lessons of history and system dynamics: what’s fragile, risky and undependable and what’s lower risk and more resilient.

Since no response is easy, we’re talking about degrees of difficulty and what’s within reach for each of us. We all have limits of experience, location, skills, capital, networks and so on.

Therefore there’s no “one size fits all” template that’s going to work for everyone. The whole point of my book on Self-Reliance is that we each have to plan our own responses; we can’t just follow somebody else’s plan.

There’s a great divide between what Americans want/expect and what’s realistic. The average American feels they need to earn over $180,000 to live comfortably, according to a recent survey.

The survey also found that only 6% of US adults make $186,000 or more, while the median family income is between $51,500 and $86,000. In other words, everyone feels they’d be OK if they joined the top 6%, meanwhile those households earning $180,000 are feeling that they need to earn $300,000 to be comfortable.

If you and your spouse/partner can skim off $300,000 or more annually, go for it. In terms of risk management, it might be prudent to assume one of you loses your job at some point, so figuring out how to live on $100,000 now rather than later makes sense.

Many readers report that they’ve already fashioned a low-cost, resilient lifestyle, generally by living in a lower cost rural locale with cheaper housing, paying off debt, doing their own repairs and maintenance on homes and vehicles, growing some of their own food and finding like-minded people in the community to share/work with.

Establishing a low-cost lifestyle demands sacrifices, many of which are “impossible” or out of reach in the current zeitgeist: the jobs and excitement are in cities and suburbs that are unaffordable.

Learning how to repair, maintain, grow, cook, bake and build also takes time, effort and sacrifice. The transition from consumer to producer is not easy.

It’s been a long time since Americans experienced a “real recession.” The last “real recession” was in 1981-82, over 40 years ago. Since then, recessions have been brief due to unprecedented bailouts and stimulus.

The returns on bailouts and stimulus have diminished, and expecting the same tricks to work like magic again is, well, magical thinking. Things have changed, and it may be less like 2000 or 2009 and more like 1973: nine years of turmoil and inflation that refuses to return to zero.

The biblical seven abundant years, seven lean years comes to mind. Humans predictably respond to abundance by gleefully squandering what’s plentiful in the good times, and then frugally hoarding whatever is left when the lean times kick in. Frugality is common-sense: waste nothing, need less, get serious about your Plan B and Plan C.

Are there safe havens for your capital? There are certainly many claims made about safe havens, and I can only speak from my experience of bubbles popping over the past 50 years. The current bubble is unique in being an Everything Bubble, in which traditional safe-haven asset classes have already been front-run by the smart money.

In my experience, every asset goes down when massive credit-asset bubbles pop as the “good” assets get sold to cover margin calls as “bad” assets plummet and debts have to be serviced/paid down. That’s the downside of a financial system that is completely dependent on debt and leverage for its survival: the asset valuations can collapse but the debts remain and can only be cleared by bankruptcy/liquidation/insolvency.

Assets drop to levels that are considered “impossible” at the top of the bubble. This is the mindset of bubbles: the current valuations are entirely rational, and history says they’ll only move higher over time.

This is how stocks that fell from $60 to $45 got recommended as a “strong buy” and then eventually bottomed at $4. Skyscrapers were sold for the value of their elevators in the Great Depression.

Earning 4% on cash looks pretty good when others playing “catch the falling knife” have lost 40% of their capital. Patience tends to pay off as bubbles pop and furious counter-rallies tempt bottom-fishers and buy-the-dippers.

If history is any guide, bubbles take a few years to completely deflate, as the speculative frenzy takes a long time to dissipate as gamblers’ capital and desire to bet are whittled away.

The cliche is cash is king in asset-bubble deflations, and there’s a reason for this. Cash may lose some purchasing power due to inflation, but it’s earning some income to offset inflation. Every other asset that soared in the bubble is exposed to the selling that comes from having to pay down debt, unwind leverage and get out now before I lose even more money.

The risks of patiently waiting for the bubble to completely deflate are low compared to the risks of trying to rotate in and out of deflating assets ahead of the bots and smart money, who are masters of juicing manic counter-rallies to suck in the impatient and speculators who are overly anxious to “buy the dip.”

Note that Wall Street never recommends frugally piling up cash for a few years, as that generates no income for Wall Street, which thrives off the herd busily churning away capital chasing the latest hot rotation into bat guano futures, cobalt mines in Lower Slobovia, the Hydrogen economy, AI-powered robot pets, and so on.

Maybe fortunes will be minted, maybe not, but staying out of the casino and waiting for the bottom, when everyone has given up, is never going to be touted by anyone in the casino.

Recall that it doesn’t matter what the “market” deems as the “fair price” for productive real-world assets. If my house is “worth” $1,000 or $1 million, it still provides shelter. If a homestead produces 1,000 pounds of nutritious food a year, it doesn’t matter whether the “market value” of the land is $1,000 or $1 million.

That only matters if we’re speculating or leveraging debt. If we’re only interested in the use value, then the “market” gyrations are of zero interest.

What’s the “real value” of anything? That depends. My wife just bought a pair of almost-new Merrell brand shoes that retail for $100 for $2 at a thrift store. For somebody, the shoes were worth $100. Now they’re worth a few dollars.

Everyone’s a genius in a bubble, but over time, few survive even five years of volatility. It may look easy to have caught the highs and lows of the 1970s, but few managed to do so.

History suggests being wary of the “strong buys” at $45 when the eventual bottom is $4. This is of course “impossible.” Everyone thought that in 2000 and 2008, too, and it’s the dominant mindset once again.

The opportunities lie ahead — far ahead.

There’s much to be said for this simple strategy: get lean, get frugal, pay off debt, save cash, get your Plans B and C in order, learn as much as you can to increase what you can do in the real world for yourself and your household, lower your exposure to non-linear disruptions and systemic risks beyond your control, turn a deaf ear to the touts and stay out of the casino.