Signs of the Economic Apocalypse, 7-30-07

From Signs of the Times:

Gold closed at 672.30 dollars an ounce Friday, down 1.8% from $684.70 at the close of the previous Friday. The dollar closed at 0.7337 euros Friday, up 1.5% from 0.7232 at the previous week’s close. That put the euro at 1.3630 dollars compared to 1.3827 the Friday before. Gold in euros would be 493.25 euros an ounce, down 0.4% from 495.19 for the week. Oil closed at 77.12 dollars a barrel Friday, up 1.8% from $75.79 at the close of the week before. Oil in euros would be 56.58 euros a barrel, up 3.2% from 54.81 for the week. The gold/oil ratio closed at 8.72, down 3.6% from 9.03 at the end of the previous week. In U.S. stocks the Dow Jones Industrial Average closed at 13,265.47, down 4.4% from 13,851.08 for the week. The NASDAQ closed at 2,562.24, down 4.9% from 2,687.60 at the close of the week before. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.76, down 19 basis points from 4.95 at the end of the previous week, and down 34 basis points over the last two weeks.

The plunge in stock prices last week has even the mainstream press rattled. The fear is that the plunge was more than a normal correction after a period of run-up in stock prices, that it marked the end of a long credit bubble. The investment banks that underwrote the Cerebus buyout of Chrysler are found last week that they can’t sell the debt.

Bubble Leaking

By Roddy Boyd

July 27, 2007 -- The stock market's rout yesterday was driven in large part by the realization among investors big and small that the woes in the mortgage-bond sector are spreading to other parts of the debt market.

While it has been hedge funds that have felt the brunt of pain caused by the giant hiccup in the subprime mortgage market, the latest wave of malaise is affecting everything from leveraged buyouts to what until now would have been considered run-of-the-mill bond offerings.

Weighing heavily on the markets was the sale of loans to finance Cerberus' purchase of Chrysler, which fell apart - saddling the JP Morgan Chase bank syndicate with $16.5 billion in debt. Now the bank will have to swallow a mammoth $10 billion for the time being.

Late Wednesday, a $10.3 billion deal to finance Kolberg Kravis Roberts & Co.'s purchase of Alliance Boots, a leading British pharmacy chain, was withdrawn after eight banks couldn't sell the debt.

Just yesterday, Tyco Electronics, which was spun off from conglomerate Tyco International, canceled its planned $1.5 billion bond offering citing "unfavorable conditions in the debt markets."

Meanwhile, the general partner at a $4 billion New York hedge fund told The Post that federal funds futures indicate an expectation that the Federal Reserve will ease interest rates within the next two months, which, if true, would signal an abrupt policy shift for the Fed after 17 straight Fed funds rate increases.

Whether this happens or not, the benchmark 10-year Treasury note rallied to yield 4.77 percent as the safest haven for battered investors, its lowest level since May.

Further fueling the malaise was yesterday's housing sales report, which showed sales dropping 6.6 percent and bad earnings Wednesday from home-loan giant Countrywide - which showed that mortgage payment woes were spreading to middle- and upper-income borrowers.

Key Wall Street indexes are telling traders that the rout is not likely to stage a reverse soon.

A highly watched asset-backed bond index comprised of AA-rated bonds - the ABX 07-1 index - dropped six points yesterday. It usually moves a point or two, traders told The Post.

Other ABX indexes covering A-rated to BBB-rated bonds dropped between three and five points.

Bond investors and speculators are casting doubt on the future health of Wall Street's investment banks, which have been shattering quarterly and annual earnings records over the past five years.

Many now hold billions of dollars in mortgage bonds and other illiquid assets, which are expected to weigh on their results in upcoming quarters.

That’s how the end begins. As long as investors were willing to buy all that junk debt, the party could continue. If investment banks can’t sell the bonds anymore, that means that the very thing that has been keeping the markets above water is now gone. All these leveraged buyouts have kept stock prices rising recently, but when there is no leverage left, there will be much fewer buyouts. Cadbury-Schweppes had to postpone indefinitely the sale of their U.S. soft-drink arm, Dr. Pepper/7-Up, because banks won’t underwrite the debt. Underwriting means issuing bonds, so if banks issue the bonds and no one buys them, the banks are assuming all the risks in the deal. This is what happened with the Cerebus-Chrysler deal. All this was a completely predictable result of the bursting of housing bubble. The only thing hard to predict was the exact timing.

Mortgage lending crisis sparks Wall Street plunge

By Patrick Martin

27 July 2007

A two-day selloff on Wall Street has slashed nearly 540 points from the Dow-Jones Industrial Average and wiped out hundreds of billions in stock market value. The sharp decline, following so closely the breaking of the 14,000 mark by the Dow last week, underscores the increasing instability of the US and world financial system.

The mood during Thursday’s trading was widely described as one of “panic” and “fear,” as stock traders reacted to a torrent of bad economic news: sharp declines in the sales of new and existing homes, a further spike in oil prices, a poor showing for US durable goods orders, and financial difficulties for two high-profile corporate takeovers.

The Dow-Jones was down nearly 450 points by mid-afternoon, only to recover somewhat in the final hours of trading. Overall, declining stock issues led advancing ones by a 14 to 1 margin, and the trading was extremely heavy, with a record volume on the New York Stock Exchange of 2.78 billion shares.

Thursday’s slide in New York was felt around the world, with European markets plunging during their final hours of trading Thursday as a result of the downdraft on Wall Street. The London Stock Exchange suffered its biggest loss in four years, with the FTSE 100 index falling 3.15 percent, and there were similar declines in Germany and France.

The initial trigger of the selloff was a report Wednesday by the National Association of Realtors that sales of existing homes fell by 3.8 percent in June to the slowest pace in more than four years. The following day, the Commerce Department reported that sales of new homes fell 6.6 percent in June, three times the drop expected and the largest in percentage terms since January.

The median sale price of a new home fell to $237,900—still nearly five times the annual income of the median family, but down 2.2 percent from a year ago. New home sales rose slightly in the South, but plunged 27.1 percent in the Northeast, 22.5 percent in the West and 17.1 percent in the Midwest. Sales of existing homes fell in all four regions, by amounts ranging from 1.7 percent to 7.3 percent.

