Monday, March 21, 2005

Signs of the Economic Apocalypse 3-21-05

From Signs of the Times 3-21-05:

The dollar regained a bit of strength last week. The euro closed at 1.3314 dollars, down 1% from last week’s 1.3454. That would make one dollar worth .7510 euros, compared to last week’s .7433. Gold closed at $439.70 down 1.4% from last week’s close of $445.90. That would make an ounce of gold worth 330.25 euros, down a bit (0.36%) from last week’s 331.43. Oil closed at $56.72 a barrel, up 4.2% from last week’s $54.43. Oil in euros would be 42.60 a barrel, up 5.3% from last week’s 40.46. An ounce of gold, then, would buy 7.75 barrels of oil compared to 8.19 last week. The Dow Jones Industrial Average closed at 10,615.34, down another 1.5% from last week’s 10,774.36. The NASDAQ closed at 2009.79, down 1.6% from last week’s 2070.61. The yield on the ten-year U.S. Treasury Bond was 4.50%, down from last week’s 4.54%.

A good week, then, for the dollar and a sharp increase in the price of oil were the stories this past week. The 1% increase in the dollar versus the euro did come after a 1.5% drop in the first half of March but it did reflect some good news on Tuesday that non-U.S. holdings of long-term, dollar-denominated securities increased sharply (50%) between December 2004 and January 2005. The Economist magazine, normally bullish on the United States, was quick to seize on that news, but also quick not to make too much of it:

[O]n Tuesday March 15th, keenly-awaited figures from America’s Treasury showed a big increase in net purchases by foreigners of American long-term securities. The net flow in January ($91.5 billion) was 50% up on December’s figure ($60.7 billion), way over January’s trade deficit of $58.3 billion. Hidden in the figures were some interesting trends: purchases of American shares picked up, for example—which suggests a genuine fondness for the dollar unlikely to be unwound soon. But so too did purchases from the Caribbean—home to even more hedge funds than The Economist’s own St James’s Street—which could be liquidated tomorrow. Mark Austin, chief of foreign-exchange research at HSBC, a British bank, points out that central banks bought about the same amount as before, while private-sector purchases increased sharply. Is that positive for the dollar or negative? The currency rallied, though questions persisted. The Treasury data tend to be volatile and in any event show only a portion of real flows. And one month does not a summer make. But taken together with other figures from the Federal Reserve showing an increase in February and early March in the securities it holds in custody for foreign owners, they do suggest two things. The first is that the full shock-horror scenario, in which Asian central banks dump the dollar and America promptly collapses, is way overdone. The second is that although Bretton Woods II is still in business, it is likely to change fundamentally.

The fact is that the markets are hyper-sensitive to these figures, and analysts pore over them like Kremlinologists. The fear that central banks are contemplating industrial action against the dollar—and the collective sigh of relief when it seems they are not—is part of a broader unease about the nature and solidity of America’s economic growth. Based, as it is, on mammoth consumption by both the private and public sectors—i.e., on big trade and fiscal deficits—it needs foreigners willing to suspend disbelief and buy shiploads of securities denominated in a currency that has steadily lost value for about 40 years.

So far, the foreigners—mainly Asians plus a few outliers, including Russia and Brazil—have obliged, permitting America to scoop up 75% of the world's surplus savings. Together, Asian central banks have accumulated about $2.5 trillion in foreign-exchange reserves, up almost a quarter in little more than a year, most of it in dollars; Japan and China alone have reserves of nearly $1.5 trillion between them.

…But the Faustian deal into which Bretton Woods II has turned—whereby America gets to spend beyond its means and Asia gets to invest in export-led growth, at the cost of recycling much of its earnings in America’s securities markets—turns out to have a shorter horizon than most people reckoned. It could turn sour at any time now. And confirmation of that came from another set of economic data, released on
Wednesday: America’s fourth-quarter current-account deficit widened to $187.9 billion, a record.

The dollar’s role as the reserve currency of discriminating central bankers everywhere has already lost ground. On figures from the Bank for International Settlements (BIS), the world held 76% of its reserves in dollars in 2000; by 2003, the proportion had slipped to 68%. Part of that reflects the dollar’s slide in value. But part reflects growing diversification, which is as it should be. Asian countries are trading more with each other these days, as well as with Europe. The euro now offers a liquid alternative to the dollar, and Europe shows no signs of wanting to flood the
world with its paper.

