The Daily Reckoning
Readers who expect an early end to this Great Correction are going to be disappointed. There is no sign of it reaching its conclusion anytime soon. Just the contrary…there’s no end in sight.
The Great Correction seems to be going along just as you’d expect. Or, just as we’d expect.
Here’s the latest from Reuters:
Home prices fell more steeply than expected in November, and consumers turned less optimistic in January, highlighting the hurdles still facing the bumpy economic recovery.
The S&P/Case-Shiller composite index of single-family home prices in 20 metropolitan areas, released on Tuesday, declined 0.7 percent on a seasonally adjusted basis, a bigger drop than the 0.5 percent economists expected.
Separately, an index of consumer attitudes fell to 61.1 in January from 64.8 the month before, as Americans turned gloomy about the job market and income prospects, said the Conference Board, representing private companies.
Some improving housing data in late 2011 had raised hopes the recovery was finding its footing. But weaker numbers this month have underscored how lengthy the healing process will be.
US housing prices have plunged by about a third from their peak before the financial crisis, and a combination of high unemployment, tight mortgage lending conditions and more foreclosures in the pipeline are holding back a recovery.
A report released on Monday showed spending was flat in December as Americans focused more on saving.
Once a key pillar of the US economy, Americans have taken a more frugal tack as many struggle with hefty debt burdens.
LONDON — UK households made a record repayment of personal loans and credit card bills in December, Bank of England data showed Tuesday, underscoring households’ limited appetite for spending and heightening fears the UK may slip back into recession.
BOE figures showed UK consumers made a net repayment on unsecured loans of £377 million ($592.3 million) in December, the highest figure since records began in 1993. It was also the first time since last January that repayments exceeded new borrowings…
In some ways the situation in Europe is worse than in the US, depending on where you are. Youth unemployment is up as high as 50% in some areas. Even in supposedly strong economies it is around 20%.
And, oh yes, you want yield? How about a 10-year note from Portugal? It comes with a yield of 17%.
So what do the euro-crats do? Same thing as the US-crats. They give the banks money, hoping the nice bankers will spread it around.
Last month, the European Central Bank provided 489 billion euros in 3-year loans. “Super Mario” Draghi — formerly head of the bank of Italy, now head of the ECB — keeps the banks from going bust…and begs them to keep the governments from going bust.
The banks needed about 230 billion to refinance loans coming due in the first quarter of this year. They got the money from the ECB.
What a show! Draghi, Monti, Papademos and all the other ‘technocrats’ now managing the crisis are the very same guys who created the crisis. They worked for Goldman, ran central banks, and helped organizations such as the IMF and the World Bank make a mess of the world’s financial system.
Now, they’re solving the crisis the same way they caused it — by creating more debt. The banks can’t pay their bills so the central bank lends them money. Governments can’t pay their bills either, so the central bank lends them money so they can lend it to the government.
The ECB says it will give away more money on February 28th. Goldman Sachs is advising other banks to take the loot. As much as $1 trillion could be given out.
Let’s see, how does this work? You are deeply in debt. So, the bankers lend you money so you can continue making payments. You go even deeper in debt…and the bankers lend you more money so you can keep making payments…
…and so on…
Where does this end? We don’t know.
for The Daily Reckoning
The Southern Hemisphere is not a bad place to be in the wintertime. That is, when it is wintertime in the Northern Hemisphere. By the time the chilly winds from Baltimore reach the southern tip of Africa they have been warmed by the South Atlantic. Flowers bloom. The sun shines. Gentle breezes glide over the fields and parking lots.
As near as we can tell, South Africa is booming. Driving along the freeways, you’d scarcely know you weren’t in Southern California…or Texas. Except that it seems newer and more modern in Johannesburg than it does in LA. Most of the roads…shops…and offices you see in Jo’burg were put up only in the last couple of years. Those in LA date back decades.
But there are a lot of poor people in Africa, more than in California. And some of them are not very good neighbors. At intersections that are particularly favored by hijackers, for example, signs warn motorists to watch out. Razor wire, stretched generously and lazily on the top of walls, reminds the visitor that this is no paradise.
Melbourne, Australia, is equally sun-washed this time of year. But it seems cleaner, safer, and more urban. People ride bicycles up and down the Yarro River. Couples stroll hand in hand in front of the old train station or through the narrow alleys, now filled with tables and outdoor dining.
Jo’burg is much cheaper than Melbourne. We paid $44 for a buffet breakfast at the Crowne Plaza hotel. Then again, Melbourne has become one of the world’s most expensive and desirable cities. Each year, it and Vancouver vie for the top position in The Economist’s list of the world’s most livable cities.
To summarize Australia’s economic situation: the Aussies sell dirt to the Chinese. Since the Chinese have such a strong appetite for antipodal dirt, the Aussies are making money. Prices are rising. Investors are confident. The boom goes on.
