Well, it’s a new world, after all...
Maybe we were wrong. Maybe the mainstream economists are right.
You know, up to now all they’ve been good at is explaining why the forecasts they made in the past didn’t work out. But maybe they’re right, after all. Maybe up IS down. Maybe better IS worse. Maybe you can squander trillions of dollars and yet have more!
It is all too much for us. Our head aches thinking about it. But there it is, right there on the front page of the weekend news:
“US growth accelerates...” announces the International Herald Tribune.
Right there in black and white. And it must be true. The newspapers wouldn’t lie, would they? And, the economists who fiddle the numbers for the US government wouldn’t hit a false note on purpose, would they?
Nah, that never happens. But how is it possible for the economy to go right back to Bubble Era growth rates after taking only a couple percentage point off of US GDP?
We all know it was a credit bubble, right? We all know it couldn’t last, right? We all know, too, that the fuel for that growth – bubbly gases coming out of the banks and the real estate sectors – has disappeared. So where is this growth coming from?
On Friday morning, the stock market got excited about the stronger-than-forecast growth numbers, along with news that Ben Bernanke would be around for another four years. The Dow rose more than 100 points. But by the afternoon, investors were asking questions again…
If the economy really is recovering, maybe the feds will reduce their stimulus...
If the economy really is heating up, mightn’t it melt all that money and credit frozen by the depression? Doesn’t that increase the odds of inflation – and higher rates from the Fed...?
If the feds tighten, won’t the US economy fall back into the second part of the W-shaped recession... just like Paul Krugman says?
By the close of business the Dow had lost 53 points, which makes us think the final push to the bottom has come. Even good news can’t stop it. When 5.7% growth – after the worst slump since the ‘30s – doesn’t get investors excited, there’s something wrong.
Wait a minute...
“The biggest lift to economic activity,” continues the New York Times report, “came because businesses ran down their stocks of unsold goods at a much slower rate than earlier in the year...”
In other words, the ‘growth’ came because businesses restocked their shelves at a faster rate. So, there’s more on the shelves to buy. Hmmm. Wonder if it will sell...?
The only way you could have real, sustained growth is with a recovery in employment – and earnings.
Looking at it broadly, Americans were earning a certain amount of money in 2007. Then, they discovered that much of what they were doing was not worth doing.
They were building houses for people who couldn’t afford them, for example. And they were spending money that was ‘taken out’ of their houses. At the peak, a substantial part of US GDP – and virtually ALL the growth – came from these sources.
That money has disappeared. People aren’t getting paid to build houses that no one will buy anymore. And shops aren’t selling to people who pay with money from mortgage equity extraction. They’ve already extracted so much that there’s nothing left. Or less than nothing. Many homeowners have net negative equity.
What does this mean? It means that people are earning less, borrowing less and spending less. What else could it mean? A substantial part of the economy, 2003-2007, was fraudulent – in which excessive consumer credit masqueraded as real purchasing power. That part of the economy has gone away. So should that portion of the GDP. In theory, GDP should go down and stay down until new industries, businesses, and jobs are found.
More after these insights from London: How foreigners “infected” Iceland with easy credit... and why we need to pay attention…
“Back in 1999, the northern landmass of Iceland was a simple place,” writes Tim Price of the popular macro investment advisory, The Price Report.
Iceland might not be on your radar as an investment destination. But as Tim reminds us, it wasn’t long ago that Iceland “blew up”… and you might remember just how much of an impact that had on UK investors.
Back to Tim’s story. As he was saying, Iceland used to be a simple place…
“Its three biggest banks had less than a billion dollars between them. And the island’s 300,000 inhabitants did well enough from smelting aluminium and trawling the coastline for trout.
“Then came the foreigners. At first they just wanted to buy aluminium and fish. But it wasn’t long before they spread a nasty disease throughout the island – easy credit. World banks flocked to Iceland, borrowing in low yielding yen, euro and dollars and swapping them for local currency. German banks placed $21 billion with the Icelandic natives; UK investors an even more astonishing $30 billion. The Icelandic banks went mad.”
You can already tell where this is going – you probably already know that it isn’t a story with a nice ending.
But bear with us – bear with Tim as he draws out an important lesson for us all… and warns UK investors about a clear and present danger, right here at home...
“By 2003, the island’s three biggest banks had assets of just a few billion dollars – about 100% of Icelandic GDP. But over the next three years or so, courtesy of the most extraordinary credit binge, those assets had grown to over $140 billion. By 2007, Icelanders owned approximately 50 times more foreign assets than they had five years previously.
“Then the economy went pop. Iceland’s debt now equates to 850% of its (much diminished) GDP. Its people are reduced to hoarding food and money. Icelanders who briefly became bankers have gone back to subsistence fishing for a living.”
OK, let’s cut to the chase, Tim. What’s this got to do with me –and why is it important for my money today?
“It might be tempting to view Iceland as some kind of special case – a small, outlying, “one-off” in the greater scheme of the global economy. But it is not. Where Iceland goes, so can we all. Iceland imperiled itself with debt – so did we. And there are terrifying implications for investors in terms of what sort of assets we should now be buying, and those we should be avoiding like the plague.”