There were other numbers contributing to the negative mood in the markets. The Commerce Department reported a 1.4 percent increase in durable goods orders, but if a huge one-time order for new aircraft is discounted, there was actually a drop in orders. Oil prices reached as high as $77 a barrel Thursday before dropping, and the US dollar fell by 1 percent against the yen, a large drop for a single day’s trading. But it was the quantitative and qualitative evidence of a collapse in the housing market that did the most damage.

On Tuesday, the top US mortgage lender, California-based Countrywide, announced it was compelled to take a write-off for losses due to late payments or defaults by borrowers. The company said that divorce and the loss of a job were the two leading reasons for borrowers failing to make payments, and that more borrowers with good credit were falling behind on their home equity loans, not just those with lower incomes and poorer credit who have taken out so-called subprime mortgages. The proportion of good-credit customers at least 30 days delinquent was 1.8 percent a year ago, and has nearly tripled to 4.6 percent now.

In a conference call with analysts, Angelo Mozilo, Countrywide’s chairman and chief executive, said home prices were falling “almost like never before, with the exception of the Great Depression.”

Pulte Homes, of Bloomfield Hills, Michigan, the second largest US home builder, reported a second quarter loss of $507 million, as opposed to a profit of $243 million last year, including a special charge for plummeting land values.

D.R. Horton Inc., the largest builder, reported a similar swing, from a $293 million profit in the second quarter last year to a loss of $824 million this year, including substantial write-offs for the declining value of houses and land. During a conference call with investors and financial reporters, Horton CEO Donald Tomnitz said that the crisis in subprime mortgage lending was having a direct impact on his company. “In some of our instances across the country we are trying to qualify the same buyer two and three times based upon the changing conditions in the mortgage industry,” he said. “We’re not predicting when there’s going to be a recovery because we don’t see one on the horizon.”

In the largest and most expensive housing market, California, foreclosures rocketed a staggering 799 percent for the three months ended June 30, compared to the same period a year ago. Some 17,408 homes were foreclosed during the quarter. Default notices were up 158 percent statewide during the same period.

Stock investors and the financial press have paid increasing attention to the crisis in subprime lending, because the exploitation of poor and vulnerable borrowers has become one of the most lucrative enterprises for mortgage originators and the various financial middlemen, from mortgage bankers to hedge funds, who collect their slice of profit from this high interest debt.

More than $1.2 trillion in subprime mortgages were originated in 2005 and 2006, the bulk of them sold to big mortgage brokers and repackaged as complex financial instruments bought and sold by hedge funds, private equity firms and other Wall Street high rollers, in a process known as “securitization.” The two largest credit rating agencies, Moody’s and Standard & Poor, have only recently begun to review and downgrade these securities, known as collateralized debt obligations or CDOs, to reflect the increasing number of defaults in mortgage payments.

The total amount of securitized subprime mortgages now tops $1.8 trillion, according to recent estimates by the financial press. Leading Wall Street figures have sought to stanch the growing concern that CDOs are a financial house of cards that will come crashing down as mortgage borrowers default. Federal Reserve Chairman Ben Bernanke told Congress last week that losses for big lenders on subprime mortgages could be as high as $50 to $100 billion, but he claimed that the wider impact would be limited.

Some analysts, however, have pointed to far-reaching dangers in the subprime meltdown. William Gross of Pimco Bonds warned July 24, in his monthly commentary, of a “sudden liquidity crisis in the high-yield debt markets.” The chain-reaction effect would be to undermine the availability of easy credit to finance leveraged buyouts, stock buybacks and mergers and acquisitions, the main forces driving up the price of stocks. He concluded, “No longer will stocks be supported so effortlessly by the double-barreled impact of LBOs and company buybacks.”

The practical effect of this process was visible already on Wednesday, as DaimlerChrysler was compelled to postpone the financing for the sell-off of its Chrysler division to the private equity firm Cerberus, which encountered difficulties in obtaining bank loans. The same day, bankers for another private equity giant, Kohlberg Kravis Roberts, withdrew $10 billion in loans meant to finance the buyout of Alliance Boots, a British drugstore chain. All told, some 20 such debt offerings have been postponed or revised because of growing pressure in the credit markets, including a plan by General Motors to sell its Allison Transmission unit to the Carlyle Group, another huge private equity firm.

A front page article in the Washington Post Thursday noted the common thread among events like the collapse of share prices for the Internet travel company Expedia, the mortgage lending crisis, and plunging value of shares in Blackstone, the private equity firm that went public last month.

“At the root of those seemingly unrelated events is a single new reality, one that could portend trouble for the broader US economy: The era of cheap money appears to be ending,” the newspaper observed. For years, easy credit had fueled a seemingly effortless rise in financial markets, “but now, the investors who a few months ago were willing to lend money to Wall Street at low interest rates, on loose terms, are balking as they worry about having to pay the price for lax lending standards.

“The trouble started in one of the shakiest sectors of finance, home mortgages for people with bad credit, but it is spreading. As easy credit dries up, some huge corporate deals are being delayed and could unravel. The question now is how far will the pain spread, and how many people will get hurt as it does.”

The pain may be spread very far:

Subprime could create global crisis, economist says
World is one "Bear-like' event away from liquidity freeze, Zandi warns

By Rex Nutting, MarketWatch

July 26, 2007

WASHINGTON (MarketWatch) -- The problems in the U.S. subprime mortgage market could spiral out of control into a global financial crisis, economist Mark Zandi said Thursday.

With a "high level of angst" in the financial markets about who will take the losses from more than $1 trillion in risky mortgages, we could be just one hedge-fund collapse away from a global liquidity crisis, said Zandi, chief economist for Moody's Economy.com.

A global meltdown is not likely, but the risks are growing, Zandi emphasized in a conference call with reporters following the release of a new study on subprime debt that concludes that the housing crisis could be deeper and last longer than investors now believe.

And it could spread. "Mounting mortgage delinquencies and defaults now pose the most serious threat to the global financial system and economy," Zandi said in his report.

"If there is a fault line in the global financial system, it runs through the U.S. housing and mortgage markets," he said.

