Richard Koo On Why Europe's Austerity Will Cause Deflationary Spiral

Tyler Durden's picture

While not new to our thoughts, Richard Koo, Nomura's Balance Sheet Recession guru, has penned a lengthy but complete treatise on why governments need to borrow and spend now or the world faces a deflationary spiral. The Real-World Economics Review posting makes it clear how his balance sheet recessionary perspective of the deleveraging and ZIRP trap we now live in means bigger and more Keynesian efforts are needed to pull ourselves out of the hole. While we agree wholeheartedly with his diagnosis of the problem, his belief in the solution...

At such times and at such times only, the government must borrow and spend the private sector’s excess savings, not only because monetary policy is impotent at such times but also because the government cannot tell the private sector not to repair its balance sheet. flawed in so much as the size and scale of additional government borrowing at this time of smaller and more risk averse balance sheets leaves the governments (of currency issuers and users alike) more anxious of bond vigilantes than ever before. Furthermore, the impact of a much-bigger-than-previously-believed shadow banking system deleveraging and de-hypothecating and the historical precedents now engraved in manager's minds leaves them thinking 'fool me once...'. His discussion of the cause and cure of the deflationary abyss we now stare into is useful for completeness but his thoughts on the political difficulties of such a borrow-and-spend solution and the 'when to exit this solution phase' is noteworthy in its timing (and cyclical perspective):

There will be plenty of time to pay down the accumulated public debt because the next balance sheet recession of this magnitude is likely to be generations away, given that those who learned a bitter lesson in the present episode will not make the same mistake again. The next bubble and balance sheet recession of this magnitude will happen only after we are no longer here to remember them.

He warns that perceptions of the recovery from the Lehman shock is NOT recovery from the balance sheet recession and has an interestingly xenophobic approach to solving Europe's problems.


In case you have not heard of balance sheet recessions before:

The key difference between an ordinary recession and one that can produce a lost decade is that in the latter, a large portion of the private sector is actually minimizing debt instead of maximizing profits following the bursting of a nation-wide asset price bubble. When a debt-financed bubble bursts, asset prices collapse while liabilities remain, leaving millions of private sector balance sheets underwater. In order to regain their financial health and credit ratings, households and businesses are forced to repair their balance sheets by increasing savings or paying down debt. This act of deleveraging reduces aggregate demand and throws the economy into a very special type of recession.

which inevitably leads to:

More importantly, when the private sector deleverages in spite of zero interest rates, the economy enters a deflationary spiral because, in the absence of people borrowing and spending money, the economy continuously loses demand equal to the sum of savings and net debt repayments. This process will continue until either private sector balance sheets are repaired or the private sector has become too poor to save (i.e., the economy enters a depression).


Its important to note that at all times, in our view, a deflationary shock will be met with an increasingly more powerful currency devaluation, no matter how many Japanese economists scream, after all its never been easier just to add a few zeros.


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Darkness's picture


What would Ron Paul do?

Gully Foyle's picture



What would Ogami Itto do. Damn those Yagyu's!

Hippocratic Oaf's picture



What would Robot Trader do?

dracos_ghost's picture


What would a wood chuck do.

Chupacabra-322's picture

Know what I did?  Took my ass straight to my local coin shop and bought three 1oz American Silver Eagles and a 1/4oz American Gold Eagle.  Plus some more ammo for my beautiful newly bought Springfield Armory TRP 1911 .45acp.  Ahhhh, what a feeling. 

Jack Napier's picture

Good call. I've already got my lead and metal, but I did pick up a good hunting knife this weekend.

This is a case where WWJD is perfectly appropriate. He flipped over the moneychangers' tables and booted them out of the temple. It looks like the Occupy crowd has already gotten the memo.

Chupacabra-322's picture

@ Jack, " but I did pick up a good hunting knife this weekend." 