Russia, Indonesia, South Korea, India and Japan have all murmured significantly, if guardedly, about diversifying of late. Though figures are elusive, the best guess is that most are doing so already. At the end of February, officials and academics from all around Asia met in Bangkok to discuss the sliding dollar and concluded that they should move more definitively to their own advantage. There are repeated suggestions that regional payments systems should be set up, such as the gold dinar standard proposed for the Islamic world in 2002 by Malaysia’s prime minister.

It is possible that, this time around, OPEC and other oil exporters will channel their windfall profits through the Treasury’s books. But what will happen if a significant portion of countries decided not to add to their dollar holdings? More than the dollar would weaken. Big foreign buyers of bonds have been keeping interest rates down, perhaps by one percentage point, as Alan Greenspan suggests. That would change, for a start. Without this support, the yield on the ten-year benchmark Treasury bond could rise to more than 5%, pushing up interest rates on mortgages. That, in turn, could prick America’s house-price bubble and prompt a general deleveraging, with implications for economic growth both in America and elsewhere. Standard & Poor’s, a rating agency, warned on Monday that a weak dollar would substantially increase concerns about credit quality.

This is perhaps not the week to air such apocalyptic concerns, though they are much on Buttonwood’s mind. In the end, what foreign central bankers have it in their power to do is to reveal before all the world that the mighty American economic empire has no clothes...

Even the good news of the increase in foreign purchases of dollar instruments is a bit of spin, since that is the same as saying that U.S. indebtedness increased. And speaking of “apocalyptic concerns,” I couldn’t resist this headline from the New York Times: U.S. Added a Record $666 Billion to Its Debts Abroad Last Year.

If all it takes is a rise in interest rates on the ten-year U.S. Treasury Bond from 4.5% to 5.0% to start a worldwide plunge, as the columnist from the Economist wrote, then we are in trouble. Notice the non-emotional terms like “deleveraging” or “concerns about credit quality.” What they are talking about there is a massive amount of bankruptcies and foreclosures on homes.
For that reason, if you combine rapidly increasing oil prices (which cause inflation across the board and will lead to higher interest rates) with the outsourcing of high-paying jobs from the United States to India and China, which will also cause bankruptcies and foreclosures, the risk seems great, even in the relative short term. And, as the Economist pointed out, the consequences of this will be bad for the whole world, not just the United States. Here is what Paul Craig Roberts wrote about outsourcing this week:

Outsourcing Innovation... And Everything Else


A country cannot be a superpower without a high tech economy, and America's high tech economy is eroding as I write.

The erosion began when US corporations outsourced manufacturing. Today many US companies are little more than a brand name selling goods made in Asia. Corporate outsourcers and their apologists presented the loss of manufacturing capability as a positive development. Manufacturing, they said, was the "old economy," whose loss to Asia ensured Americans lower consumer prices and greater shareholder returns. The American future was in the "new economy" of high tech knowledge jobs.

This assertion became an article of faith. Few considered how a country could maintain a technological lead when it did not manufacture.

So far in the 21st century there is scant sign of the American "new economy." The promised knowledge-based jobs have not appeared. To the contrary, the Bureau of Labor Statistics reports a net loss of 221,000 jobs in six major engineering job classifications.

Today many computer, electrical and electronics engineers, who were well paid at the end of the 20th century, are unemployed and cannot find work. A country that doesn't manufacture doesn't need as many engineers, and much of the work that remains is being outsourced or filled with cheaper foreigners brought into the country on H-lb and L-1 work visas.

Confronted with inconvenient facts, outsourcing's apologists moved to the next level of fantasy. Many technical and engineering jobs, they said, have become "commodity jobs," routine work that can be performed cheaper offshore. America will stay in the lead, they promised, because it will keep the research and development work and be responsible for design and innovation.

Alas, now it is design and innovation that are being outsourced. Business Week reports ("Outsourcing Innovation," March 21) that the pledge of First World corporations to keep research and development in-house "is now passé." Corporations such as Dell, Motorola, and Philips, which are regarded as manufacturers based in proprietary design and core intellectual property originating in R&D departments, now put their brand names on complete products that are designed, engineered, and manufactured in Asia by "original-design manufacturers" (ODM).

Business Week reports that practically overnight large percentages of cell phones, notebook PCs, digital cameras, MP3 players, and personal digital assistants are produced by original-design manufacturers. Business Week quotes an executive of a Taiwanese ODM: "Customers used to participate in design two or three years back. But starting last year, many just take our product."

Another offshore ODM executive says: "What has changed is that more customers need us to design the whole product. It's now difficult to get good ideas from our customers. We have to innovate ourselves." Another says: "We know this kind of product category a lot better than our customers do. We have the capability to integrate all the latest technologies." The customers are America's premier high tech names.

