Monday, February 28, 2005

Signs of the Economic Apocalypse 2-28-05

From Signs of the Times 2-28-05:

The euro closed at 1.3243 dollars on Friday, up 1.2% against the dollar. The dollar closed at 0.7551 euros. Oil closed at 51.49 dollars a barrel (38.88 euros), up sharply at 6.5% for the week in dollars compared to last week's close of $48.35 (36.99). In euros, oil rose 5.1% for the week. In the US stock market, the Dow closed at 10,841.75, up 0.4% from last week's close of 10,796.01. The NASDAQ closed at 2065.40, up 0.3% from last week's close of 2058.62. Gold closed at 436.30 dollars an ounce (329.45 euros), up 2.2% from last week's close of 427.10 (324.60 euros). Gold rose 1.5% in euros during the past week. Comparing gold to oil, an ounce of gold would buy 8.47 barrels of oil, down 4.3% from last week and 5.7% over the last two weeks. Gold is climbing steadily, but oil is jumping more rapidly lately.

I've noticed that often there is some bad news mid-week that gets overshadowed with some timely bit of good news by Friday, giving the martini and cigar crowd a bounce in their step going into the weekend (and giving those of us who write weekly summaries less of a clear story). After a rough week, with oil price increases, fears of a dollar crash, it was announced on Friday that U.S. growth in the last quarter of 2004 was revised upward. Here is what Reuters had to say on Friday:

GDP Revised Up on Stronger Exports
By Glenn Somerville

(Reuters) - U.S. economic momentum at the end of 2004 was significantly stronger than previously thought, according to a government report on Friday revising up fourth-quarter output to reflect stronger exports and investment.

The Commerce Department said gross domestic product, the gauge of total goods and services production within U.S. borders, grew at a revised 3.8 percent annual rate in the final three months of last year instead of 3.1 percent reported a month ago.

That was slightly stronger than the 3.7 percent rate that Wall Street economists had forecast and only a small decline from the third quarter's 4 percent pace.

Nearly half the revision stemmed from a stronger trade performance, reflecting more robust exports than previously thought. Statistics Canada corrected a $1.4 billion error in underestimating U.S. exports to Canada during November, and later data also showed the U.S. trade deficit for December narrowed more than had been anticipated.


Despite the fourth-quarter revision, there was no change in the government's calculation that GDP grew 4.4 percent in 2004, ahead of a 3 percent increase in 2003 and the strongest for any year since 1999, when it expanded 4.5 percent.

…Merrill Lynch economists Sheryl King and David Rosenberg said in a commentary afterward they expected a strong first quarter but some gradual slowing in GDP growth as stiffer credit costs begin to bite later in the year.

In spite of that last minute bit of good news on Friday, the signs are getting even more ominous this week. The fact that there was healthy GDP growth in the United States is good news only if you forget that that growth was achieved by borrowing way too much money. The spike in oil prices seems to indicate a trend, as does the increase in gold prices. The sharp drop in the dollar on Tuesday caused by statements of the South Korean central bank that they might shift their reserve holdings away from the dollar frightened a lot of people. The problem was covered up by the end of the day by reassuring statements by the central banks of Japan and South Korea, but the implications are clear. According to Patrick Martin,

The fragility of the international currency and financial markets has been underscored by the turbulence which followed reports that the Bank of Korea might be looking to lessen its holdings of dollar-based financial assets. Stockmarkets dropped on Tuesday and the US dollar fell sharply -- losing 1.3 percent against both the euro and the yen -- following a parliamentary report by the Bank of Korea that it would increase investments in high-yielding non-government debt and diversify its holdings into a variety of currencies. In the wake of the market plunge, Asian central banks mounted a rescue operation. The Bank of Korea issued a statement declaring that, while it was planning to shift more of its reserves into higher-yielding non-government bonds, it was not planning to sell existing dollar holdings.

[...] While the immediate crisis has passed, the underlying imbalances which produced it continue to worsen. As the Financial Times (FT) commented in an editorial on Wednesday: "If the mighty dollar can be rocked by a single paragraph in a report to the Korean parliament then something is sorely amiss. That something is the dependence of the dollar on a handful of Asian central banks, which between them control $2,400 billion reserves."

