It’s 4th July, And Americans Are More Dependent Than Ever

Paris, France

We’re in Charles de Gaulle airport, escorting Edward, 14, off to summer camp. A loud siren has gone off. We looked up. No one reacted to it. And then the siren came from another part of the airport. Still, no reaction. Occasionally, people look up from their papers...soldiers with automatic rifles continue their patrols.

Then, we heard a chant. This was not an airport alarm, this was a group of protestors...trying to disrupt the airport. Why? We never figured it out...

It is Independence Day...and Americans have never been more dependent on the kindness of strangers. The foreigners have some $4.8 trillion on currency reserves – most of it dollars. Most Americans are enjoying their picnics and fireworks today. But here at the Daily Reckoning headquarters in Europe, we recognize no national holidays and only take a break when we can’t get an internet signal. There’s always something to reckon with.

Today, for example, marks the 232nd anniversary of the day when colonists in North America decided to bite the hand that fed them. Supported by the English crown...defended against the French and the Indians by English soldiers and English money, nevertheless these traitors, rebels, and terrorists wanted to decide for themselves how they would be misgoverned.

“No taxation without representation,” was their beef.

Too bad they couldn’t have lived long enough to see the mess their descendants made of the place. Taxation with representation turned out to be much worse. From an estimated tax rate of less than 5%...the current lifetime rate -- when you add up the accumulated effect of federal, state, and local income, sales taxes, road taxes, death taxes, capital gains taxes...and other taxes -- is well over 50%.

But times change. And people come to think what they need to think when they need to think it. Less than three generations after declaring independence, the yankees decided they would rather kill their brethren in the South than permit them the same liberty. And now, 5 generations later, the US has become the world’s leading empire...and reserves for itself the right to decide what form of government other nations will have – even those half way around the world. Alas, the Brits found that bossing others around was an expensive enterprise. The British Empire provided order all over the world – which was a boon to commerce. But under the protective wing of the empire, other economies – without the expense of such a huge military establishment – proliferated like lice. By the beginning of the 20th century, both the American and German economies were bigger than Britain, and growing faster.

Now, America bears the expense of policing the world. And its rivals take advantage of Pax Americana to pile up dollars and steal market share.

T. Boone Pickens calls it the “greatest transfer of wealth in history.” He’s referring to the oil market, where Americans take money out of their pockets and use it to buy gasoline; the cash ends up in the hands of the oil exporters – notably Russia, Venezuela and the Arab states. But the transfer of wealth goes back further than today’s high energy prices...

It began with the easy money policies of the Fed following the crash of ’87...and the free-spending habits of the American people and their government. The more Americans borrowed and spent...the more money ended up in the hands of foreigners. Normally, the mountains of American cash building up overseas would have caused inflation at home and landslides in the currency markets. But Asian exporters could make things cheaper and faster than American manufacturers. This, combined with technological improvements and just-in-time inventory techniques, tended to hold prices down. Prices looked so stable, central bankers thought they were geniuses and continued to pump out cash and credit. Then too, the strangers were exceptionally kind; normally they would have dumped their dollars on the world market – provoking a currency crisis. Instead, the Asians lent the cash back to the US – thereby giving Americans even more rope to hang themselves. They could use the credit to buy more stuff – from the Asians. They didn’t need more stuff. They didn’t need bigger houses. And they didn’t need big SUVs to drive them to distant jobs and shopping malls. But that’s what over-reaching is all about – buying things you don’t really need with money you don’t really have.

Gradually, the Chinese developed more industries and more infrastructure. Soon, they were competing not merely on price...but on quality too, just as the Japanese had before them. And then, as they accumulated more and more money, they began to compete with the developed countries not only far raw materials – but for food. First, the price of oil shot up. And then, Americans (and Brazilians) tried to replace fossil fuel with fuel made from corn and sugar cane. This pushed up the price of grains. Corn has risen 64% in 2008 alone. Soybeans are up 37%. Oil itself is 50% more expensive. (Yesterday’s trading left it unchanged – at $144 a gallon.)