The design and engineering teams of Asian ODMs are expanding rapidly, while those of major US corporations are shrinking. Business Week reports that R&D budgets at such technology companies as Hewlett Packard, Cisco, Motorola, Lucent Technologies, Ericsson, and Nokia are being scaled back.

Outsourcing is rapidly converting US corporations into a brand name with a sales force selling foreign designed, engineered, and manufactured goods. Whether or not they realize it, US corporations have written off the US consumer market. People who do not participate in the innovation, design, engineering and manufacture of the products that they consume lack the incomes to support the sales infrastructure of the job diverse "old economy."

"Free market" economists and US politicians are blind to the rapid transformation of America into a third world economy, but college bound American students and heads of engineering schools are acutely aware of declining career opportunities and enrollments. While "free trade" economists and corporate publicists prattle on about America's glorious future, heads of prestigious engineering schools ponder the future of engineering education in America.

Once US firms complete their loss of proprietary architecture, how much intrinsic value resides in a brand name? What is to keep the all-powerful ODMs from undercutting the American brand names?

The outsourcing of manufacturing, design and innovation has dire consequences for US higher education. The advantages of a college degree are erased when the only source of employment is domestic nontradable services.

According to the Los Angeles Times (March 11), the percentage of college graduates among the long-term chronically unemployed has risen sharply in the 21st century. The US Department of Labor reported in March that 373,000 discouraged college graduates dropped out of the labor force in February--a far higher number than the number of new jobs created.

The disappearing US economy can also be seen in the exploding trade deficit. As more employment is shifted offshore, goods and services formerly produced domestically become imports. Nothink economists and Bush administration officials claim that America's increasing dependence on imported goods and services is vidence of the strength of the US economy and its role as engine of global growth.

This claim ignores that the US is paying for its outsourced goods and services by ransferring its wealth and future income streams to foreigners. Foreigners have quired $3.6 trillion of US assets since 1990 as a result of US trade deficits.

Foreigners have a surfeit of dollar assets. For the past three years their increasing nwillingness to acquire more dollars has resulted in a marked decline in the dollar's value in relation to gold and tradable currencies.

Recently the Japanese, Chinese, and Koreans have expressed their concerns. Acording to Bloomberg (March 10), Japan's unrealized losses on its dollar reserve holdings have reached $109.6 billion.

The Asia Times reported (March 12) that Asian central banks have been reducing their dollar holdings in favor of regional currencies for the past three years. A study by the Bank of International Settlements concluded that the ratio of dollar reserves held in Asia declined from 81% in the third quarter of 2001 to 67% in September 2004. India reduced its dollar holdings from 68% of total reserves to 43%. China reduced its dollar holdings from 83% to 68%.

The US dollar will not be able to maintain its role as world reserve currency when it is being abandoned by that area of the world that is rapidly becoming the manufacturing, engineering and innovation powerhouse.

Misled by propagandistic "free trade" claims, Americans will be at a loss to understand the increasing career frustrations of the college educated. Falling pay and rising prices of foreign made goods will squeeze US living standards as the declining dollar heralds America's descent into a has-been economy.

Meanwhile the Grand Old Party has passed a bankruptcy "reform" that is certain to turn unemployed Americans living on debt and beset with unpayable medical bills into the indentured servants of credit card companies. The steely-faced Bush administration is making certain that Americans will experience to the full their country's fall.

What better sign of how far the United States has fallen economically than the near-bankruptcy of one of its flagship corporations, General Motors. And what is Wall Street’s advice to General Motors to turn things around? Innovate? Invest? No. General Motors is told to cut pensions and health benefits for retirees and employees. I don’t know what’s worse, the blatant class warfare from above or the total lack of imagination. Most of whatever profits General Motors had during the last decade came from its credit division, GMAC, see this from Joseph Kay:

GM announces sharply lower profit figures

Decline of auto giant highlights crisis of US manufacturing

By Joseph Kay18 March 2005

General Motors announced Wednesday that it faces a huge loss for the first quarter of the year and much lower profits than previously projected for all of 2005. The news from GM, the world’s largest auto manufacturer by sales, provoked a sell-off of the company’s shares on Wall Street.

Chief Executive Officer Rick Wagoner and Chief Financial Officer John Devine announced that the company expects to post a loss of about $846 million ($1.50 per share) for the first three months of 2005. This would be GM’s largest quarterly loss since 1992, when it was on the verge of bankruptcy. The company had previously announced that it would break even for the quarter. GM also revised downward its expected profits for 2005, from $4-$5 per share to $1-$2 per share, excluding one-time expenses.