These reserves are getting larger by the day and as they grow so does the incentive to shift out of the dollar to guard against any capital loss caused by its depreciation. Of course, if all the Asian dollar holders move out, they will set off a plunge in the dollar's value and suffer major losses (in some cases up to 10 percent of gross domestic product). But individual central banks may be able to shift out of the dollar at a good price. The problem, however, is that others will be tempted to follow, setting off a collapse.

Moreover, as the FT editorial pointed out, even if central banks do not withdraw funds, the US currency is still far from safe. This is because, with private capital inflow having fallen off markedly since the end of the 1990s, the US depends on increased purchases of its financial assets by foreign central banks to fund its growing balance of payments deficit.

[...] American imperialism may hold military sway over the world at present, but from an economic standpoint, it is an unstable and declining power, forced to borrow over $600 billion a year (more than the entire Pentagon budget) simply to balance its books. This acute contradiction between superficial military strength and underlying economic weakness is what lends such an explosive, even deranged character to American foreign policy. In that sense Bush, with his semi-literate banality and messianic bluster, is not an accidental figure. He personifies the crisis and historical blind alley of American imperialism.

The situation is so alarming to the establishment, that they are now issuing public warnings in outlets like The New York Times. An editorial there stated,

When a seemingly innocuous remark from the central bank of South Korea makes the dollar tank, as happened on Tuesday, all is not well with the United States' position in the world economy.

The dollar has been on a downward trajectory for three years, thanks in part to the Bush administration's decision to try to use a cheap dollar to shrink the nation's enormous trade deficit. (A weak dollar makes exports cheaper and imports costlier, a combination that theoretically should narrow the trade gap.) To be truly effective, however, a weak dollar must be combined with a lower federal budget deficit - or even a budget surplus, something the administration clearly hasn't delivered. So predictably, the weak-dollar ploy hasn't worked. The United States' trade deficit has mushroomed to record levels, as has the United States' need to borrow from abroad- some $2 billion a day - just to balance its books.

Enter South Korea. On Monday, its central bank reported that it intended to diversify into other currencies and away from dollar-based assets. And why not? It holds about $69 billion in United States Treasury securities, or 4 percent of the total foreign Treasury holdings. Such dollar-based investments lose value as the dollar weakens, leading to losses that any cautious banker would want to avoid. But as the Korean comment ping-ponged around the world, all hell broke loose, with currency traders selling dollars for fear that the central banks of Japan and China, which hold immense dollar reserves - a combined $900 billion, or 46 percent of foreign Treasury holdings - might follow suit.

That would be the United States' worst economic nightmare. If it appeared that the flow of investment from abroad was not enough to cover the nation's gargantuan deficits, interest rates would rise sharply, the dollar would plunge further, and the economy would stall. A fiscal crisis would result.

Tuesday's sell-off of dollars did not precipitate a meltdown. But it sure gave a taste of one. The dollar suffered its worst single-day decline in two months against the yen and the euro. Stock markets in New York, London, Paris and Frankfurt dropped, and gold and oil prices, which tend to go up when the dollar goes down, spiked.

Even the normally idiotic Thomas Friedman, the Times' great cheerleader of globalism and the American Empire, is getting scared:

The dollar is falling! The dollar is falling! But the Bush team has basically told the world that unless the markets make the falling dollar into a full-blown New York Stock Exchange crisis and trade war, it is not going to raise taxes, cut spending or reduce oil consumption in ways that could really shrink our budget and trade deficits and reverse the dollar's slide.

This administration is content to let the dollar fall and bet that the global markets
will glide the greenback lower in an "orderly" manner. Right. Ever talk to someone who trades currencies? "Orderly" is not always in the playbook. I make no predictions, but this could start to get very "disorderly." As a former Clinton Commerce Department official, David Rothkopf, notes, despite all the talk about Social Security, many Americans are not really depending on it alone for their retirement. What many Americans are counting on is having their homes retain and increase their value. And what's been fueling the home-building boom and bubble has been low interest rates for a long time. If you see a continuing slide of the dollar - some analysts believe it needs to fall another 20 percent before it stabilizes - you could see a substantial, and painful, rise in interest rates.

"Given the number of people who have refinanced their homes with floating-rate mortgages, the falling dollar is a kind of sword of Damocles, getting closer and closer to their heads," Mr. Rothkopf said. "And with any kind of sudden market disruption - caused by anything from a terror attack to signs that a big country has gotten queasy about buying dollars - the bubble could burst in a very unpleasant way."