Australian property prices seem way out of line, at least compared to Baltimore. An office building that might sell for $1 or $2 million in the heart of Baltimore is on offer in the St. Kilda area of Melbourne for $7 million. Then again, St. Kilda is lively, hip, and attractive, with an exciting nightlife and a beach next door. Baltimore, on the other hand…oh, never mind.
for The Daily Reckoning
Yesterday, Europe was back in the news. Whenever Europe is in the headlines, the headlines are bad. And the ideas behind the headlines are absurd. In fact, it is amazing how many crackpot ideas the press can throw at you in a single day.
The immediate problems in Europe were two:
Second, the Greeks themselves, were still having trouble settling up with their creditors — despite years of negotiation, bailouts, rescue plans, and mouth-to-mouth resuscitation.
Bloomberg was on the story yesterday afternoon:
…a stalemate between European policy makers and Greek bondholders over debt relief increased concern that the European credit crisis will spread.
…finance ministers balked at putting up more public money for Greece, calling on holders of its debt to provide more relief. The International Monetary Fund cut its global economic forecast as Europe slips into recession and growth cools in China and India.
“The Greek debt impasse is weighing on the market,” said John Kilduff, a partner at Again Capital LLC, a New York-based hedge fund that focuses on energy. “The IMF warning this morning dampened any economic optimism.”
At the heart of the market’s nervousness was what Bloomberg calls “demand fears.” As near as we can figure, ‘demand fear’ is the worry that there aren’t enough people who want things and have the money to pay for them.
Why not be satisfied with the demand as it is? Why not accept the decisions of willing and able consumers as to how much stuff they need and how much they can afford to buy? Why is it important that they buy more than they need with more than they have?
International Monetary Fund Managing Director Christine Lagarde warned of a “1930s moment” for the world economy if Europe does not solve its financial problems and said Germany must contribute more money to rescue efforts if a disaster is to be avoided.
Without such funds, Lagarde said, “we could easily slide into a 1930s moment. A moment, ultimately, leading to a downward spiral that could engulf the entire world.”
She said the 17 euro-zone countries also must move quickly to integrate their economies as deeply as they integrated their monetary systems with the creation of the common currency. Failure to act, she said, could precipitate a crisis comparable to the Great Depression.
And here’s one of our favorite economists, Larry Summers, writing in The Financial Times. Mr. Summers is concerned by a lack of confidence…and “uncertainty about future growth prospects,” which he thinks are the causes of the demand shortage.
What? You can see the problem with Summers’ pensee right here. If “uncertainty about growth prospects” is a problem, it is equivalent to uncertainty about how long our liquor supply will last in a snow storm. It’s an uncertainty we have to live with. The future is unknowable. We’re always uncertain about growth prospects — particularly now, when the developed economies are doing so little growing.
Europe is expected to contract by 0.5% this year. The US is expected to grow, but only at a 1.8% rate. Japan…the other major developed economy…hasn’t grown in 21 years and most likely won’t growth this year either.
So, you can forget your “uncertainties about growth?” The entire developing world, as a whole, is not growing. Get over it…
Instead, Summers thinks these uncertainties should be addressed…yes, by government! Of course, government is the sector that never produces any real growth. It’s a consumer, not a producer. And it can only consume what it extracts from the real economy. It diverts resources from real, growth-creating activities into zombie redistribution, make-work, and work-squelching regulations.
(An aside… A friend of ours just started up a new bio-tech company. He moved out of Georgia to Toronto, Canada, to start the business. Why? “Too much regulation and red tape in the US,” he says. “You’d have to be crazy to start a business in the US.”)
Still, Summers believes that government has no higher purpose than to get people to shop.
“Government has no higher responsibility than insuring economies have an adequate level of demand,” he says.
What? Luring people to the mall is more important that protecting them from annihilation? Is it more important that people buy more toaster ovens and more super-size bottles of cherry cola than they are able to live in peace in a just and honest society?
But how can government increase demand? How can it make people richer and more confident? Of course, it can’t. Government is not a producer. So, it can’t make people wealthier.
All it can do is to bamboozle them. Summers quotes the Great Bamboozler himself, John Maynard Keynes:
“[The] public authority must be called in aid to create additional current incomes through the expenditure of borrowed or printed money.”
Let’s see. The feds borrow $5 from Peter to give it to Paul. How is demand increased?
“Peter was a rich guy,” you say. “He wasn’t going to spend it. Better to give it to Paul.”
Well, we don’t know what Peter was going to do with his money. He might have invested it to create more jobs and output. Or he might have spent it himself. Either way, we’d be better off than if he lent it to the feds. We know what they do with it. Maybe it ends up in the pockets of a rich lobbyist in Washington. Maybe it is used to build a drone that crashes in the desert. Nothing good comes from it.