“This whole economic phase is about taking Americans down a notch,” we told a friend over a glass of wine yesterday afternoon. It really is a classic case of imperial over-stretch...where Americans reached too far...spent too much...borrowed too much...and lived too high. Now, they’re facing a major correction – with falling living standards, falling wealth, falling power, and falling prestige. There’s no way out...the best they can do is to take their medicine as gracefully as possible. There are no magic levers Ben Bernanke can yank. No miracle knobs he can turn.

We should add that it’s not only Americans who are being taken down. The British too are facing a correction of their own.

“British economy falling into an American-style slump,” says the headline in the International Herald Tribune.

No wonder. The Brits borrowed even more than Americans and now have more debt than we do. More thoughts...

*** Yesterday, the bank of the Europeans, led by Jean-Claude Trichet, decided to fight inflation, albeit in a modest way. The ECB raised rates a quarter of a point, just as it had threatened to do, bringing its key rate to 2.25% higher than its US equivalent.

This puts the Anglo-Saxon economies in a tighter bind. Their economies are weakening rapidly. But higher interest rates in Europe make it tough for them to cut rates further in the US and Britain.

The UK stock market is down nearly 20% over the last 12 months. Consumer confidence is at its lowest point in 18 years. And Charlie Bean, deputy governor of the Bank of England, says Britain faces “the most challenging set of circumstances since at least the early 1990s and possibly earlier.”

Houses are falling in price in Britain. Banks are tottering. Building companies are being written down.

This report from the Sovereign Society provides more details:

“Residential mortgage debt as a percentage of the economy is at a record 51% in the U.K. In Denmark and even in famously “conservative” Switzerland, it is near or just above 100%.

“And you can bet this housing mania spread into other parts of the European economies. In Britain, consumer debt now totals $1.4 trillion pounds, more than in any other country in the world—including the U.S., with five times the population. At the same time, British home owners now owe 164% of disposable income, compared to only 138% for the U.S.

“The European housing boom has also dug deep into the financial markets. Even at the real estate peak, for instance, Residential Mortgage Backed Securities totaled less than 1% of GDP in the U.S. Yet in Portugal, Spain, the Netherlands, Ireland, and Britain they range between 3% and 7.5%.

“And yet Denmark, Spain, the U.K. and Ireland have begun to register falling housing prices, with projections of as much as 9% losses this year. No wonder Denmark became the first European economy yesterday to announce that it has officially fallen into recession. More may soon follow suit—especially Ireland, Britain and Spain.”

Meanwhile, over on the western shore of the Atlantic, the Dow rallied slightly yesterday...up 72 points. The dollar managed a little bounce too (it’s fallen 41% since George W. Bush came to the White House). And gold trading left the yellow metal down $11 at $935.

“US jobs disappear and wages stagnate,” is another headline in today’s IHT.

Job losses have continued for 6 months straight. For those still working, salaries are going down, says the IHT, “just as workers face record-high prices for gasoline and food.”

Barack Obama said the problem illustrated the “failed economic policies of the past eight years.” He should have gone back further. The problem began 25 years ago – or even further back. Americans got the idea that if they called themselves ‘free,’ they would be free...and if they called their economy a ‘free enterprise economy’ it would make them rich – no matter what they did.

What makes people rich is not free enterprise, but what you do with it. And here, we let you in on the secret. If you want to get wealthy work hard...and make sure your expenses are LESS than your income. Yes, less. That’s the way it works.

*** Finally, police in Kentucky arrested a woman and charged her with trading sex for gasoline. The local prosecutor said it saddened him to see people selling their bodies for gasoline. She was charged with conducting a business without a proper license. P.S. If you enjoyed this article then we encourage you to sign up for the free Fleet Street Daily eletter. Learn what you can expect from today's markets -- and how to prosper in the face of uncertainty. You won't find more thought provoking writing anywhere on the Internet.

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It’s 4th July, And Americans Are More Dependent Than Ever

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It’s 4th July, And Americans Are More Dependent Than Ever