Zandi's comments came as U.S. financial markets reeled from a growing credit crunch, centered not in the subprime arena, but in the leveraged corporate debt market.

On Thursday, Tyco became the latest multinational company to pull a deal because the buyers have fled. U.S. stock markets plunged Thursday, while U.S. Treasurys benefited from a flight to quality.

Treasury Secretary Henry Paulson, an old Wall Street hand himself, tried to reassure markets with a mid-afternoon televised pep talk. Lenders and borrowers should exercise more "discipline," he said, and he repeated his view that any problems in the subprime market would be "largely contained."

But Zandi and others say the problems are only beginning.

In a note to clients on Wednesday, Goldman Sachs chief economist Jan Hatzius said the housing correction could be less than half over, if history is any guide.

"The dramatic deterioration in the mortgage market suggests at least the possibility that the credit crunch in the mortgage finance industry could become as bad as in the bad old days of the 1970s and 1980s," Hatzius wrote.

Zandi used another historical comparison: the Asian financial crisis of the late 1990s.

"Unlike the financial crisis of a decade ago, however, global capital would likely flow away from U.S. markets, not to them, as the genesis for the crisis lies within the U.S. financial system."

After Bear Stearns was forced to write off the value of two large hedge funds that had invested heavily in securities backed by subprime debt, it could take just one more "Bear-like event" for the financial system to freeze up,

"If there's another major hedge fund that does stumble, that could elicit a crisis of confidence and a global shock," Zandi said. The potential "is quite high," he said. He gave it a one-in-five chance.

Zandi said global financial conditions have been supported by strong growth and substantial liquidity, supercharged by "unprecedented risk tolerance." But that's changing. Global liquidity is drying up, with central banks tightening. And risk is being re-priced.

"The credit window is now closed," wrote strategist Barry Ritholtz in his blog.

As for the U.S. housing market, Zandi expects a lot more pain, but not a recession.

Not a recession??? A meltdown unlikely??? Those statements by Zandi have the flavor of obligatory nods to etiquette of not wanting to cause panic but they have little relation to what he says elsewhere in the article. Those who manage “bear funds” have less obligations to put a positive gloss on things:

'Reckoning' begins for prophet of doom

Derek Decloet

July 28, 2007

For investors, this has been one rude interruption to a glorious summer. In the space of five days, the Dow was trashed, the FTSE fell, the Nasdaq went into a nosedive, and the TSX had its worst week since September, 2001. From Mexico City to Dublin to Bucharest to Sydney, it was nasty.

In a tiny office in midtown Manhattan, Nandu Narayanan (pronounced nar-EYE-uh-nan) ate it up. He loved it and had one of the best weeks of his career as an investor. He's been waiting for this. Did you see that Blackstone Group, the new cover boys for excess and greed in the private-equity age, has plunged 21 per cent since it completed its initial public offering, oh, about two hours ago? That the vultures at Cerberus Capital can't sell bonds to finance their big Chrysler deal? That Wall Street bankers are waking up at 3 a.m. in a cold sweat, having just dreamed of subprime loans? "The reckoning has started," he says.

Mr. Narayanan, who runs a shop called Trident Investment Management, might be the most unusual investor you've never heard of. He could have been a scientist, a famous economist, or a CEO. (His older sister, Indra K. Nooyi, is the chairman and top executive at PepsiCo and arguably the most powerful woman in Corporate America.) He graduated summa cum laude from Yale, studied under Paul Krugman at the Massachusetts Institute of Technology and acquired an MBA and a PhD in finance and economics from that institution. "He is the single smartest guy I've ever met in my life," says CI Financial's Bill Holland, which you could dismiss as fund-company marketing spin, except he's put $10-million of his own dough in Mr. Narayanan's hedge fund.

Instead of rocket science, he chose a different vocation: prophet of financial doom. Mr. Narayanan makes Eric Sprott look like a cheerful optimist. The credit squeeze that has put a deep-freeze on leveraged buyouts in July and forced this little stock market correction - this is just the beginning, he says. "I would say we're probably in the second or third inning." The best-case scenario? A replay of the summer of '98, when the Dow lost about 20 per cent in a month-and-a-half. The worst? "More like the Great Depression of this century."

If it gets really ugly, blame Wall Street and its obsession with inventing ever more complicated financial products. Mr. Narayanan is something of an expert on this. His first job out of Yale was for Smith Barney, working on earlier versions of mortgage-backed securities - mortgages that are packaged together and resold to investors.

Now, the big lenders and brokerage firms repackage almost everything this way - not just plain-vanilla mortgages but credit card debt, corporate loans, leveraged buyout debt, home loans to deadbeats who can barely fog a mirror, let alone make their payments on time. Slap 'em together, put a shiny wrapper on them, mix-and-match, give them a new name, doesn't matter what you do. Just sell them and get them off the bank's books, fast. That's the new Wall Street.

It worked, for a while. But the web of collateralized debt obligations (CDO) and mortgage-backed securities and credit default swaps and other esoterica is undermined by a fatal flaw, Mr. Narayanan reckons: "You've broken that critical link that tied the borrower to the banker." Someone lends you money to buy a house knows you and can estimate the value of the property. But a bank or a hedge fund that buys a CDO that's made up of other CDOs that are backed by subprime loans made against homes in California that have dropped 15-per-cent in value - well, how the hell can they really know what that piece of paper is worth?

"All of these credit instruments and these fancy things that Wall Street has provided these people have really been predicated on one thing, which is that markets are orderly and everything is fine," Mr. Narayanan says. And when they aren't? Then you can't sell them because there are no buyers. Ben Bernanke, the U.S. Fed chairman, estimated last week that losses on subprime loans may turn out to be $100-billion (U.S.). Mr. Narayanan's view of things is less tidy: When a real credit crunch hits - and we have not seen it yet - some banks and hedge funds won't even be able to figure out for months what their losses are on high-risk debt.

So they'll be paralyzed. And then? Lending activity dries up overnight, which leads to a U.S. recession, which brings on a global recession. "This could potentially make Long-Term Capital [whose collapse helped fuel the '98 crisis] look like some kind of walk in the park," Mr. Narayanan says.