The other demand-increasing choice is to print the money. Hey…what kind of money is this that you can just create on a printing press?
We’re not going to dignify that question with an answer, dear reader. We all know what kind of money it is. It’s make-believe, counterfeit money…the kind of money that you’d go to jail for creating on your own.
And you’d deserve to go to jail. So do the feds who gin it up.
for The Daily Reckoning
We have a wintry landscape here in Baltimore…or what is left of one. But forget the weather, happy days are here again.
At least, that is what you might think from reading the newspapers. Unemployment is going down. Consumer debt is going up. Even the housing market is showing signs of improvement.
Gold is rising — investors seem to think inflationary pressures are building. The 10-year T-note yield is back over 2%. And stocks are having their best January in 15 years…
And now, once again, the commentariat is talking about a ‘recovery’ from the Great Recession.
But we’ll give it to you straight, dear reader. There wasn’t any Great Recession and there won’t be a recovery. You don’t recover from what ails the US economy. You die. Then, a new economy can be born.
Still, there are many recovery sightings. But so far, the recovery itself remains as elusive as Bigfoot.
Here’s Bloomberg, with more details:
A decline in unemployment and pickup in manufacturing point to accelerating US growth. Some economists say the numbers may not be as good as they look.
One reason: the severity of the economy’s plunge in late 2008 and early 2009 after Lehman Brothers Holdings Inc. collapsed threw a wrench into models used to smooth the data for seasonal changes, according to analysts at Goldman Sachs Group Inc. and Nomura Securities International Inc.
“The impact of the financial crisis does seem to have affected seasonal factors for several indicators,” Andrew Tilton, a senior economist at Goldman Sachs, said in a telephone interview from New York. It “might tend to make things look a little better in the early winter and look a little worse in the spring time.”
Most economic data are adjusted for seasonal changes to facilitate month-to-month comparisons. Without those changes, for example, construction would always pick up in the summer, when the weather is milder, and decline in the winter.
The adjustment process is unable to distinguish between a one-time shock, like Lehman’s demise, and a recurring issue that would need to be smoothed away. For that reason, the mechanism gives some data a leg up from about September through about March before turning negative the rest of the year.
The economy contracted at an average 7.8 percent annual pace from October 2008 through March 2009, the worst back-to-back quarters in the post World War II era. The 18-month recession ended in June 2009.
The adjustment process “has been knocked out of whack by the financial crisis,” Ellen Zentner, a senior US economist at Nomura in New York, said in a telephone interview. “The model ends up adjusting for a growth pattern that isn’t there. The sudden drop-off in economic activity in late 2008 is not a pattern, it doesn’t happen late every year. It was a one-off event.”
In effect, the models are over-compensating…trying to make sense of the big collapse of ’08-’09 by treating it as though it were a seasonal adjustment issue. If the winter weather were so severe as to cause such a big drop-off, the machines reason, we must move the bar lower next year. Then, even a modest improvement will look spectacular.
But Goldman’s economists estimate that unemployment will average 8.5% this year — almost unchanged from last year. That is not a recovery. And we have to wonder…what will power the ‘recovery’ analysts believe they seem coming?
Not household spending. Households don’t have any money to spend. What then?
Nothing. There will be no recovery. Instead, the US economy is in the process of zombification and ossification…which is what happens when the feds refuse to allow dead-men industries to die.
Ottmar Issing, of the European Central Bank, is on the case:
“The problem of ‘too big to fail’ is that it has made society — more precisely, the taxpayer — hostage to the survival of individual financial institutions…the taxpayers’ billions committed to rescue supposedly systemic institutions has dealt a big blow to confidence in the free market system…and has in turn become a threat to free societies.”
Well, yes. Now, the game is rigged. The fix is in. The zombies are dealt the aces. The rest of us get a bum hand.
But wait…didn’t the US government make a profit from its loans to the banks? Didn’t the banks pay back the money? Didn’t taxpayers come out ahead?
Oh dear reader, please stop…we can’t stop laughing. We’re afraid we might pull a muscle.
Imagine a bartender. He realizes that his customers have been handing out IOUs all over town — including to him. And he also knows his customers can’t pay. People are beginning to wonder…they’re beginning to discount the IOUs. A crisis is coming…
What does he do? He lends the customers more money and buys the IOUs from the other merchants! Naturally, the value of the IOUs goes back up. Because now, holders know they’ll get their money. Even the value of the IOUs owned by the bartender go up. Wonder of wonders, he has even made a profit on the deal!
Happy days are here again.
Which reminds us of Hemingway’s conversation between Bill Gorton and Mike Campbell.
Bill asks; “How did you go bankrupt?”
