Collective delusion

The Americans have met the enemy, and it is them. America has coasted on a quarter-century wave of power and prosperity since president Reagan won the Cold War and restarted the economy. America in the 1980s was the only model to be emulated, and a magnet for global capital flows. So compelling were American capital markets that by the late 1990s, almost all the free savings of the world sought an American home. In 2007 a trillion dollars of overseas capital poured into American markets.

Americans no longer had to save; the rest of the world saved for them and lent them money at the lowest interest rates in half a century. Americans no longer had to study; engineers from India to Argentina programmed their computers. And Americans no longer had to face a strategic challenge; after the death of the Soviet Union, so Washington believed, America need only export its self-image. Of all the great illusions of the post-Cold War era, this has turned out to be the most pernicious.

Like emerging Asia in the mid-1990s, Americans used cheap foreign capital to make real-estate speculation into a national pastime. And like Asia in 1997, there is no remedy but to let the sickening slide of asset prices take its course, until the grasshoppers learn to work and save like ants.

Scores of millions who were wealthy on paper a year ago will be penniless by the end of 2008. In the American states where home prices rose the fastest – California, Florida, Arizona, and Nevada – prices fell by almost a third during the year to September 30. American equity prices already have fallen by 10% since last October. Both residential and equity values are likely to fall much further before the bloodletting is over.

Americans engaged in a collective delusion according to which infinite wealth would be created on the Internet through shopping and salacious entertainment. Perhaps if someone had perfected virtual-reality sex, the stock price bubble might have continued, but the disappointment attendant on the end of the illusion cut the value of American equities by half.

The world learned that it was dangerous to buy risky American assets and chose instead to buy safe ones. The trouble was that as a whole, the American public was engaged in extremely risky behavior, that is, bidding up home prices with cheap credit. The banks and credit rating agencies declared that a basket of very risky assets could be turned into a very safe asset, by selling off the part of the risk to speculators. This exercise turned out to fall somewhere between the delusional and the fraudulent.

Spengler Putin for President…of the United States
All this was equally true of the UK of course.