What a coincidence, I picked up the best hunting/self defense knife on the market, HAND-FORGED KHUKURIS BY THE FINEST CRAFTSMEN IN NEPAL.  Check out the 15" Ang Khola.  Can't go wrong with a military issued Ka-Bar either.  Here's the link:


Potemkin Village Idiot's picture

those 'throwing stars' look interesting to me...

poor fella's picture

That's a good store. I have 12" & 9" khukuris and use them all the time in the garden. Hacking bamboo, cutting drip-line, etc. Nothing like having a knife-axe. They even threw in a 'History of the Gurkha' DVD and some Nepalese coins I use to pick up chics at the range. S&W TRP?    =/    jealous!

TruthHunter's picture

Has it ever occured to you wierdos that it might be as valuable to have some actual friends?

Did you ever realize that a few favors and a little friendship might be better than a house full of metal?

For example, if you were on really good terms will your local heat, they just might give you a little forewarning when they come around to

pick up up the guns? Or it might be nice to have the farmer down the road trade a side of beef for one of your eagles instead of just turning you in?


"When I walk through the valley of the shadow of death I will fear no evil"  isn't followed by because I'm the meanest SOB in the valley.



DanDaley's picture

Right, all kinds of friends and acquaintances, and everything from seeds to ...well, other stuff.

Stack Trace's picture

RobotTarder would BTFD then later revise history while he privately SHT (shits his trunks)

catacl1sm's picture

Deflation in capital is needed. And then in consumer goods, and finally in wages. This will bring about equilibrium and bring employment up. The debt based economy needs to be returned to a savings based economy.

Mises FTW, bitchez!

TimmyB's picture

The last time we had world-wide deflation in capital, consumer goods and wages, it was called the "Great Depression."  A result of this Great Depression was something called "World War II." 

You do not seem to realize this, but for some people the Great Depression and World War II were not exactly the best of times.  As a result, some folks today believe that Great Depressions and World Wars are events we should try to prevent.                       




Seer's picture

Timah!  No, Timah!

Did it ever occur to you that the VERY reason why we're in this mess is because of the very "solution" you are championing has been the general rule?

If we wanted to really "prevent" wide-scale war we'd disarm all our govts' weapons and shoot all the bankers and politicians.

Don't confuse the messenger with the message.  That anyone here desires war is absolute BS.

Further, read history.  It tells you EXACTLY how these various paths unfold.  Again, I refer you to my "solution" above as to the way to prevent repeats of history (though this will likely NOT be done because dumb fucks out there still believe that they can get their govts to "fix" things).

TimmyB's picture

What "solution" have I been championing?  All I wrote was that a deflationary spiral was something we should perhaps avoid. because of the known effects of the last deflationary spiral we had.

I didn't propose any solution to this problem, nevermind champion one.  It seems obvious that we should try to avoid such forseeable catastrophes, but what do I know?

btw-Most any fool would realize that your "disarm the government and shoot the bankers and politicians" statement makes you seem a bit like a nut.  That fact that you did not is telling.             










Potemkin Village Idiot's picture

I didn't propose any solution to this problem, nevermind champion one.  It seems obvious that we should try to avoid such forseeable catastrophes, but what do I know?

Yeah... THAT's the solution... Let's just AVOID it...

Thanks for your help Timmy (in not proposing or championing any solution)... You're obviously qualified for political office...

Timmy for Congress!

TimmyB's picture

Your comment indicates that you failed to follow this thread.  I'll spell it out for you.  Try to follow along. 

catacl1sm wrote that a deflationary spiral was exactly what we need.

I responded that the last deflationary spiral we had didn't exactly work out so well. 

Seer, to my amazment, wrote that the solution that I championed was the cause of our problems, and added that we should disarm the government and shoot the bankers and politicians.

I responded to Seer that I hadn't mentioned any "solution" and noted that his writing about shooting bankers made him seem less than serious.

You respond by calling me a politician because I correctly pointed out to Seer that I hadn't proposed any solutions when I wrote that our last deflationary spiral didn't work out so well.

Like Seer, you are not making any sense at all.  However, at least you didn't write about your desire to shoot whole classes of people, so that's something.   

High Plains Drifter's picture

the paul family has a extensive undergound emergency complex that was built a while ago on their large family farm near friendswood...:)

Cindy_Dies_In_The_End's picture

Like many, Koo fails to acknowledge that the crux of the problem is a true Solvency crisis. As such, his solution has as much chance of working as his chances for getting a job with the administration.