Mike answers: “Two ways. Gradually. Then, suddenly.”
We’re still in the ‘gradually’ phase. Stay tuned…
for The Daily Reckoning
We went around the world last week. We wish we could say we learned something. But modern travel has been standardized…and culture and technology have been “globalized”…so that the more you travel the more you feel you never left home.
“How was your trip around the world?” asked our assistant when we got back in the office in Baltimore.
“No problem. Nothing special,” we replied.
How could a trip around the world not be ‘special’? Well, the airports all look alike. The planes are all alike. The restaurants and hotels are all alike, usually international chains. So are the shops…and the products.
You can travel to the far side of the globe…and except for the fact that you can’t quite remember where you are…or what time it is…you might as well have stayed put…
Returning to the US…
We got the big news when we picked up a copy of USA Today in the LA airport.
“Light at the end of the debt tunnel?” asked the headline.
We thought we knew the answer before we started reading.
But the report in USA Today tells the results of a study by McKinsey Global Institute. As a percentage of GDP, the US cut its “private and public debt” by 16 points, since 2008, it says. That puts it tied with South Korea in the debt-cutting derby.
We were only a paragraph into this report when we began to suspect that neither the reporter nor the McKinsey researchers had any idea what was going on.
Sixteen percentage points is not bad. But, as we recall, total debt in the US was around 325% of GDP. Take off 16 points…it’s only a 5% reduction. Besides, US government debt alone INCREASED during this period. The feds are the largest debtors in the world. And they added 66% to their debt over the last three years. It was $9 trillion in ’08. Now it’s $15 trillion. An addition of $6 trillion.
The dots given in the USA Today report don’t connect with the dots we know. It maintains that total debt in the US was 279% of GDP in the second quarter of last year. And it says financial debt fell by less than $2 trillion and household debt by half a trillion. Huh? That doesn’t sound like $6 trillion.
We found a better report in The Financial Times. Gillian Tett explains that while the private sector is de-leveraging, the public sector is borrowing and spending more than ever. She goes on to take issue with McKinsey’s “light at the end of the tunnel” conclusion.
Yes, the private sector is de-leveraging — just as you’d expect. Most of the debt that is being eliminated is mortgage debt and most of it is eliminated by default and foreclosure. At this rate, McKinsey reasons, US consumers “could reach sustainable debt levels in two years or more.”
Hallelujah! We just have to wait until 2014 for a recovery.
But wait a minute. McKinsey’s conclusion was based on the experiences of two Scandinavian countries, Finland and Sweden, in the 1990s. The two countries spent too much. Then, they had to cut back. The private sector went into a slump and the public sector took up the slack. When, after a few years, the private sector had reduced its debt sufficiently, it could resume its former growth…while the government gradually paid down its debts. All was well that ended well. The researchers on the project argue that “today the United States most closely follows this debt-reduction path.”
We don’t think so. We think the US is on a very different path. Finland and Sweden could pull off this ‘rescue’ because conditions were completely different.
First, they have smallish populations with much social and political cohesion.
Second, they were able to get back on the growth path because there was a boom going on almost everywhere else; they exported their way back to financial health.
Third, they didn’t have that much debt in the first place. The Finns and Swedes could add debt without pushing themselves beyond the point of no return.
Not so the US…on all points. America has too much debt. It has no plausible path to recovery. And the feds are adding more debt than it can pay off.
You can do the math yourself, dear reader. With government debt-to-GDP at 100%…and rising…and the shift to short-term financing over the last few years…the feds are extremely vulnerable to an increase in interest rates. A chart in Sylla and Homer’s “A History of Interest Rates” suggests that investors want a real rate of return from government bonds in the 3% to 5% range. That’s what they’ve been getting, according to the chart, all the way back to 1850.
The current CPI-measured rate of inflation is about 2%. This suggests that nominal bond yields should be in the 5% to 7% range. But at 5% interest, the feds would have to pay out about $750 billion in annual interest charges, which is between a third and a quarter of all expected US tax revenues. It’s the equivalent of the military budget, for example.
At 5% interest, bond investors would probably be wondering how the feds could stay in business. Most likely, yields would spiral out of control quickly…forcing the feds to print more money to cover deficits. In a matter of days, the whole jig would be up.
Which is what makes the other big news so puzzling.
“Negative yield fails to deter investor appetite for Tips,” said one headline.
“30-year US loan rate hits nadir,” said another.
What both headlines are telling us is that either we’re wrong about how the world works…or the world isn’t working quite as well as it should be. The second explanation suits us best. The public sector is leveraging up. It is going deeper and deeper into debt. As it adds to the quantity of its debt outstanding, the quality should go down. And the price too. But it’s not. So, either the times are out of joint…or we are.
For now, the weaker US finances get, the more people seem to want to lend it money.