Why is that sword getting closer? Because global markets are realizing that we have two major vulnerabilities that this administration doesn't want to address: We are importing too much oil, so the dollar's strength is being sapped as oil prices continue to rise. And we are importing too much capital, because we are saving too little and spending too much, as both a society and a government.

"When people ask what we are doing about these twin vulnerabilities, they have a hard time coming up with an answer," noted Robert Hormats, the vice chairman of Goldman Sachs International. "There is no energy policy and no real effort to reduce our voracious demand of foreign capital. The U.S. pulled in 80 percent of total world savings last year [largely to finance our consumption]." That's a big reason why some "43 percent of all U.S. Treasury bills, notes and bonds are now held by foreigners," Mr. Hormats said.

And the foreign holders of all those bonds are listening to our debate. They are listening to a country that is refusing to raise taxes, and an administration talking about borrowing an additional $2 trillion so Americans can invest some of their Social Security money in stocks. If that happened, it would almost certainly weaken the dollar, further depreciating the U.S. Treasury bonds held by all those foreigners.

On Monday, the Bank of Korea said it planned to diversify more of its reserves into nondollar assets, after years of holding too many low-yielding and depreciating U.S. government securities. The fear that this could become a trend sparked a major sell-off in U.S. equity markets on Tuesday. To calm the markets, the Koreans said the next day that they had no intention of selling their dollars.

Oh, good. Now I'm relieved.

"These countries don't have to dump dollars - they just have to reduce their purchases of them for the dollar to be severely affected," Mr. Hormats noted. "Korea is the fourth-largest holder of dollar reserves. ... You don't want others to see them diversifying and say, 'We'd better do that, too, so that we're not the last ones out.' Remember, the October 1987 stock market crash began with a currency crisis."

When a country lives on borrowed time, borrowed money and borrowed energy, it is just begging the markets to discipline it in their own way at their own time. As I said, usually the markets do it in an orderly way - except when they don't.

Here we are seeing an odd convergence, one where Anglo-American neo-liberal establishment figures like the New York Times and Thomas Friedman are writing pieces that sound more and more like those published in the World Socialist Web Site or Doug Henwood of the Left Business Observer. Even the New Republic, that bastion of neo-liberalism, supporters of the Iraq War, published an analysis of the failure of American liberalism that was little different from Marxist ones. Both lay the blame for the sharp shift to the right in US politics to long-term structural economic factors like the falling rate of profits of corporations. Speaking of the failure of even Democratic administrations to pass new liberal legislation since the Nixon years, John Judis writes in The New Republic:

It is convenient to blame these failures on incompetence, but the truth is that structural factors were more important. Liberalism's success from the '30s through the 1960s was based primarily upon certain special economic and political conditions: popular pressure from below, business' acquiescence in reform, and the conviction of the nation's opinion-makers that reform was good for America. Since then, dramatic changes in the international economy have turned business against reform and weakened the other forces supporting reform.

[...] Most of the liberal reforms that Congress adopted during Roosevelt's presidency had been circulating since the turn of the century, but they had been blocked by legislators who took their cue from business and classical economics. Enacting those reforms took more than Roosevelt's political genius. As David Plotke spelled out in Building a Democratic Political Order, it took an earthquake in American opinion and class relations.

During the Great Depression, conservative business leaders lost their self-confidence and their public support, while a revived labor movement and a populist upsurge put pressure for reform on Congress and the White House. At the same time, many opinion-makers--including corporate lawyers, economists, ministers, political leaders, writers, and a sprinkling of maverick CEOs--backed Roosevelt's liberalism as an alternative to revolutionary socialism or populism and as a means of lifting the country out of the Depression.

[...] During this time, business enjoyed considerable clout in Washington, but many top business leaders, led by the pro-Keynesian Committee on Economic Development, accepted the liberal argument for Social Security and the minimum wage, and even for collective bargaining.

[...] Underlying this center-left consensus--which prevailed regardless of the party in the White House--was the widespread conviction that the New Deal and regulatory reforms were good for, or at least did no harm to, U.S. business. General Motors executives could agree with the United Auto Works to exchange labor peace for five years of rising wages because they expected that growing demand and superior productivity would protect their profit margins. Many corporate executives welcomed regulation as a way of demonstrating that their companies were good citizens. As late as 1970, a survey of Fortune 500 CEOs found 57 percent believing the federal government should "step up regulatory activities."

