Vigilant Investor

With the latest economic data showing a rapid cool off – especially in housing and consumer spending, we are somewhat bemused at the puzzlement which abounds at still rising prices.  Amid hopes of a “soft landing” and the Fed ending rate hikes, we wonder why the pundits don’t seem to “get” the underlying problem.

The fact of the matter is that prices are unlikely to ever go down.  Why?  Because amidst perhaps one of the most massive, continued increases of the money supply in history – prices can only go up!  The only way for prices to go down meaningfully is to contract the money supply and credit – for real — which is something the Fed and Congress have noooooooooo intention of doing.  Let alone the guts.

Why?  Well for starters, with the savings rate of Americans below –1%, if that rate ever hit anywhere near the historic level of +10% — the economy would suffer a massive slowdown.  So tied is our economy to borrowing – that if US citizens ever pulled 10% of their income out of it in a relatively short period of time – the results would be predictable.  Even though Americans need to save far more – we will continue to be induced to borrow and spend.  The key question is – how much more in debt are Americans willing to go?

On the comical/pathetic side, was the recent Bernanke testimony before Congress.  In the same session, Congressman harangued the Fed Chairman for rising prices (in goods and services) – and declining prices (especially California real estate) and slowing real wages.  As I listened to the demagoguery – the thought occurred to me that our representatives in Congress either do not understand our economic system, or they are choosing not to.  For Americans – that is supremely sad.

Now it all gets really interesting.  So wed is the American economy to debt – that any turn towards fiscal responsibility & savings will be extremely painful.  We have also entered a period where costs are still rising, while the economy is slowing – and the dreaded word “stagflation” is being used more and more frequently.  In our opinion, the most likely path chosen by the Fed and Congress will be the easiest one – with a primary focus on today, with getting elected – giving little weight to long term consequences and economically sound policies.  Why do we think this?  Because it has always been this way.

Knowing this – we prepare for the inevitabilities and plan to take advantage of them.  You should too.

That’s the headline today, but it doesn’t seem to bother the markets much as stocks and bonds were both strong through today’s trading.

Complacency? Or do the markets know more than meets the eye?

We shall see! But we think the headline above heralds only the tip of the iceberg.

We had a great show today with lots of good questions from listeners… you can listen to the recording by clicking one of the links below. Also, after the links is an image of the graph of money supply and debt-to-GDP ratio in the U.S.

Listen to Streaming Audio

(right mouse-click the link and select “save as” to download file for later offline use)

For future episodes, you can subscribe to the podcast here:

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For the following chart, the most recent numbers I could find are as follows:

9/30/05: 308.1%
Debt: $38.8 tril
GDP $11.6 tril

Today’s live, call-in podcast is scheduled for 12:00 p.m. (New York Time), hosted by our friends at TalkShoe.com.

Our headline topic is “Wal-Mart: Villain or Scapegoat?” We’ll broach some issues on a variety of fronts, using the highly politicized subject of Wal-Mart as our center point.

Also, today we’ll discuss some of the major topics making the rounds the past few days. Those include:

• The housing market slowdown
• Congressional pandering to voters regarding the economy
• Senate debates energy bill
• A market roundup

And

• A credit bubble survey
• and more!

We hope you tune in! Call-in questions are welcome!

Of course, if you miss us live, you can always listen to prior shows just like any podcast!

If you are new to Talkshoe, allow yourself a few minutes in advance to downlaod their web interface.

“Wage stagnation, long the bane of blue-collar workers, is now hitting people with bachelor’s degrees for the first time in 30 years. Earnings for workers with four-year degrees fell 5.2% from 2000 to 2004 when adjusted for inflation, according to White House economists.”