This has to end badly…
for The Daily Reckoning
Dow up 96 yesterday. Gold up $4. Oil above $100. Nothing special to report, in other words.
Mitt Romney has revealed his effective tax rate. “About 15%,” he says.
That seems like more than enough to us. But it’s not enough to satisfy the zombies. Romney has made a lot of money. They want more of it.
It turns out that 15% is lower than average. The AP reports:
At 15 percent, Romney’s federal income tax rate would still be higher than the rate paid by many Americans.
However, when Social Security and other taxes are included, that same household would pay an average federal tax rate of 16.6 percent.
Overall, the average American household will pay 9.3 percent in federal income taxes — and 19.7 percent in all federal taxes.
Romney’s wealth — he is worth between $190 million and $250 million — puts him among the richest Americans. But if most of his income is from investments, it could help him to significantly lower his federal tax bill compared to people who make money in other ways.
While the top federal tax rate for investment income — qualified dividends and long-term capital gains — is 15 percent, the top tax rate for wages is 35 percent on taxable income above $388,350. Wages are also subject to Social Security and Medicare payroll taxes, while investment earnings are not.
Newt Gingrich has suggested a flat tax rate of 15%, which he now proposes to call the “Romney Tax.”
But the zombies not only want a higher rate (so they can squeeze the producers a bit harder) they also don’t want a flat tax. They prefer a confusing, complex, and ever-changing tax code, with 10,000 rules and 20,000 exceptions. Why? Three reasons:
First, complexity provides rich cover in which to hide special favors and privileges.
Second, the more special favors available, the more campaign contributions, donations, job offers and speaking fees Congress can count on.
Third, and don’t forget the lawyers and accountants — the corrupt insiders — who make money by helping lay the mines…and then helping taxpayers get through the minefields without blowing up. Sure, you could replace the government’s revenue with a much simpler tax system…but you’d inconvenience the zombies.
In short, the tax system is completely corrupt. It is a drag on the whole economy…but it serves the zombies well.
for The Daily Reckoning
Thursday’s trading revealed nothing of importance. Small moves in stocks and gold. And oil dipped below $100.
But the news has been generally “good” ever since the European Central Bank made it clear that it will print money rather than see major banks or minor nations get what is coming to them. Like its US counterpart, the ECB will not permit a major bank or sovereign debtor to go bust.
“ECB sees signs of let-up in debt crisis,” is today’s headline in The Financial Times.
Let’s see…the news report goes on to tell us that Spain and Italy were able to sell 22 billion euros of debt yesterday, proving that they can still finance their deficits…and that, therefore, we have nothing to worry about.
To whom did they sell their bonds? We don’t know, but we presume the buyers were banks who were investing money they got on favorable terms from the ECB. So, you see, dear reader, that their willingness to buy the debt does not necessarily mean that either buyer or lender is solvent. Probably, neither is…
But with fears of a debt debacle in Europe off the front page headlines…the financial world has seemed rather benign, especially in America.
US stocks have rallied since October. The latest unemployment report from the feds was surprisingly upbeat. The dollar is strong. And US consumers are now re-leveraging, going deeper into debt in order to buy things.
Does this mean the Great Correction is over and done with?
Europe is either already in recession…or entering recession. Leading indicators in the Old World are plunging sharply…
Manufacturing in the US is softening… And European sales affect 20% of US corporate revenue… A strong dollar actually makes it harder for US companies to sell their products overseas, and it reduces the contribution made by foreign subsidiaries to US earnings reports.
Oil, meanwhile, has remained near $100 despite a sell-off in commodities and “risk-on” assets. This leaves both business and consumers with little free cash to spend…and squeezed profit margins. Already, corporate profit margins are beginning to come down…as they should.
The Fed came out with its “Beige Book” this week. Our reading of the report — which includes updates from 10 districts around the country — is that conditions haven’t gotten any worse…but that they haven’t gotten any better either.
Most important, the two key ingredients in household wealth — wages and housing values — remain in a slump. None of the 10 districts reported much improvement in either area.
So, even if consumers did go on a bit of a shopping spree over the holidays, it is unlikely to continue. Because there is nothing behind it.
Remember, this time it IS different. This time there is nowhere to go but down.
Households could increase their debt levels in the ’80s, ’90s and ’00s only because 1) they began at a fairly modest level, and 2) housing prices were going up. While household debt has come back down to levels of the early ’00s…they have a long way to go before they are back to the long-term averages of the ’60s, ’70s and ’80s.