You could easily dismiss the guy as too apocalyptic, and perhaps you'd be right. On the other hand, while your portfolio was getting savaged, his fund, which is short-selling "everything we can get our hands on" related to the U.S. lending industry, went up 10 per cent this week. If there's any truth to his doomsday predictions, this will prove to be a great time to buy gold and government bonds. And to build a bunker in your backyard.

Signs of the Economic Apocalypse, 7-23-07

From Signs of the Times:

Gold closed at 684.70 dollars an ounce Friday, up 2.6% from $667.30 at the close of the previous Friday. The dollar closed at 0.7232 euros Friday, down 0.3% from 0.7255 at the previous week’s close. That the euro, then, closed at 1.3827 dollars compared to 1.3783 the Friday before. Gold in euros would be 495.19 euros an ounce, up 2.3% from 484.15 for the week. Oil closed at 75.79 dollars a barrel Friday, up 2.5% from $73.93 at the close of the week before. Oil in euros would be 54.81 euros an ounce, up 2.2% from 53.64 for the week. The gold/oil ratio closed at 9.03, unchanged from the week before. In U.S. stocks, the Dow closed at 13,851.08, down 0.4% from 13,907.25 at the close of the week before. The NASDAQ closed at 2,687.60 Friday, down 0.7% from 2,707.00 for the week. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.95%, down 15 basis points from 5.10 at the end of the previous week.

The dollar continued its plunge last week, falling 2.6% against gold, 0.3% against the euro and 2.5% against oil. Interestingly, long term dollar interest rates dropped 23 basis points over the last two weeks. The dollar seems to be a victim of a risky but deliberate policy by Fed chair Ben Bernanke to lower it:

Traders ask how low can the dollar go

Michael Mackenzie

July 22 2007

How long before the dollar hits $1.40 to the euro? That is the question many analysts are asking after a week when the US currency struck a new low of $1.3843 to the euro and fresh multiyear lows against a range of currencies, including sterling.

The US currency has fallen 4.5 per cent against the euro this year and 4 per cent against sterling, hitting a new 26-year nadir against the pound last week. The trade-weighted dollar index dropped to its lowest since 1992.

The dollar exchange rate is important because the US relies on hefty foreign purchases of securities and other assets to fund its current account deficit.

“At some point, the fall in the dollar will translate into foreign investors no longer buying US assets and selling their existing holdings,” said William Strazzullo, chief market strategist at BellCurve Trading.

“We expect euro/dollar to appreciate to $1.42 by the end of the quarter and sterling/dollar to to move to $2.10 as investors reduce their dollar-denominated exposure,” said Hans Redeker at BNP Paribas.

The beleaguered US currency was hardly helped by Fed chairman Ben Bernanke last week. Questioned by Congress, he pointedly declined any chance to say the dollar was undervalued.

“[Predecessor Alan] Greenspan would at least say something about the dollar, showing he cared, which is something that many thought was absent in Bernanke’s empty response on the dollar,” said Tony Crescenzi, strategist at Miller Tabak & Co.

Mr Bernanke may have been guided by the idea “talking about the dollar is one of those things best left untouched”, said Alan Ruskin, chief international strategist at RBS Greenwich Capital.

Official silence on the dollar’s woes also extends to Hank Paulson, US Treasury secretary. “You get the sense the administration wants a weaker dollar,” said Mr Strazzullo.

A US economy growing more slowly than global rivals and interest rates rising outside the US while domestic rates remain on hold explain much of the dollar’s weakness. The greenback is also suffering anxiety over US credit and mortgage markets.

With Michael Moore’s new film, Sicko, doing well at the box office in the United States, the U.S. public is getting a rare look at the advantages of European-style social democracy. Normally, they are only given bad news about other systems, but it is getting harder to hide the advantages of other countries’ social welfare policies. Here are two columns, the first by an obscure blogger (Badtux, the Snarky Penguin) another by a well known novelist and columnist, singing the praises of Scandinavian society:

Those poor Scandinavians...

I mean, they got that socialist medicine thingy going. They got those high taxes and stuff. They probably live in grey dreary cities, eating mush for supper, in impoverished dreary nations where everybody is poor and stuff, right?

Errr... not so much. Turns out that one in 85 Norwegians is a millionaire, as vs. 1 in 125 Americans. *AND* they get free health care. *AND* they get free university tuition. *AND* they have the world's best infant mortality figures. *AND* they have the world's longest lifespan. And their cities are beautiful. And income inequality is relatively low -- with living wage laws and high taxes, the middle class actually control more of the national income than the upper class, and unlike here in the United States, the middle class is seeing their standard of living improve, not decline. Wow, imagine that, what a remarkable thing that must be!

Crap, if that's what socialized medicine and high taxes do for a people, gimme some of dat!

Badtux the neo-Scandinavian Penguin

Here is Garrison Keillor:

Isn't it good, Norwegian oil

The folks who emigrated to the primitive Midwest from the little villages in Norway missed out on the country's great oil and gas bonanza.

By Garrison Keillor

July 18, 2007

This week I am traveling around the part of Norway you see in the travel brochures -- the fjords with picturesque villages on the shores, forested mountains with thousand-foot waterfalls coursing down the precipices, old wooden fishing boats anchored in the harbor, old churches. An American walks around and wonders, "Where are the auto salvage yards, the strip malls, the golden arches?" This is a country that believes in zoning and government regulation. Government trolls will not allow you to open up a Mr. Donut drive-in unless you disguise it as a shop.

This morning we visited a village whose name cannot be printed in an American newspaper because it contains a vowel we don't have -- the A with a tiny O over it -- a village of 300 that is visited by 250,000 cruise ship visitors a year. It's as if Minneapolis were to be visited every summer by the Chinese People. The proportion of 250,000 visitors to 300 residents means that all the villagers are in retail. They sell a lot of Norwegian sweaters. Floridians and Californians come on a cruise ship in July and expect to find summer and they find chilly days and a light drizzle and they get cold and need to wrap themselves in wool. The sale of sweaters enables the villagers to lock up after Christmas and spend January, February and March in Florida or California.