Wages stagnating? Prices rising? Growth slowing? That’s triple-trouble for any economy. Yet such a phenomenon has been trending for the better part of three decades for manufacturing-related labor in the U.S, and in the last five years it has begun to take a heavy toll. With very little leverage for labor in the ever-increasingly regulated U.S. market, manufacturing jobs vented offshore as consumers voted with their pocket books by buying that which is made elsewhere. With Wal-Mart leading the way, this trend only accelerated in the last 10 years.

Despite all the lost manufacturing jobs, many analysts and pundits have suggested throughout that this was the natural maturing of an advanced economy. “We’ll think. Let them sweat!” has been the mantra, suggesting that folks in the U.S. are too smart and advanced to need a dominant manufacturing base.

Yet the trending loss of pricing leverage in the U.S. labor market has metastasized from manufacturing and into the formerly immune service sector, where work requiring higher education has, since the late 1990s, begun to vent abroad, hitting full-stride since the recession in 2001. It started with basic service help — such as call-in service-centers, and has shifted into more advanced jobs, like computer programming, architectural and engineering work. Financial research departments were moved by mega institutions like Deutsche Bank, and ever more work leeches away from the accounting and actuarial sectors. Perhaps the ultimate sign of erosion, even lawyers are being affected as legal work has started to head abroad, to be completed in India by Bar-admitted lawyers. (Yes, there is justice!)

The shift posits the basic question to all consumers: why should anyone pay 10 times as much, or even more, for knowledge simply because it’s created by a U.S. resident? The answer has enabled U.S. based businesses to keep consumer prices under control, but the change is not without its longer term costs.

The new casualty is white collar jobs. Our opening quote in this post comes from an article in the LA Times that tells us that those with bachelor’s degrees are finding their incomes stagnate despite a growing economy over the past few years. Now that growth seems to be slowing, the problem is rearing its head.

Critics will argue that this is yet another unfair reality created by the Wal-Martization of America. Yet we point out that Wal-Mart is not the problem, it is the symptom. Wal-Mart has merely shown us the most efficient model for doing business in the U.S. given the constantly deteriorating business environment - our regulatory, tax and currency environment created by Congress and our Federal Reserve.

But rather than addressing those core problems, there will be calls now for greater protectionisms from foreign competition. But, such only causes more economic problems since it diverts attention from the true problems.

What really is at stake is that the U.S. business environment has so many restrictions and shackles that it is at an economic disadvantage to most of its foreign competition. That problem has been papered over by the Federal Reserve’s monetary policy, one that is finally catching up with it. Stated another way, these policies have created an environment that is enabling our competition to not only catch up to the U.S., but surpass it in many ways as well.

Combined with all the other structural issues we touch upon on a daily basis here at Vigilant Investor, we’d suggest that a broader paradigm change is afoot - one that will likely surprise more than a few people in the U.S. Ours is a nation that has grown not only fiscally complacent, but also one that has grown quite enamored with its own visage in the mirror. This vanity encourages the prevailing wisdom to assume that the U.S. can do whatever it pleases, wherever and however it wants with little or no economic consequences. Promises for free lunches, therefore, resonate with the masses, and are rolled out on a global scale, while an entitlement mentality prevails among an ever increasing majority of citizens and voters.

The question outstanding on this problem is how badly will we pay for coming to believe the basic laws of economic gravity no longer apply, or that collective hubris is the downfall of many a nation?

Many problems for workers and the economy as a whole are blamed on Wal-Mart.  But is Wal-Mart the problem or a symptom of a far deeper issue that few people - -politicians or activists — care to discuss?  Tune in Wed, July 24, 12:00p.m., Eastern U.S. time, for the next episode of Vigilant American, the live, call-in web radio talk-show.  For more details, click here.

We talk a great deal about the Great Economic Rebalancing, and why we think has to take place in our near future regardless of the preferences of the Fed or our esteemed, fiscal miscreants holding political office down in the Asylum on the Potomac.

Of course, both institutions understand that economic rebalancing translates to economic hardship for many. Consequently, policies of political expedience — more often than not - have trumped lesser objectives, such as fiscal and economic responsibility.