As for employment, the latest numbers were better than they had been but hardly a sign of a real recovery. From the “WorkBlog” at The Washington Post:
On Friday, we got the December jobs number: +200,000. That’s good, but not good enough. I posted a graph from the Hamilton Project showing that, at that rate, the labor market wouldn’t recover till 2024. But perhaps that’s too pessimistic. The Economic Policy Institute took a look at the same numbers and concluded that a growth rate of 200,000 jobs per month would lead to a full recovery in seven years or so. That’s nothing to celebrate, but it’s better than the Hamilton Project’s estimate of 12 years. It’s also a bit odd: Isn’t this a simple matter of taking job losses and dividing by monthly job gains? Well, no. The date of our eventual recovery depends on some crucial unknowables about the future of the American labor force.
The blogger doesn’t mention it, but even while the unemployment rate might go back to ‘normal’ in 7 to 12 years, the latest figures show household income still going down. That’s not going to do much for household budgets or purchasing power. Or their borrowing power, for that matter.
Who’s going to lend to households when both their ability to repay (their wages) and their collateral (their houses) are going down?
And what are aging baby boomers going to retire on, if they continue to borrow against declining collateral?
Our verdict: The higher borrowing and spending at the household level in December was a fluke, we believe, not a sustainable trend. The Great Correction continues…
for The Daily Reckoning
“Americans think we are stupid,” said a European diplomat at a dinner party in Washington. ”But we’re not stupid. We’re just working out the problems involved in forming what you might call ‘a more perfect union.’”
“Well, you can unify all you want…it won’t make your debts go away,” we replied. We always try to be a cheery presence at dinner parties…especially in Washington.
“No…but it will make it easier for us to manage them, just as you do here. And by the way, the US has about the same amount of debt as Europe. The latest figures show the average of all OECD countries is about 100% of government debt to GDP. The US is right in the center…right at the average.”
“Oh, don’t think I’m holding the US up as a superior example. Not at all. To the contrary, I’m just pointing out that if Europe follows the US model, it will go broke just like the US.”
“Actually, there is some very intelligent and sophisticated thinking going on in Europe. I think you’d approve of it. We don’t talk about it publicly, of course. Most people wouldn’t understand. But we know that something very important has changed…and we are not at all sure how to respond to it.
“No country has ever been able to work its way out of such high levels of debt without exceptionally strong rates of growth…and an exceptionally good set of circumstances that make it possible — such as very agreeable creditors who essentially forgive debt, as the US did after WWI and WWII.
“And I don’t see either of those things happening. The creditors can’t forgive the debt…because they owe money too. They’d be broke too. And growth levels seem to have come down to negligible levels. If this continues, all our planning and all our efforts to ‘build a more perfect union’ will probably be for nothing.”
“I’m glad to see you thinking along those lines. But you’re aware that this is not a problem that just appeared in the credit crisis of ’08?”
“Yes…we know it has been a long time coming. Ever since the end of the ‘30 glorious years’ following WWII, real growth has been hard to get.”
“Exactly. In the US, the average man of working age earns about 20% less, in real terms, than he did in 1972. If he only went to high school and not college, he earns nearly 50% less.”
“In Europe, outside of Germany, the figures are similar…though not as bad, I believe.”
“Yes, it was possible for the US to reduce its WWII debt because it ran very high rates of real growth up until the ’70s. Same thing in Europe. Since then, most of the improvement in living standards has been smoke and mirrors. In America, women went to work. More people working more hours. They were able to increase household income…while the quality of life at home generally went to Hell. Then, when they couldn’t work any more hours, they began borrowing money. Then, their balance sheets went to Hell. That is the reason, and the only reason, for the boom of the Clinton…and later, Bush…years. It was a phony, unsustainable boom…with phony, unsustainable growth.”
“In Europe, it was a little different. People didn’t want to work more. They wanted to work less. So they emphasized high wages….but fewer people had jobs. We learned to live with high unemployment. And governments borrowed to boost living standards for everyone — including those who didn’t work.”
“But those days are over. Nobody — household or government — can continue to borrow to raise living standards. And without more real demand…and real spending…and real wealth…it’s not possible to work your way out of so much debt.”
“Yes, this time capitalism really does seem to have failed us,” our diplomat friend concluded.
“Well, it looks that way. You have to ask… How is it possible that the most dynamic, best capitalized, most high-tech economy in world history could not add a single dollar to the real wealth of the average working man over a 40 year period?”
More to come…
for The Daily Reckoning
Not much to report on in the markets yesterday. So let’s move on…
What are the big risks in 2012? We can think of several. But the World Economic Forum only sees two worth mentioning — too many deficits and too great a difference between rich and poor. The New York Times reports:
Severe income disparity and chronic fiscal imbalances are the top two risks facing business leaders and policy makers this year and over the next decade, the World Economic Forum said in a report Wednesday. If these problems are not addressed, a result could be a “dystopian future for much of humanity,” according to the report, which was published in preparation for the group’s annual meeting of business leaders, policy makers and academics in Davos, Switzerland, Jan. 25 to 29.
