Expert Explains In Horrifying Detail How The Next Shock Will Shatter The Global Economy

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Ancient Native American tribes produced a few hundred “cultural artifacts”–the physical things around you–while today’s New Yorkers produce tens of billions of such artifacts.

In 2005, there were 2 billion connected devices. Five years later, that number had tripled to 6 billion, and it’s expected that by 2015 the number will be 16 billion.

Supply chain interactions–as parts are manufactured and put together into bigger parts of even bigger goods and so on–are in the tens of billions.

Source: Korowicz (2012)

Several examples in recent years–like the collapse of Lehman Brothers in 2008 or the “flash crash” in the stock market in 2010–show how quickly financial turmoil can spread across highly interconnected markets.

Source: Korowicz (2012)

Modern cities only keep around three days worth of food for its population on hand.

Advanced economies use incredibly efficient “Just-In-Time” logistics systems because they can track real time demand for goods automatically from check-out counters to factories who can adjust to these changing signals.

The danger of “Just-In-Time” logistics is that there isn’t a lot of inventory available for emergency situations.

Source: Korowicz (2012)

Sovereign nations backstopping insolvent banks doesn’t remove the risks associated with a debt default–the risks are simply displaced and magnified over time.

Spain is a good example. The country bails out its banks, but in the process increases its own debt. This, in turn, causes concern over the fiscal health of the country, which causes its bonds to sell off. The banks it just bailed out, who have been buying up Spanish bonds, are more insolvent due to the decrease in asset values.

Banks across the developed world are holding increasing amounts of their country’s sovereign debt, thus increasing overall system risks.

Source: Korowicz (2012)

Other countries have faced problems of debt default before–like Argentina in 2002.

Because the world economy was relatively healthy and stable, it was able to absorb the impact of Argentina’s debt default.

The world economy is no longer healthy and stable. All signs point to a global slowdown looming ahead as Europe’s recession spills over into Asia, causing growth to slow there. Thus, another default would not be absorbed so easily.

Source: Korowicz (2012)

The global economy is based upon credit expansion–new debt must be issued to service the interest on old debts.

When the economy is contracting, as it is in Europe, the ability to service old debts disappears and debtors become insolvent.

This changes the dynamics of the financial system, introducing the possibility of defaults and haircuts on debt, which can be highly destabilizing.

Source: Korowicz (2012)

Korowicz writes that “maintaining complexity is a battle against entropic decay, and growing complexity is a battle against the universal tendency towards disorder.”

Equilibrium doesn’t exist in complex adaptive systems like the global economy–things are changing constantly.

Increasing complexity pushes a system further and further away from equilibrium–and it takes increasing amounts of energy to support that trend, or else a system will “fall back” toward its equilibrium.

Source: Korowicz (2012)

The tens of billions of supply chain interactions that happen all around us, for example, are too numerous and complex for anyone to fully see and understand.

Policy decisions mostly rely on outdated economic models that are “parametrized” for the stable conditions in which they were developed.

Korowicz writes that “as the risk of major systemic change grows, those models will likely prove increasingly erroneous as the system moves out of its historical equilibrium.”

Source: Korowicz (2012)

Negative feedback loops–automatic stabilizers–are designed to soften the blow of economic shocks and return a system back to a stable domain.

However, if automatic stabilizers fail, then positive feedback loops can arise, where negative events feed on each other to produce more negative events.

For example, failing to isolate the effects of a bank failure can lead to a cascading wave of failures throughout a financial system as it departs too far from the stable domain in which it must operate.

Source: Korowicz (2012)

Economic contraction feeds on itself. Korowicz explains how this sort of process is carried out:

As the economy contracts, then the customers of the utility have less to spend. A decline in revenue would mean that the utility income relative to the fixed costs would fall. If they want to maintain the network, they may have to raise the price of their service; this would drive away some customers, and cause others to use less services. Thus the utility revenue would fall further, requiring further price rises, spending falls and so on. If the utility cannot afford to maintain the network, the service deteriorates making it less attractive for customers, who drop out, reducing income and so on.

Source: Korowicz (2012)

Korowicz writes that “A suspicion of ‘outsiders’ and increasing nationalism are common features of an economic crisis.”

This is rapidly occurring in Europe as the crisis grows. Germans point fingers at the Greeks, while Greeks point fingers back at the Germans. Indeed, they do not identify as fellow Europeans but as nationalist entities.

When the economy is contracting, it decreases the incentive for relative strangers to keep their word to others. Greece has less incentive now to make good on its debts than it did when times were good because they no longer benefit like they once did.

Source: Korowicz (2012)

75 percent of payment flows between banks on an average day are conducted among only 0.1 percent of the banks in the US Fedwire payment system.

This is a symptom of preferential attachment–highly-connected nodes in a system are more likely to attract additional connections.

Korowicz notes that “big banks have greater economies of scale and bargaining power, so can attract more business than their smaller rivals with better deals or market crowd-out.”

Source: Korowicz (2012)