New Deal liberalism had been nurtured by the political economy of the Great Depression and sustained by postwar prosperity, but sometime in the mid-'60s, the U.S. and world economy entered a new phase that was not as congenial to reform. Western European and Japanese companies, having fully recovered from World War II, began to compete effectively with U.S. firms. As East Asia industrialized, the world economy began to suffer from overcapacity in steel, autos, textiles, and other key postwar industries, putting additional pressure on profits, especially in manufacturing. According to economic historian Robert Brenner, author of The Boom and the Bubble, average net profit margins in U.S. manufacturing fell from 24.6 percent from 1959 to 1969, to 15.5 percent from 1969 to 1979, to 13 percent from 1979 to 1990.

With their profit rates in jeopardy, businesses no longer acquiesced in unionization and new federal regulatory reforms. Businesses increasingly resorted to tactics that violated the Wagner Act. In 1957, for instance, the nlrb ordered 922 organizers reinstated for being illegally fired; in 1970, 3,779; and, in 1980, over 10,000. At the same time, corporations set up shop in Washington to lobby for deregulation and tax cuts. In 1971, only 175 businesses had registered lobbyists in Washington. By 1982, 2,445 had. Business revived old organizations, including the National Association of Manufacturers (NAM), and established new ones like the Business Roundtable.

Business also joined the battle for ideas, funding new public policy groups and think tanks that issued reports, written by paid experts, arguing that government regulation and high taxes and spending were responsible for the country's economic
slowdown. These ideas found a receptive audience among the country's opinion-makers. Just as the Great Depression lent credence to a Keynesian focus on effective demand, the stagflation and international competition of the '70s seemed to support classical economics and its focus on profit margins. These attitudes permeated public opinion, particularly in the late '70s. The public remained generally supportive of Social Security and Medicare, but became skeptical about taxes and regulations and any new program that appeared to be based on government expansion.

I'm not sure what to make of this convergence between alarmist, left critics and the mainstream media moderates, except that, with the crisis rapidly approaching, things are coming to a head and are therefore coming more and more out in the open. It appears that the establishment middle-of-the-roaders are peeling off of the fantasy politics of the Bush right wing. It must be alarming to those types in the establishment media that the Bush people do not care what they think. They have been used to having their opinions taken seriously by the political elite (if not by the people). Now no one takes them seriously, which might explain some of the anxiety of the media elite about blogging and the internet.

Speaking of convergences, more and more conservatives (true conservatives, that is, not the neo-conservatives or the imperial fascists of the Bush administration) have joined with the left in their contempt for Bush and his policies. The southern conservative, Charley Reese , for example, has this to say about Bush's Social Security reform proposal:

While you are contemplating the president's scheme to gut Social Security, you should remember that Wall Street and Las Vegas have a lot in common. They are both in the gambling business. When most people buy stocks, they are gambling that the price of those stocks will rise. What most don't think about is that the price will have to rise a heck of a lot to avoid the law of zero return. That means to determine your real return on an investment, you have to subtract the commissions (both buy and sell), inflation and taxes.

And, as in Las Vegas, if you want to win big, you have to bet big. The limits the president has in mind practically guarantee that the low-wage worker will end up with nothing plus reduced Social Security benefits. You would be better off going to Las Vegas. The casinos at least are honest. They will tell you the odds against you on every game in their buildings. If the president has been honest with the American people on any subject, I must have missed it.

There are already plenty of programs that will allow working men and women to save for retirement, and, of course, Congress can create more. What they need most is a living wage. There is no logical reason whatsoever for the president's scheme
other than to fatally injure Social Security and provide a bonus for his Wall Street buddies.

Social Security is not going bankrupt. The estimated shortfall in the year 2052 won't even exist if the economy grows at the rate the president talks about when he's touting his private-investment scheme. This is a clear example of his dishonesty. When he touts private investment, he bases his numbers on a high rate of growth; when he predicts bankruptcy for Social Security, he bases his numbers on a low rate of growth. Well, you can't have it both ways. If the growth rate is high, Social Security will prosper; if it's low, private investments will tank.


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