Signs of discontent with growing income gaps and economic problems stemming from the global debt crisis were already on the rise in 2011, as evidenced by the Occupy movement that began on Wall Street and quickly spread to other cities in the United States and around the world. Yet that might be only the beginning.
Of course, there are others with worries of their own. NYT continues:
While scientists can predict the probability — if not the exact timing or scale — of certain natural disasters, the ability to read a crystal ball may be more helpful than complex calculations in determining risks stemming from human events.
Leading many forecasters’ worries is an escalation of tensions between the United States and Iran. In addition to political turmoil, military action between the United States — or Israel — and Iran could cause a sharp increase in oil prices, especially if the Strait of Hormuz were blocked.
Ed Yardeni, an independent economist in New York, lists this as one of his “four horsemen of the apocalypse” for 2012. The others, cited in a note to clients, are: a severe global credit squeeze stemming from the crisis in the euro zone; social upheaval in China and India; and a severe global recession emanating from Europe.
Graham Hutchings, director of analysis at Oxford Analytica, adds to these the uncertainty caused by elections in a number of countries, including France, Russia and the United States, as well as a leadership transition in China.
So you see, dear reader, a lot could go wrong in 2012.
How do you protect yourself?
“Find the investment premise that is false and bet against it,” was George Soros’ formula. And right now, the biggest premise in the financial world is that US dollar-denominated Treasury debt…and to a lesser extent, US stocks…represent the safest investments you can make. This idea is so popular it could take American debt and equities higher in 2012. People flee Europe and the Emerging Markets for the safety of US assets.
But the premise beneath these investments is false. Neither US debt nor US equities are becoming more valuable. They’re losing value. Americans are becoming poorer. They have not had a wage increase since 1974. Only by working more hours per household…and going further into debt…were they able to increase their standards of living. But now, with unemployment over 8% and de-leveraging taking place (admittedly, in fits and starts), they will have to spend less. Sooner or later, investors will have to recognize it.
“They only way for the European [and American] economies to recover is to admit that they are not poor and live within their means,” writes Mahathir Mohamad, former prime minister of Malaysia, in the Financial Times. Then, they must go back to doing real business, ie to produce goods and sell services. Wages, bonuses and other perks have to be lowered to become competitive. …There can be no return to the status quo ante.”
No, dear reader, there’s no going back. And every step you take going forward you risk stepping onto a landmine or into a trap. But one thing is almost a certainty. When we finally reach our destination, US stocks and bonds will be lower.
And more thoughts…
What are we doing in South Africa? Checking on business…
How’s business? Not bad. Johannesburg seems to be booming. The “New South Africa” seems to work…for now.
But if our theory of government is correct, it is probably just a matter of time before the central authorities ruin it. Remember, government is not an enlightened organization designed to promote public welfare. It is barbaric, uncivilized force…military and police power put to the service of the insiders who control it.
Yes, there are constraints on the way the insiders use their power. There are ‘checks and balances,’ built into the constitution, for example. And there are cultural norms and traditional prohibitions.
But eventually, the norms and traditions wear off, like painkillers. And then, the pain of raw government begins again.
*** How do you get to South Africa? Here’s how to simulate the journey in your basement or garage…and save $5,000.
First, stand around for about two hours. Take off your clothes, just as you would as you pass through security. Then, sit down in a fairly comfortable, reclining chair. Turn on a loud furnace or vacuum cleaner. Besides you are two strangers, one on either side. One is immensely fat. The other has a bad cough.
Arrange for someone to serve you a bad meal while you are seated. Have a cheap bottle of wine on hand for refreshment. When you are finished eating, turn out the light. Stay seated for the next 8 hours. It is now about 3 AM. Set your alarm to wake up. Turn the lights on. Stay awake (while the plane is refueling in Dakar) for about an hour. Then, you may put your seat back again. Stay in your seat for another 8 hours.
Voila, you are there.
*** Tomorrow…more ‘crisis in capitalism’ coverage.
for The Daily Reckoning
What’s ahead for 2012?
We gave you a hunch yesterday. The price of gold will probably go nowhere this year.
We have a feeling that 2012 is not going to be a great year for money you get from the ground. Oddly, it will probably be a better year for the money you get from trees.
How is that possible? We all know paper money is going to be worthless. Yes…dear reader…but not necessarily in 2012. It’s just part of the curious way Mr. Market does business…and a feature of his nasty habit of ruining as many investors as possible.
Look, it’s pretty simple. The private sector debt bubble blew up in 2008. The public sector debt bubble will blow up too. Maybe in 2012. Most likely not for a while longer. But when US debt begins to blow up, the feds will come in with everything they’ve got trying to stop it.