As a consequence, today the overwhelming majority of economists and Wall Streeters have systematically embraced structural tensions that defy the (formerly) understood rules of economic gravity, all suspended for the moment under the self-fulfilling doctrine that “ours is a new economic environment to which the old, more conservative rules no longer apply.” Yet we think we’re headed for trouble, and sum up the problems under the over-arching term “Credit Bubble”, noting that vast expansion of money supply via the credit system over the last twenty years has lead to massive dislocations related to healthy growth and capital formation.

Of course, the Vigilant Investor has been one of a few, lone voices pointing harping on this over the recent years, commenting almost daily on the severe and growing structural problems created by the Credit Bubble. But today we find Reuters actually hopping on the theme — perhaps a day or two late to the party, but ‘on the theme’, nonetheless:

In addition to that, for over a week now the word “recession” is starting to creep back into the mainstream conversation — something we said many times over the last year would arrive probably by this Summer, and something we now argue is already upon us when we look at growth and inflation figures that have had the manipulative bias removed from them.

That said, combined with a conversation of the “credit bubble” hitting the Reuters wire, we think its time to make sure your ducks are ‘in line and ready’ for whatever potential scenarios and consequences might roll out. The markets generally don’t like to ignore the elephant once it’s known to have entered the room: As it becomes fully understood that the emperors at the Fed and in Congress are wearing fewer clothes than thought — something long overdue –, things will get really interesting, and probably fast.

Vigilant investors will have their options thought-out long before then!

There’s been much discussed in the news lately about how many graduates are leaving college saddled with large loans that can take over a decade to pay off.

While there are lots of socialist relief-calls coming from those who lament this reality, few are bothering to address a core source of why college costs are going up so much faster than other goods and services in the economy: much of it is financed, and it is through the credit markets that the massive increases in money supply created by The Fed is vented. Hence, as this vast liquidity literally manufactures / prints demand for U.S. debt instruments out of thin air.

Via my consulting practice, I have listened to many parents tell me that they will do anything they can to pay for their kids college education — even those whose own retirement funding is lacking, and whose debt situation is already lopsided. In order to pay for college, they borrow money — which over the last 5-years has been the cheapest it has been in over fifty-years, with the easiest lending requirements in history. Much of it is financed via home equity loans.

The reality is much of that easy lending is the direct byproduct of a vastly expanding money supply. While rising price indicators like CPI are telling everyone that “inflation is under control”, one need only look at the money supply figures from the Fed to see that it has been inflated at a reckless pace… only the consequences have not been evenly spread across the economy, much of it masked via the deficit and cheaply made foreign goods. But in goods and services of highest demand, inflation has been going strong. Education. Healthcare. Now energy.

So, while folks might complain to politicians about how “someone ought to do something about” the rising costs of college and the consequent debt loads, the real solution is getting the Federal Reserve under control.

Just don’t hold your breath on that one. It won’t happen by choice. But it will happen. Vigilant readers know it.

• Low-rate loan use defying warnings
• Investors jittery ahead of local inflation figures
• Inflation’s Sources Hard to Domesticate
• 40% don’t think employers are paying market rates
• June housing starts fall more than expected
• Gold May Rise on Speculation Fed to Struggle Curbing Inflation
• College Costs Are Damaging Future of Americans
• Israel troops cross border
• U.S. Plan Seeks to Wedge Syria From Iran
• Fed May Have Boosted Rates In Part to Satisfy Expectations
• High fuel prices give U.S. double trouble
• Rates on 30-year mortgages are highest since 2002
• Debt forces one in four to fall behind on monthly bills

On one level, Americans are pretty smart people.

On other levels, we’re not so smart as we think… That’s a problem of ever great nation through history. The wisdom of old is supplanted by the new wisdom which tells us constantly that this time is different and therefore the old rules are inconvenient and no longer applicable.