His concept MIGHT have worked in or about 11/08, but that was the Event Horizon.


Very sad these types continue to chase their tails--its intentional blindness. Atleast chat up Anna Schwartz, Richard. Geez!

TheFourthStooge-ing's picture

But Koo's Magic 8-Ball has a PhD in economics.


fx's picture

All the empirical evidence of the past 8 decades or so says clearly that Koo and his fellow Keynesians are so dead-wrong (I am sure Keynes would have aggreed to that 5 decades ago!). Still they keep spilling out their bs ad nauseum. Now go and tell any normal hard-working man or woman why these people continue to rake in tens of thousands or hundreds of thousands of $$$ every year for contributing essentially ZERO to society. Go figure.


bob_dabolina's picture

Darkness - 

what would Ron Paul do?

Collect 5 tons of food for charity? 

“We want to show the country that we don’t need the government to take care of people. Americans are the most generous people in the world. From the beginning of this country’s history, communities across America have always been willing to lend a hand to those who need it,"

SamAdams1234's picture

KEYNESIAN WAR in Iran. Senator Graham will get to play with his soldiers and the economy will hum.

philipat's picture

This is all great in (Classic economic) theory. The problem is today's political "Leaders" will NEVER stop spending and their Corporate masters will never allow them to increase revenues. At the heart of Keynsian economics was the idea of Central Government counter-cyclicality. That is, run surpluses during the up cycle and run defecits during the down. Can you imagine these clowns ever being able to run surpluses? Therein, Keynsian economics breaks down and the politicians just abuse the theory to support more unsustainable borrowing and spending. Aided and abetted by the Banksters and the Corporatocrcy.

economics1996's picture

This is a BS analysis.  Let the MF burn to the ground and rebuild.  2 to 3 years, max. If we let the shit burn all the way down to the last ember.  Kill the Fed.  Let the federal government burn and go out of business.  Let the shit burn down and rebuild in a couple of years.  Fuck the Fed and Washington.

Gully Foyle's picture

Oh NO'S not a Deflationary spiral!

Thank God Automatic Earth have been predicting such for years now.


Popo's picture

..And Von Mises was right all along:  

There is no means of avoiding the final collapse of a boom brought about by credit expansion.

myne's picture

There kinda is. But it will piss a lot of important people off.

The government has to coin currency without debt and hand it out to ALL of the the people directly.

They have the power to do this. They have the ability to print/stamp without borrowing from the banks. They are sovereign. The people give them this power.

The banks will be furious. But a large chunk of all debts will be erased from balance sheets.

It's strange that governments must borrow from external entities.

If inflation is a form of wealth tax, why not just introduce the inflation directly, without debt to the bottom of the system rather than at the top, on the bank's balance sheets?

It produces a similar result, in that it taxes the value of the existing coinage, but there is no interest payable.

Corn1945's picture

Another fade from a TBTF con-artist I wouldn't trust with two nickels.

Eally Ucked's picture

Richard Koo-Koo? Where was he few years back with enlightening advices and his deep analysis?


pemdas's picture

He was "helping" Japan. And look whre they are! Debt/GDP about 240%

centerline's picture

The neo-classical economic bullshit never ends.  These guys haven't a clue about credit money... let alone see outside the moronic linear equations to the social intent of the current system and mathematical flaws.  Once again, it is proven that economics is nothing more than a tragic study in failure of confirmation bias.

GeneMarchbanks's picture


Social science. They keep trying to be physicists but predictably fail and then make new flawed models. It's just pathetic now.

Spastica Rex's picture

"Social science" is an oxymoron. I'm fond of saying that.

TheFourthStooge-ing's picture

I think you mean Financial Astrology.


kito's picture

no way, i made a killing in the market when the new moon was seen to be uranus..............

Spastica Rex's picture

None of the common macro models/systems can accommodate a world of limited, zero, or negative growth. Not saying that's necessarily where we are, but if we are, don't look to these models to tell you much.