And all they’ve got is a printing press. Ben Bernanke:
…the US government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many US dollars as it wishes at essentially no cost. By increasing the number of US dollars in circulation, or even by credibly threatening to do so, the US government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.
Positive inflation is the feds’ answer to a debt blow-up. They have no other answer… When bond buyers refuse to roll over US debt at reasonable rates, the Fed will use its printing press. The resulting “positive” inflation will blow up the world’s monetary system as well as government debt. Gold will be the about the only money left.
So, we should just buy gold…and avoid US dollar-denominated debt, right?
Hold on. Mr. Market doesn’t make it that easy. Our guess is that he’s going to lure trillions more dollars into the US debt market…and then blow the whole thing sky high.
Just look what happened last year. Bloomberg tells us that stocks worldwide lost 12% of their value. But bonds actually went up…about 6%. And there’s a good chance that the same thing could happen in 2012. Stocks down. Bonds up.
Stocks won’t be cheap until they are about half today’s prices. So they have a long way to go.
When stocks go down, investors will go into the US bond market looking for shelter. This will drive down yields and drive up prices. And bonds — judging from Japan’s example — can keep edging upward for a long time. Especially now that everyone thinks US debt is 100% safe.
And the worse things get, the more people want the safety of US Treasury debt. That was the lesson of 2011.
Like people buying houses in 2005…investors will buy bonds and think they are geniuses — for a while.
The feds are already running into the limits of their ability to borrow. Here’s the Bloomberg story:
Governments of the world’s leading economies have more than $7.6 trillion of debt maturing this year, with most facing a rise in borrowing costs.
Led by Japan’s $3 trillion and the US’s $2.8 trillion, the amount coming due for the Group of Seven nations and Brazil, Russia, India and China is up from $7.4 trillion at this time last year, according to data compiled by Bloomberg. Ten-year bond yields will be higher by year-end for at least seven of the countries, forecasts show.
Investors may demand higher compensation to lend to countries that struggle to finance increasing debt burdens as the global economy slows, surveys show. The International Monetary Fund cut its forecast for growth this year to 4 percent from a prior estimate of 4.5 percent as Europe’s debt crisis spreads, the US struggles to reduce a budget deficit exceeding $1 trillion and China’s property market cools.
The amount needing to be refinanced rises to more than $8 trillion when interest payments are included. Coming after a year in which Standard & Poor’s cut the US’s rating to AA+ from AAA and put 15 European nations on notice for possible downgrades, the competition to find buyers is heating up.
Borrowing costs for G-7 nations will rise as much as 39 percent from 2011, based on forecasts of 10-year government bond yields by economists and strategists surveyed by Bloomberg in separate surveys. China’s 10-year yields may remain little changed, while India’s are projected to fall to 8.02 percent from 8.36 percent. The survey doesn’t include estimates for Russia and Brazil.
The world’s economic knees are beginning to buckle. Higher borrowing costs reduce the fiscal support governments can give to their economies. “Austerity” becomes less of a choice and more of a necessity. Europe is already in recession. America is probably not far behind.
The feds may have to turn to the printing press sooner than we thought.
***Who’s number one?
Depends on what you mean.
Who’s number one in steel production? China.
Who’s number one in mobile phones? Well…China again.
Who’s number one in manufacturing output? That would be China too.
How about car sales? China!
How about exports? China.
Patents granted? China.
Energy consumption? China
Fixed investment? China
The country that invented the compass, gunpowder and printing is also challenging America in the innovation stakes. We estimate that in 2011 more patents were granted to residents in China than in America. The quality of some Chinese patents may be dubious but they will surely improve. The World Economic Forum’s “World Competitiveness Report” ranks China 31st out of 142 countries on the quality of its maths and science education, well ahead of America’s 51st place. China’s external financial clout also beats America’s hands down. It has total net foreign assets of $2 trillion; America has net debts of $2.5 trillion.
Wait a minute, the US must be number one in something.
Yes, dear reader, we can hold our heads up high. We are still number one in zombies. When it comes to consuming, rather than producing…we’re in the lead. Out in front. We buy more and import more than anyone.
And we’re way ahead on the most zombie industry of all — the military. Heck, China won’t catch up with us on military spending until 2025, estimates The Economist.
Then what? What will happen when China spends more on its military than the US? Hmmm….
We’re not going to think about it. Too far in the future. Here at The Daily Reckoning we take it one day at a time. Day after day…we follow the news. Day after day, we try to make sense of it…we squint and try to see what is going on. And day by day, we think we see it more clearly. It is like the early morning. In the half light we can barely make out the shapes. A house in the distance could be a small hillock. A tree could be a cloud on the horizon. And what is that moving…?
Then, the light comes and the figures become more distinct…2012 comes into focus…
…and then it grows dark again.
for The Daily Reckoning