That’s what this site is dedicated to discussing.

That said, Lou Dobbs had a piece earlier this week on the smartness of Americans regarding the evolution of U.S. foreign policy in the Mid East. Even if you disagree with Lou, Americans are being dangerously indifferent about the economic costs of dictating to the Mid East what its home decor ought to look like. It’s not a new policy - but the brazen level to which it has gone under the Bush II doctrine, its breaking new ground. However, such is a legacy in the mid east predating our involvement with, for example, the Shaw of Iran or Israel. Previously, Britain and France both made themselves unwelcome attempting to dictate to the locals in various areas via their colonies. They were forced to give up their ventures, but one European Colony remains.

Read up on Lou Dobbs for the rest.

Benji Bernanke says the slowing economy “should” moderate inflation.

Certainly a slowing economy will back off demand side price increases. (A reality that may well cause bigger problems for the global economy is that a slowing U.S. could wreak havoc on global consumption given it accounts for a disproportional amount of it via a deficit.) However, what few Fed bankers will care speak of is that they may not have any control over money supply related price inflation — something the Fed and the rest of the World’s central banks have done at a steady pace for the last five years (or more). The Fed, for example, has presided over a doubling of the money supply in seven years since 1995… a pace that only increased since the bubble bursting in 2000.

So Bernanke may be telling you inflation is under control, and that a slowing economy “should” slow down inflation. Indeed we think a recession is on the way - and inflation in the housing bubble will subside, but the expanding money supply addiction is starting to turn the addict form controlled user to “junkie”.

That presents a whole different set of variables than any Fed has had to deal with previously. Vigilant folks are not wandering about complacently.

Officially understated inflation is starting to gather pace. CPI and PPI numbers both showed increases, and today’s Treasury Market would appear to be reacting to the news rather badly.

As we’ve been saying for some time now, we are very likely in a recession, and have been for some time - even if the official, statistically manipulated numbers have indicated otherwise. The market is only finally beginning to digest the reality that inflation - even when measured by core CPI - is on the rise. With other recent figures, an economic slowdown would appear to be gathering as the economy gravitates towards the inevitable inertia that follows unsustainable activity gained from ginned-up money supply and loose credit.

The economy has become addicted to that rise in liquidity, and like any addict, the initial dose eventually loses its punch. More of the addictive substance is always required just to get the same, initial high feeling. Eventually, the addict needs more and more, but the longer it goes, the more damage it does to the addict - and in our analogy, that’s the economy.

The Fed realizes the predicament. It is the dope dealer in this story. The Fed - a cartel of large banking interests - mints money out of thin air into the financial system, with much of it loaned via its banking buddies on Wall Street. Those banking interests take a fat cut of each as it passes through. When you are talking trillions of dollars in the system, that’s a profitable business to be in, especially when creating new dollars merely involves adding a few digital numbers into a computer. Continue Reading »

• Volcker Says Bernanke Faces Tougher Task Than When He Ran Fed
• Inflation cutting into township’s budget reserves
• Real earnings fall more than half a percent in May
• Gas prices heading to record levels
• Are Gas Prices Busting Your Budget?
• Crude sets new record, passes $78
• U.S. Stocks Fall as Oil Rises, Middle East Violence Escalates
• Commercial Real Estate’s Perfect Storm: What Lies Ahead?
• 5-Gold jumps to 6-week highs on world tensions
• Ford May Lose $3 Billion in North America
• Angry homeowners fight to get insurers to pay for Katrina
• US feds to probe Silicon Valley options scandal
• Citgo to stop selling gas to U.S. stations
• Researchers warn that ethanol is not cure-all for energy needs
• Swiss franc reclaiming “safe haven” mantle

Israeli Jets Bomb Beirut International Airport

The markets are clearly jittery with the fiasco that is the Middle East at the moment:

• Oil Prices Hover Above $78 Per Barrel: New High
• Dow Down Almost 400 Pts. for Week
• Dow’s gains for year nearly gone
• Gold Moves Up on violence in the Middle East: Over $660

We are surprised that this recent situation has only increased the price per barrel by $3.00 in the last week, reflecting a modest premium on substantial changes in the Mid East dynamic. Also, we note that Bush foreign policy insiders, Richard Perle and Douglas Feith, signed onto a policy paper [A Clean Break: A New Strategy for Securing the Realm] for Benjamin Netanyahu outlining an interventionist policy regarding Lebanon and Syria as part of a larger plan to deal with Iraq and Iran.