Zero Govt's picture

Economics is as much bollocks as the science of the average man... the collective numbers, theories etc do not exist, they're barely a pale retrospective representation (snippet) of what's actually gone on

Business, trade, individual decisions cannot be averaged across a small retail street let alone a State, a nation or globally

Even Austrian economics i'm afraid is bollocks

the only thing that exists is the individual ...the rest is academic dysfunctional nonsense

Belarusian Bull's picture

Austrian school is not bollocks. It views economy exactly as you said - a collective activity of deals(trades) between individuals.

One of the most prominent works of Mises is called "Human action"

ThreeTrees's picture

Might wanna read some of that bollocks Austrian economics a bit closer then.  Human Action perhaps; because you're paraphrasing Mises.

Zero Govt's picture

Sorry Gents but i've read more Austrian economics than anything's the best of a bad bunch but it's still rubbish

Austrian still deals in the 'grande themes' and grande designs academics and other worthless windbags like to pigeon hole whole societies and countries in.

One of Von Mises greatest statements still repeated endlessly is after all great credit expansions there's no avoiding a credit contraction/implosion (words not verbatim). This is about as useful as saying icecream melts in the sun's a statement of the patently bloody obvious but is trotted out like it's some great scientific discovery over and over again (Zzzzzzz)

Austrian is not predictive, it cannot time, it is a bunch of generalised collective discriptives... like the average man number, useless at pinpointing anything.. it's next to worthless except to stretch out dinner party conversation after too much red wine and brandy


Seer's picture

I'm with you 100%.

Being giddy about being the best-looking horse at the glue factory- so fucking what!

Only two things to remember going forward:

1) Vertical hierarchies WILL result in concentration of power, which will in turn become oppressive, ultimately imploding;

2) This is a FINITE Planet, ANY system that cannot adapt to zero growth WILL FAIL: I'm still waiting to hear from people how their pet systems can meet this mark.

Potemkin Village Idiot's picture


Someone always thinks they can invent a perpetual motion machine...


Mr Shush's picture

The last time I checked, the planet was not a closed system. It's true that whether the limits of the resources we could ultimately access are the solar system, the galaxy or the whole universe they are in all probability finite, but that's entirely consistent with them being really damn big and us being nowhere near them. Develop a good enough method of energy generation and a lot of other problems go away for a long time.

Nels's picture

it's a statement of the patently bloody obvious

To whom is it obvious?  Certainly not to the Krugmanns of this world.  The whole EU project is currently working on the assumption that the crackup can be avoided, as is Bernanke and the Fed.

That the emperor has no clothes, and there will be a crackup, is not yet obvious to the majority (of any population outside of a Mises Institute classroom).

Congratulate yourself for seeing the (now) obvious, and then get off your high horse.

Zero Govt's picture

Austrian is far more realistic than Krugmans idealistic (socialist) nonsense.. Austrians use maths whereas socialists/marxists are completely fuking clueless (their concepts come entirely from the chips on their shoulders)

I'm not on a "high horse" ..i'm a strictly practical, human experience thinker.. does it work or not? What does human history show us? A realist.

The idealism of marxism, socialism, enviromentalism etc etc is their downfall.

Austrian is much more practical but still suffers the academic thinking of trying to amass randon individuals and business decsions into a glob like the staticians try with the average man. I'm not dissing austrian entirely i'm just saying it hasn't made a break-through in being predictive (worthwhile/usefull or of commercial value)

Only the commercial brain works (creates value)... idealism destroys value... Austrian is benign i'd say

sid farkas's picture

Holy shit, I think you're on the wrong site.

"The idealism of marxism, socialism, ..."

In what way does totalitarianism equal idealism?

"I'm not dissing austrian entirely i'm just saying it hasn't made a break-through in being predictive (worthwhile/usefull or of commercial value)"

Responding to this fragment of a complete thought is probably a waste of my time, but I thought I would at least point out that it was primarily austrian economists calling housing a bubble before it burst.

Austrian economics specifically predicts the death of fiat currency. Please enjoy the "commercial value" of this theory and exchange your fiat dollars for gold and silver.