In Tim’s latest issue of The Price Report, he reveals both types – and “how to avoid new potential Iceland’s in the making”.
In a nutshell, Tim explains, you need to “restrict your bond exposure to only the highest quality bond investments you can find. For me, that even precludes Gilts [UK government bonds] and US Treasuries – the bond markets of countries with some of the highest amassed public indebtedness. Government bonds are starting to look like junk.”
Of course, there’s more to it than that. And in addition, Tim reveals the investments you should be making right now.
This is highly important stuff. And it’s not the kind of investment advice you’re going to pick up in the FT or other mainstream financial press. But it’s well worth you checking into the latest issue of Tim’s on his website. I’ll show you how you can get access to that below…
In fact, if you’re quick, you’ll be in time to register for Tim’s first conference call. That’s happening on Friday 5 February. In it, Tim will be spelling out his thoughts on investments for the months ahead and giving you the chance to put any questions you might like to ask him.
To discover how to get access to all of Tim’s advice, including four stocks he considers “virtually bullet-proof” – and to secure your place on this important conference call – follow this link: The Price Report.
Your capital is at risk when you invest in shares; never risk more than you can afford to lose. Please seek independent financial advice if necessary. Fleet Street Publications Ltd. 0207 633 3600.
And more thoughts...
*** America’s president proposes a tax credit to businesses that take on new employees. We never met a tax cut we didn’t like. This one is no exception. It lowers the cost of labour, making it easier to hire and pay people. So far, so good.
But is Mr Obama proposing to cut government spending also? Not really. He’s pretending that the feds can have their cake and eat it too... that they can forgo the income given up by the tax credit... and yet, still spend it.
How is that possible? It’s not. It’s the feds’ old shell game. It won’t do the economy any good because the resources represented by the tax credit can’t be in two places at once. They can’t be available to the employers and be available to the government too.
But 10% unemployment tells us that wages are too high. They should fall – along with stock prices and housing prices. But it’s hard to cut wages. That’s the real secret to the Keynesian’s fiscal stimulus. Government spending causes inflation... which lowers wages surreptitiously.
Everybody likes fiscal stimulus. Economists like it because it makes them look like they know what they are doing. Politicians like it because it makes it look like they are doing something to help the masses. And the masses like it because they believe them! Finally, even employers like it because it reduces real wage costs.
Trouble is, inflation doesn’t work very well in a real depression. The Fed increases the monetary base. Congress showers boondoggles over the nation. But the money moves likes molasses.
*** The median price of an existing house sold in 2008 was $196,600. In 2009, the price fell to just over $170,000. But this seems to have brought out the buyers. At $170,000, reports Floyd Norris in the NYT, the housing market corrected all the way back to 1997, adjusted for inflation. Twelve years’ worth of real pricing gains have been wiped out.
But when people realised they could buy at ’97 prices, they stepped up to the plate. A total of 4.6 million houses changed hands last year – 5% more than the year before.
The real problems were in the new housing sector. Only 373,000 new houses were sold last year – fewer than in any year since 1963. Prices sank, but not quite as much as in the used house market.
New houses, of course, are not the subject of repossessions. You can’t foreclose a mortgage that hasn’t been written yet. This permitted the housing industry to control sales and prices – at least to some extent. While repossessed houses flooded the used-house market and drove down prices, builders must have held back inventory waiting for better prices.
What will happen in 2010? Most likely, the inventory of unsold houses... along with the ‘hidden inventory’ of houses that owners would like to sell... will probably continue to hold prices down.
One way or another, the average house has to go down to a level where the average owners can afford it. Where that level is, we don’t exactly know, but it’s probably lower than today’s prices.
Remember, millions of homeowners are underwater. Some of them will drown. Others will get out through the windows... leaving the house to sink, along with the housing market.
*** We were feeling nostalgic for the pampas last week. So we went to dinner at El Sur, a restaurant in the heart of Paris. It’s the real thing. The décor, the wine and best – the meat – are all authentically porteno (pertaining to Buenos Aires).
We went with our Spanish teacher, son Jules and some friends. The conversation was in Spanish.
“Jules, your Spanish is very good,” we said afterwards.
“Five years of it in school. But, Dad, I don’t know how much you can learn from these sessions...”
“Well, learning languages is cumulative. You just keep at it. Little by little it sinks in...”
“I wonder if it’s worth all the effort...”
“Sure it is. Languages hide the accumulated wisdom of generations of dead people. Each word is an idea. And different languages have different words... and different ideas... The more languages you know, the more ideas you’ve encountered. The more you know, generally... Besides, if you don’t speak the language you can’t enter into a culture and discover its secrets.”
“Oh...”
Until tomorrow,
Bill Bonner
For The Daily Reckoning
More From Bill today:
In the early eighteenth century the rogue economist John Law declared that he had “discovered the secret of the philosopher’s stone” and could “turn paper into gold”. He managed to hoodwink the Duke d’Orleans and bring the whole of France to its knees before the fundamental flaw in his idea was exposed. Three centuries later, and Law’s ideological successors are repeating the same grave mistakes…
To read Bill’s Monday essay, follow this link .
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