Following the announcement, the price of GM stock plummeted, ending the trading day down by 14 percent. The sell-off eliminated some $12.7 billion in shareholder equity. It was the steepest decline of the company’s stock since the stock market crash of 1987. During trading on Thursday, share prices fell below $28, down from over $80 five years ago.

Indicating the lack of confidence of investors in the future of the company, GM’s bond rating was downgraded by all major ratings firms. Its bonds are now hovering just above junk bond status. A junk bond rating means investors are skeptical that the company will pay off its debts. If the rating is downgraded any further, GM will face sharply higher interest rates on the bond market, further eroding its bottom line.

A downgrading to junk status could trigger a sell-off with serious consequences for the broader bond market. One Wall Street Journal article on Thursday began by noting that the announcement by GM has prompted “investors [to reassess] the risk of lending money to US companies.”

…At the same time it announced its new profit figures, GM made it clear that it plans to place the burden of the company’s problems on the backs of its workers. All 38,000 North American salaried employees will be denied merit pay raises this year, and the company plans to reduce its contribution to retirement accounts for all workers by 60 percent.

To cut production, GM has scheduled for this summer the permanent closure of three assembly plants. They are located in Baltimore, Maryland; Lansing, Michigan; and Linden, New Jersey. The closing of the Lansing plant alone will result in 3,000 layoffs. Other plants are scheduled for temporary shutdowns, including the truck assembly plant in Janesville, Wisconsin.

These, however, are merely preliminary measures. Wagoner said that while the company “made a lot of progress on reducing structural costs, what we have saved on the operating side has been filled in by higher legacy costs...We need to be more creative and more effective in addressing legacy costs. They are kind of swamping a competitive operational performance.”

Put more simply, pension and health benefits that GM workers were able to win over previous decades are to be sacrificed to improve the company’s bottom line.
GM’s health care spending alone is expected to rise to $5.6 billion in 2005, up from $5.2 billion last year. Over 1.1 million Americans—including current workers, retirees and their families—are presently covered by GM health care obligations, making the company the largest private health care provider in the country.

In addition to benefits such as health care and pensions, GM workers have won the right to continue to receive compensation—at least 75 percent of their pay—after being laid off. From the perspective of management and Wall Street, all of these “legacy costs” are intolerable constraints on the company’s ability to radically restructure itself so as to once again become profitable.

Wall Street analysts are placing pressure on the company to take ruthless measures. Stephen Girsky, chief auto analyst at Morgan Stanley, argued, “The company’s market share doesn’t support its size. They have too many plants, too many workers, too many models, too many dealers and their employee benefits are too high.”

…A crisis of American manufacturing

The deep problems that have again come to the surface at General Motors are an expression of a protracted decline of profitability in American manufacturing. Once the paragon of the US economy, the auto industry has undergone a profound decay over the past several decades.

GM once claimed, “What’s good for GM is good for America.” It can be said today that what ails General Motors is what ails American industry. GM is now a symbol of the decline of American economic dominance.

The problem of profitability at GM is not new. Over the past two decades, the company has seen its US market share steadily erode, from a high of over 50 percent during the post-war period. As its manufacturing has declined, GM has increasingly relied on its financing arm, General Motors Acceptance Corp (GMAC), to remain profitable. In addition to auto financing, GMAC finances home mortgages and engages in other activities unrelated to the auto industry. In recent years, GM would have been consistently in the red if it were not for GMAC.

GM’s reliance on its financial subsidiary is indicative of the increasingly subordinate role played by manufacturing in the American economy. As profits from production have declined, the American ruling elite has turned to various forms of financial speculation that do not actually produce anything of value. At the same time, it has sought ever more systematically to shift production from the US to impoverished regions of the world where labor costs are far lower. This process is a concentrated expression of the increasing parasitism of American capitalism.

The crisis of General Motors reveals the underlying weakness of the American economy, which, in turn, provides an insight into the driving forces behind the explosive growth of American militarism. Internally corroded, American capitalism turns more and more to military violence to maintain its position of dominance and impose American-style “free market” relations in every part of the world.