Ancient burial mounds here tell us something about the Vikings. For one thing, when a chieftain died, his people killed a slave woman to go along with him to the afterlife. They asked for volunteers and since the lives of slave women were hard, there were some who were willing to take their chances on entering paradise. We also learn that the Vikings were expert woodworkers, which was how they were able to discover America 400 years before Columbus. They knew how to join wood and make ships that would stand up to the North Atlantic. And when St. Olaf converted them to Christianity in the 11th century and they swung away from Odin and Freja and Thor and the skaldic sagas and took up the epistles of St. Paul, they gave up domination by force and learned the art of passive aggression.

In Moorhead, Minn., you'll find a fine replica of an 11th century Norwegian stave church, which looks a little odd there with few trees and no mountains. And that's how the Norwegian emigrants felt who wound up on the prairie. The sky was too big and they had to learn to walk on level ground. But life was hard in Norway. The Black Plague had killed off half the country in the 14th century and made it defenseless, and so Norway fell under the woolen fist of Danish oppression until Denmark chose the wrong side in the Napoleonic wars and was forced by Britain to give Norway to Sweden, and between the Danes and the Swedes they managed to give Norway a national inferiority complex that lasted even beyond national independence in 1905. In these little villages along the fjords, people wearied of vertical agriculture and began emigrating to the Midwest back when it was a primitive frontier.

A Norwegian hates to admit a mistake, however, so the emigrants wrote glowing letters back to Norway, which lured even more Norwegians to the Midwest, so they missed out on the great Norwegian oil and gas bonanza of the past 50 years. Our oil profits go to robber barons who give it to their wastrel children to subsidize lives of insane narcissism, but Norwegian oil profits go mostly to the Norwegian people and subsidize the little villages and the roads and rails needed to connect them -- Norwegians are in favor of provincialism -- and also go to the largest pension fund in Europe, $300 billion, which is forecast to more than double in the next 10 years.

American Norwegians live in little prairie towns where health care is the main industry because everybody's old and their main asset is their home, which isn't worth what it was because the town is shrinking because old people have a tendency to die. Their ancestors took a wrong turn. They had no idea America would fall into the hands of a failed oilman who would waste the country's pension money on a war for oil while Norway, the world's most peaceful country, enjoys a very sensible prosperity. They've voted twice to stay out of the European Union. Why mess with success?

It’s getting harder for the powers that be in the United States to convince the public that the U.S. is the “Greatest Country in the World.” But their task is not impossible thanks to the power of dissociation. Americans will complain about one thing or another, they will see the faults very clearly, but then will dissociate and say, “it’s still the Greatest Country in the World.” It’s the whole “self esteem” phenomenon on a national level. Here is the Badtux blogger again:

Self Esteem

July 18, 2007

The notion of "self esteem" is the notion that somehow feeling good about yourself means a damned thing other than that you feel good about yourself.

Back when I was teaching in an inner city school in Houston, the central office sent down one of those damned "self esteem" curriculums. I looked around at my classroom, and threw it in the trash. Because if you wanted those kids to feel good about themselves, what was needed wasn't "self esteem". What was needed was clean, safe housing with enough beds for all the kids so kids didn't have to sleep three to a bed. What was needed was a living wage so that these kids' parents didn't have to work 16 hours a day just to keep a vermin-ridden roof over their head and could, like, actually raise their kids rather than being a distant presence only seen during rare weekend periods when one parent wasn't working. What was needed was competent teachers and adequate schooling rather than newbie teachers right out of teacher colleges who didn't have the foggiest notion how to talk to black kids in the ghetto much less teach them. What they needed was hope for the future, hope that they certainly weren't gonna get from a Texas legislature busily cutting children's health care and raising college tuitions, hope they certainly weren't gonna get from a Republican administration in Washington D.C. that was busily gutting the Pell Grant program for sending poor kids to college. What they saw was a dismal dreary present today and the same dismal, dreary future that their parents had, regardless of what they tried to do with their lives, and justifiably they weren't too happy about that.

But noooo, these kids problems weren't all that. These kids' problems were... low self esteem. So the message we teachers were supposed to impart was: Don't worry, be happy.

Now, the whole notion of "self esteem" is a strange one. I'd say a queer one, but then the gay rights activists would get outraged and stuff, so anyhow. Science is about things that are measurable. But who has ever seen a "self esteem"? So the floggers of the whole "don't worry, be happy" thingy created test instruments full of questions like, "I feel good about myself", and "I feel capable", and then defined "self esteem" as scoring high on that test. The problem then becomes the same damned thing that my professor in Social Sciences Research 501 taught me in grad school: Correlation is not causation.

For example, there is a correlation between umbrellas and rain. If you see a lot of umbrellas, it is likely to either be currently raining, or to start raining shortly. But this doesn't mean that umbrellas cause rain, any more than summer causes drownings. The actual cause of rain is something else entirely.

Similarly, the self esteem gurus with their tests discovered that well-off suburban kids who answered "1" (Agree Strongly)_ on "I feel good about myself" scored higher on academic benchmarks than my inner city kids who answered "5" (Disagree strongly) on that question. Duh. Why the f*** should my inner city kids have felt good about themselves? They were stuck in a horrible mess not of their own making, and every avenue for getting out of that shithole was being systematically taken away from them by Republican a******* whose attitude was "I got mine, and f*** everybody else", why should they have felt good about themselves? But the self esteem gurus then used this test to say, "high self esteem causes better school performance!"

Anyhow, that was the status quo for many years after I left teaching. Teachers were supposed to "foster self esteem" in their students. So finally -- finally --Baumeister et. al. did the research. They actually performed an experiment, as vs. a correlational study. The difference is that an experiment changes something. In this experiment, they taught kids to feel good about themselves (i.e. have high self-esteem). If you teach kids to feel good about themselves ("have high esteem"), do they actually perform better in school? Well, the answer, of course, is NO. In fact, for some kids it actually hurt their performance. After all, if you're already a perfect and wonderful person, what do you need all this schoolwork junk for?

So in the end, science backs up my gut feel from over a decade ago and shows that "self esteem" turns out to be meaningless. Folks feel good about themselves and their lives if they are in a good situation accomplishing things of worth, and feel bad about themselves and their lives if they're in a bad situation accomplishing nothing of worth. Kids who make good grades feel good about themselves because they make good grades, not the other way around. In other words, "self esteem" is effect, not cause. Other than in the special case of "learned helplessness", the whole concept of "self esteem" turns out to have no practical application.