Could this be just such an escalation, and does this explain the U.S. supporting what many other nations are denouncing as a “disproportionate use of force”? (e.g., A major military incursion killing many civilians in order to rescue one and then two additional kidnapped Israeli soldiers.) More to our purposes, if this is the case, what are the economic liabilities for the average person just looking out for his personal finances?

Beyond raising questions about consequences of actions, we don’t care to stick our hands into the savage piranha-pot that is the Mid East. Instead, we’ll just offer some old wisdom on war and violence:

Never believe any war will be smooth and easy, or that anyone who embarks on the strange voyage can measure the tides and hurricanes he will encounter.
~Sir Winston ChurchillWhen [men] go to war, what they want is to impose on their enemies the victor’s will and call it peace.
~St. Augustine

If you live long enough, you’ll see that every victory turns into a defeat.
~Simone de Beauvoir

With the U.S. balance sheet constantly getting worse, it might be time to consider the seaworthiness of this vessel.

That’s one of the core questions we discuss here at Vigilant Investor. Now the Federal Reserve is asking the same question.

Granted, more than a few dominos need to fall in order for such a calamity to come to fruition, but regular readers of our journal are all to aware that the U.S. move closer and closer to a massive precipice as each day goes by, compounding previous errors. The U.S. is addicted to debt (and by inference, expanding money supply) on most every level. And, like any addiction, the hard solution is the only solution: get sober. Yet policy makers want to keep everyone happy by feeding the addiction, which in turn, requires more and more input just to get the same high. To return our analogy to the subject at hand, further this goes on, the more likely a default seems lie the in the future for the U.S. economy and Federal Government.

Yet, for a long while, contemplating and making contingency plans around such likelihood was material for the fringes, and a subject almost always marginalized by mainstream Wall Street and Mainstream Economists, all of whom dismissed such notions as poppycock.

But now the Federal Reserve Bank of St. Louis has take up the question in its most recent journal article from Laurence J. Kotlikoff . Commendably, while not discussing the “worst of it“, there’s more than enough material to make those of you sitting on the fence at least consider contingency plans, if not some strategies to insure against such an event. The rest of you who have remained in complacent denial, perhaps now is the time to rethink your position.

Our only gripes with the report are that it could dig more deeply into the numbers, and that is is written by the Federal Reserve itself. While the report provides a needed expose, the Fed is directly culpable for enabling most all of these associated problems. With that in mind, it is as if we are reading an expose waking us up to the tragedy corporate embezzlement, noting also that more such robberies will be coming — And the report is written by the thieves themselves. In such a case, we’d lock up the criminals and throw away the key.

For those of you who still think this is all baloney, don’t forget that the U.S. has effectively defaulted twice on the dollar: Once in 1935 when FDR, by fiat, cut its wealth value nearly by half in relation to gold (from $20 per ounce to $35 per ounce), and again in 1972 when Nixon was forced to end the exchange of dollars to gold, the result of which was gold shooting up and settling in at $250 on the free market during the next ten years. Both defaults were the consequence of excessive minting of new dollars, and both Nixon and FDR knew folks would gladly exchange their dollars for gold given there was not enough gold to back so much money in circulation.

At any rate, give the Fed’s own report a quick read - if you dare. And keep in mind, the awful “real deficit” number they cite in the study still under-report the actual obligations.