I was amazed to see that more than a million people in the U.S. are covered by General Motors’ employee and retiree health insurance. Now they will be asked to pay more. Later, perhaps, it will be taken away. This shows the absurdity of having corporations provide safety nets and social spending. A corporation is designed by law and charter to be a psychopath, even to its own employees. Why would we want our health care and retirement income to be in the hands of psychopaths? A legitimate government is actually designed by law to have a conscience with regard to its own people (it is still, in a nation-state system, designed to be psychopathic to the rest of the world). If the government spent money on social insurance instead of invading other countries, then corporations could compete on efficiency without destroying the social fabric. We don’t, in the United States, have a legitimate government, though. Our government is completely beholden to psychopathic corporations, to the military death machine, and to a destructive system of exploitation of humanity and of the earth.

One thing you notice perusing writings on the economy is that the idea of “economic growth” is rarely questioned. Stan Cox pointed that out in a Counterpunch article last week:

While there are not enough members of Congress willing to oppose the building of roads in wilderness areas or the gutting of the Clean Air Act, many do take those positions. Such issues are OK to discuss in polite society. On the other hand, when did you last hear a national politician say, "This economy's growing too fast, and if elected, I'll work to cut growth!"?

They never say that, because they would be admitting that capitalism is
. There is no such thing as capitalism without growth. Capitalists -- a class of folks whose income is "unearned" (a term devised and used, with uncharacteristic clarity, by the IRS) -- have a well-understood role in society: to take a pile of money and turn it into a bigger pile of money.

But a bigger pile of money, once achieved, is not an end but another beginning. To the capitalist, that pile is useless unless it can be turned into an even bigger pile. As a result, more resources are used and wastes expelled this year than last, and even more next year.

Now, if you're a politician or, say, a liberal pundit, you can't very well tell working people, "I'm afraid that our capitalist class is going to be needing an increasingly
bigger share of our national income for a while -- well, um, actually forever -- and it's all going to have to come out of your paychecks."

Instead, you talk about economic growth and its seemingly miraculous ability to keep boosting the capitalist's return on investment while not completely wiping out the
workers who generated it. No problem: Money's imaginary, so bigger piles of it are always possible, and there is no biggest pile.

But, of course, we do have a problem. We have no infinite piles of the stuff (even the renewable stuff) that's needed to turn money into more money. There's a rule that no species can increase its resource exploitation infinitely, and Homo sapiens has not been granted a waiver. Fossil fuels, soil, salmon, and healthy ecosystems are real, and the rules that apply to money -- which is no more real than 'Monopoly' money -- don't apply on planet Earth.

… Those who want to square the circle, to have infinite economic growth on a finite planet, generally invoke greater efficiency. Technology is supposed to let businesses generate more monetary wealth while using and abusing less of the material world.

Now, nobody -- no CEO, no environmentalist, not even the Antichrist -- is going to argue against efficiency. But capitalism has a way of turning good things inside out.

If you're a business owner, and you find you can produce the same number of lawn chairs or helicopters while spending less on energy, materials, labor, or waste disposal, that's efficiency, and that means money in the bank for you. But it's your job as a good capitalist to get that money out of the bank, ASAP, and invest it in the real world, where you can turn more stuff into more money. (No matter if demand is down -- buy advertising!)

In a growth-dependent economic order, efficiency simply provides more opportunities for production and consumption. Relying on efficiency to make growth less destructive is like trying to run up a "Down" escalator that never stops accelerating.

Ecological economics, a heretical branch of the discipline, has demonstrated
conclusively that if we're to live within our material means, planet-wide, we must (1) limit our species' rate of reproduction, (2) hold our "throughput" of resources and wastes down to a sustainable level, and (3) set upper and lower limits on monetary wealth and income. These policies make up a package; following only one or two of them won't do the job.

While most ecological economists are not explicitly anti-capitalist -- that is, they do not advocate taking society's most important investment decisions out of the hands
of an unelected capitalist class and putting them into democratic institutions -- it is difficult to see how capitalists or capitalism could flourish in the kind of world they envision.

And there are ways of making investment decisions democratic. For example, in his book After Capitalism, David Schweikart outlines a vision of the future that we all would find familiar, with private property, buying, selling, profits, and entrepreneurs - but without capitalists! Letting all of society, not just a tiny sliver, decide how to
invest would not by itself stop the cancerous growth that's killing the ecosphere. But it's the necessary step.

The problem with Utopian economic and political schemes in the fallen world we live in is that they can easily be subverted if people do not wake up to some basic realities. If it is true that four percent of the population are psychopaths completely lacking a conscience, and if a full half of the people are irredeemably self-serving and mechanical, then no political or economic reform can truly take place without clear, objective awareness on the part of those who do have a conscience and a potential soul of the reality of a world where those who can lie without shame rise to the top of power hierarchies.


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