On the other hand, for our rulers, the message "don't worry, be happy!" does make some sense, I suppose. Contented sheep, after all, are easier to fleece. But whether we're talking about low-achieving kids in school or fat people or whatever, "pumping up their self esteem" isn't the path to take in order to get better performance out of them. Rather, taking direct action to provide them better education, better nutritional and exercise choices, etc. while providing incentives to actually engage in those better choices is what needs to be done.

But that's practical advice. And everybody knows that what counts is how happy you are, not whether you are in fact smart or healthy or whatever. Alrighty, then!

Unfortunately, the shocks to come will most likely shatter all the buffers and dissociative states. Notice how in the following article from the Los Angeles Times about the valuation of mortgage backed securities, how the whole concept of “esteem” can be extended into the financial arena. Over-amped “esteem” can prop up markets… until they don’t anymore:

Wall Street can't cage its mortgage monster

Tom Petruno

July 22, 2007

When the rocket scientists on Wall Street outsmart even themselves, very bad things can happen.

The 1987 stock market crash was fueled by an institutional investment strategy that its creators ironically had termed "portfolio insurance."

The collapse of the giant hedge fund Long-Term Capital Management in 1998 was triggered by a sequence of market events that the fund's engineers believed couldn't occur in literally billions of years.

Today's version of Frankenstein turning on its creator is the mortgage loan mess. Wall Street in recent years has taken a simple concept — bundling mortgages and selling them to investors as interest-paying bonds — and concocted an alphabet soup of securities so incredibly complex they defy understanding by all but a handful of PhDs.

That complexity now is coming back to haunt the buyers of those securities, who for the most part are hedge funds and other big investors, not individuals. If you aren't sure what it is you own, you can't be confident about the thing's value. And in financial markets, if confidence dies, little else matters.

For months, Wall Street's standard line about the massive volume of mortgages made to high-risk borrowers since 2003 was that rising delinquencies on those so-called sub-prime loans were a manageable problem.

What's more, the line went, the trouble would be "contained" — meaning, it would be limited to the highest-risk loans and wouldn't spread up to better-quality mortgages or to better-quality mortgage-backed bonds.

Those assertions were all but blown away last week, after brokerage Bear Stearns Cos. on Tuesday disclosed that investors in two of its hedge funds that owned mortgage-backed securities had lost virtually all of their money.

It wasn't that the bonds became completely worthless overnight. Rather, the funds were victims of their heavy use of borrowed money to boost their bond bets. The use of debt, or leverage, magnifies an investor's gains when a portfolio is rising in value but also magnifies losses when the portfolio declines.

Still, leverage alone wasn't the problem. In its letter to clients, Bear Stearns reminded the rest of Wall Street what was happening with investors' perceptions of mortgage-backed bonds, even those purported to be of high quality.

Its funds were obliterated, the brokerage said, in part because of "the unprecedented declines in valuations of a number of highly rated — AA and AAA — securities."

For a AAA-rated bond, a serious decline is a drop in the market price from $1,000 to $950 in a matter of days. It may not look like much, but for a security that had the highest possible credit rating, that's a disaster.

Investors are losing faith in mortgage bonds up and down the quality chain because the major credit-rating firms — Standard & Poor's, Moody's Investors Service and Fitch Ratings — this month have begun to warn that loan delinquencies may be worse than what the firms had anticipated.

As they have cut their ratings, or put securities on "watch" for possible downgrades, the rating firms have helped unleash a torrent of fear.

Now, some owners of the riskiest mortgage bonds might like to sell, but the reality is that very few securities actually are changing hands.

Why is that? Because buyers are balking. After the biggest boom the housing industry has ever experienced, the bust could be unprecedented as well. So gauging how much of a loss a mortgage bond ultimately will experience — in other words, how many loans backing the security will go bad — is a difficult exercise for a potential buyer.

This is the peculiar problem of mortgage-backed securities. It isn't enough to know how many struggling homeowners will be forced into foreclosure. A bond investor also has to figure whether the foreclosed homes can be sold at prices that will cover the mortgages. And the investor has to guess how long the workout process could take.

Certainly, most Americans will make their mortgage payments, as they always have. But the $1.5 trillion in sub-prime mortgage bonds sold from 2003 through 2006 tells you that a huge number of high-risk borrowers were financed in that period. Some of those loans already have failed; more assuredly will fail.

What's more, in the sub-prime loan market it's now clear that fraud played a big role in the ease with which loans were granted as the housing boom peaked in 2006.

So what are investors supposed to believe about the underlying paperwork that describes a mortgage and the home that secures it?

"You cannot model [a bond for] the effects of fraud," said Andrew Lahde, head of Santa Monica-based Lahde Capital Management, which has been betting this year that mortgage bonds would plummet. "Fraud by definition is deception."

The difficulty in evaluating mortgage-backed securities has left potential sellers and buyers far apart. As many traders have described the situation in the last few weeks, a seller puts a bond up for sale hoping to get 80 cents on the dollar, only to find that potential buyers are offering no more than, say, 40 cents.

In this environment, "no one believes that AAA is AAA," which just echoes down the rating scale, said Janet Tavakoli, head of Tavakoli Structured Finance Inc. in Chicago and an expert on mortgage securities.

The seller then pulls the bond off the market. He hasn't realized a loss, but his anxiety level only rises because he's still stuck with the security in a worsening market.

As confusing as things are for mortgage bonds, it's worse for Wall Street engineers' crowning achievement in fee-generating securitization: collateralized debt obligations, or CDOs.

A CDO is, in effect, a bond backed by other bonds. And in a wondrous bit of alchemy, a CDO creator can take a pool of bonds backed by mostly sub-prime mortgages and turn it into securities that have AAA credit ratings.

It's all in the slicing and dicing of the underlying portfolio. In theory, the holder of a AAA-rated CDO slice owns a security that has almost no chance of losing principal.

But what, exactly, is backing that CDO slice? That's the question that many yield-hungry hedge funds and other big investors failed to ask in the boom years, said Christopher Whalen, an analyst at research firm Institutional Risk Analytics, which provides risk analysis to financial firms.

Now, "as mortgage default rates go up, investors are going to find out that what they own is not what they think it is," he said.

That is likely to be the unfolding story of the rest of this year and the first half of 2008.

The fire sale in mortgage securities has yet to begin. But it's coming. The implications for the rest of financial markets aren't clear, but when confidence is shaken in one market there usually is collateral damage.

Once again, Wall Street's rocket scientists have created a monster they can no longer control.

Signs of the Economic Apocalypse, 7-16-07

From Signs of the Times:

Gold closed at 667.30 dollars an ounce Friday, up 1.9% from $654.80 at the close of the previous Friday. The dollar closed at 0.7255 euros Friday, down 1.1% from 0.7338 at the previous week’s close. That put the euro at 1.3783 dollars compared to 1.3628 the Friday before. Gold in euros would be 484.15 euros an ounce, up 0.8% from 480.48 for the week. Oil closed at 73.93 dollars a barrel Friday, up 1.5% from $72.81 at the close of the week before. Oil in euros would be 53.64, up 0.4% from 53.43 for the week. The gold/oil ratio closed at 9.03, up 3.4% from 8.99 the Friday before. In U.S. stocks, the Dow Jones Industrial Average closed at 13,907.25 Friday, up 2.2% from 13,611.68 at the close of the week before. The NASDAQ closed at 2,707.00, up 1.5% from 2,666.51 for the week. In U.S. interest rates the yield on the ten-year U.S. Treasury note closed at 5.10%, down 8 basis points from 5.18 at the end of the previous week.

Gold and oil rose sharply in dollars last week and also to a lesser degree in euros. In the U.S. retail sales were down and food prices continue to rise. In fact, the prices of most commodities are rising, or, to say the same thing in another way, all currencies are falling, some are just falling faster than others. The following piece illustrates the interconnected nature of world inflation and how the whole global bubble is dependent on the U.S. consumer:

Reaping the Whirlwind

Frederick J. Sheehan

July 9, 2007

The aspects of inflation are as varied as those of a diamond rotated in the sunlight. Each is illuminating, once one has the ability to distinguish between gemstones. To the untutored, higher oil prices cause inflation. This is similar to rotating a rhinestone, instead of a diamond. The connoisseur understands that too much money-cum-credit causes inflation.

The cost of energy is rising in dollars. Dollar production does not require exploration. The additional increment of energy is hard to find, difficult to evaluate, and susceptible to daily reevaluation upon further investigation (shale oil versus ethanol). Federal Reserve Chairman Ben Bernanke made the market call of the decade in 2002, when oil cost $25 a barrel: “Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation…the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services. We conclude that, under a paper money system, a determined government can always generate higher spending, and, hence, positive inflation.”

Now to rotate the diamond. Bernanke did not address the printing presses in China, Russia, and Brazil. Americans spend more dollars buying goods shipped into the United States than foreigners pay for American goods that are sold abroad. The result is a mountain of dollars piling up in foreign countries. These extra dollars flow into those local economies. This causes an acceleration of production and consumption -- inflation. An example might be posed as a question: If Americans had spent a trillion dollars less on goods from China et al. over the past decade, would China now be a net importer of coal or India a net importer of grains? China would probably not be increasing its consumption of beef by 20% a year. The base off of which that growth rate is compounding would certainly be at a much lower level.

This elevated base and rate of consumption has accelerated at a much faster pace than the ability to ship and produce the structural material. For instance, one half of urban homes in China now own air conditioners; the power grid cannot compete with such indulgences.

The situation is a bit like the wedding feast at Cana. The caterer badly underestimated the amount of wine required to lubricate the happy glands and bonhomie of the gathered guests. The guests’ teeth were grinding to a halt. It was at this moment that Jesus arrived and produced wine for the multitudes.

We might pray for a miracle, but among other considerations, there is little money to be made from an instant solution. The early stages of discovery are chock-full of moneymaking (and capital-destroying) opportunities. Energy, dollar, and physical construction are inseparable from global hyperactivity.

An integrated specimen is the worldwide housing boom, any component of which involves energy. This pushes energy prices north. A facet of the integration: Russian housing starts have risen 70% over the past year. Russian central bank holdings of U.S. dollars have increased 50% over the past year. The two growth rates are very much related: The Russian central bank converts U.S. dollars received for Russian oil that was exported to the United States. In converting, the central bank prints rubles in exchange for the dollars. These rubles -- that had not and would not exist if not for American energy demands -- then make their way into the Russian economy. Real estate developers are mighty pleased.

We can turn the diamond slightly and see how higher energy costs have increased prices for milk and tortillas. The U.S. government’s solution to limited oil resources includes a vast commitment to ethanol. According to the game plan, the energy used to run cars will, in effect, replace gasoline with corn. The effort may be flawed, but government subsidies, once in motion, rarely come to a screeching halt.

The U.S. produces 11 billion bushels of corn a year. In 2005, 1.5 billion bushels were sequestered for ethanol production. This leapt to 2.3 billion bushels in 2006 and an estimated 3.3 billion bushels in 2007. The price of corn has risen. The Mexican diet is heavily tortilla-ized, especially at the lower income stratum. Riots scarred the early months of President Felipe Calderon’s term of office. He slapped price controls on tortillas. Borrowing from the book of Castro, Calderon warned, “We won’t tolerate monopolists and speculators.” His Cuban counterpart made more sense when he declaimed the “sinister idea of converting food into fuel.”

The little man is also exposed in the United States. Farmland and grazing land are being rotated to the highest-priced crop. Cows are no longer fashionable. Thus, domestic milk prices have risen 63% over the past year. According to Andy Lees at UBS in London, world milk prices have risen 60% over the past six months (measured by the price of skim milk powder, commonly used as the benchmark). The U.S. has no surplus milk powder. It had 2.7 billion pounds in storage in 1983; the last 27 million pounds were sold last year. European warehouses are empty. Other food prices are rising by double digits. (Most everyone knows the government trumpets a consumer price index that does not include food and energy. Less well known is the absence of commodities such as milk, eggs, butter, and cheese from the seasonally adjusted CPI number that does -- purportedly -- include food and energy.)

The pace of energy production required to catch up with energy demands leads to possibly regrettable decisions. Again, from Andy Lees: “Growing plants for fuel will accelerate the already unacceptable levels of topsoil erosion. By using crops for biofuels, we would effectively be ‘mining’ the topsoil, and there is only about six inches of this around the world, on average. Even the best places in North America have seen the topsoil erode from 18 to 10 inches over the past 50 years, but it would have been dramatically more had it not been for replacing it with fertilizer (fossil fuel based)…Fertilizers provide 28% of the energy crops need…” Topsoil erosion due to topsoil mining reduces yield levels. Thus, more fertilizer is needed at the cost of ever more energy just to remain static.

The production of fertilizers consumes energy. Since the cost of energy is rising, the cost of fertilizer production follows. PotashCorp of Canada thinks the cost of producing potash fertilizer in Brazil will rise by nearly 70% this year, due to increased demand for food and fuel. The ethanol binge thus consumes more energy in an effort to produce more energy. The cost of farming is rising, as is the cost of buying a farm: Over the past year, farm prices have risen 10% in Australia and 15% in the U.S.

…We’ll finish by dropping the diamond on the floor to see the world through Bernanke’s myopic view -- that is, from the United States, which is all he is permitted to consider. The amount of steel for apartment construction in Shanghai and Istanbul or the growing appetite for power and power plants around the world escapes his blinders. (Iran’s power plants cannot keep pace with demand; a good part of the increment is produced by consumer electronics imported from China.)

Forget about SUVs. The Toll Brothers (both of them), who manufacture the highest-cost houses in the U.S. (average price for new sale is $675,000 -- and falling), note that buyers opted for ceilings of eight feet in the 1980s. Then it was nine feet and now it is 10 feet. The basic house includes optional equipment. Toll house buyers are drawn to visual trinkets on the facade (e.g., Ionic columns in front of the doghouse), rather than additional insulation. The best-selling box is now “the Hampton,” a 4,800 square-foot pile. The best-seller five years ago was 4,000 square feet. These figures do not reflect the additional two feet of air to be heated and air-conditioned. Nationally -- with or without the Toll Brothers -- the fastest-growing house configuration between 1990-2005 was the five- (or more) bedroom model.

Energy output needs to work hard to keep up with such production, but even the Hampton falls short of rising consumption. Houses are bursting at the seams: The amount of self-storage used by Americans has grown 50% since 1995. There are now 1.89 billion square feet of self-storage space -- six square feet for every man, woman, and child. Much of it is climate controlled.

Many of the fastest-growing real estate markets are full of hot air (California, Las Vegas, Arizona, Florida) or cold air (New England to Washington). The Phoenix-Scottsdale, Ariz., population has risen from 2 million in 1990 to 4 million. Landowners and developers have staked out a rough plan for 8 million sun seekers in 2016. (The betting here is they will be sorely disappointed.) On hot days now, Phoenix uses more energy than New York City. SUVs can be traded for a Cooper; house consumption is here to stay (or rot). Looking abroad, the United Arab Emirates, now rolling in $850 billion of foreign currency reserves, will not be quick to delay construction of new aluminum plants, fertilizer plants, or refineries, not to mention Dubai’s 25-story, air-conditioned ski slope inside a glass bubble.

Naysayers will identify the ski slope as the ultimate bubble. They will also note the weak straw is of centrifugal dollar claims turning centripetal. Fair enough. However, there is probably less than $1 invested in commodities (inventory, common stocks, derivatives) for every $100 of claims on fancy derivatives. Some unfortunate investors are finding the world is not interested in buying CDOs supported by shrinking asset values, but the world needs another 10 million tons of fertilizer -- now.

The global inflationary bubble is driven by individual, corporate and governmental U.S. debt. The government continues to expand the money supply and borrow hundreds of billions. Consumers still play their part:

May consumer credit rises $12.9 billion

July 9, 2007

WASHINGTON (Reuters) - Americans reached for their credit cards with gusto in May after an April lull, sending overall U.S. consumer borrowing up by $12.90 billion -- more than twice the forecast rise, a Federal Reserve Board report showed on Monday.

May consumer credit rose at a 6.4 percent annual rate in May, and credit outstanding totaled $2.441 trillion. Wall Street economists polled by Reuters had forecast a May increase of $6.0 billion.

The May jump was back on the pace of March's increase of $12.94 billion. April's gain was much smaller at a revised $2.29 billion, initially reported as a $2.60 billion increase.

May revolving credit, made up of credit and charge card debt, rose $7.25 billion, or at a 9.8 percent rate, to $894.80 billion, marking the biggest increase since November 2006.

May non-revolving credit, comprising closed-end consumer loans for purchases like cars, boats, college educations and holidays, rose $5.65 billion, or 4.4 percent, to $1.545 trillion.

In spite of all that extra debt, retail sales were down. It may be that a lot of that debt was taken to pay utilities, increased housing payments, and to service other debt. Which means we may be coming to the end of the debt expansion.

Retail sales suffer steep decline

Martin Crutsinger, AP Economics Writer

July 13, 2007

WASHINGTON - Consumers put away their wallets in June, sending retail sales plunging by the sharpest amount in nearly two years. Sales of autos, furniture and building supplies all fell, highlighting the economy's weak spots.

The 0.9 percent drop in retail sales was the biggest decline since August 2005, the Commerce Department reported Friday. It was a far bigger setback than the flat reading that had been forecast.

Part of the weakness was seen as payback for a surprise on the upside in May, when sales surged by 1.5 percent. But the June decline was also viewed as an indication that consumers are cutting back under a barrage of higher prices and a recession in the housing industry.

"Consumers are increasingly cautious in the face of higher gasoline and food prices and slowing home price gains," said Mark Zandi, chief economist at Moody's Economy.com.

Two gauges of consumer confidence gave conflicting signals Friday. The RBC Cash Index fell to its lowest point in nearly a year while the University of Michigan/Reuters survey rebounded to a six-month high, an increase attributed to a temporary retreat in gasoline prices in late June and early July.

Capping a week that began with worries about the strength of consumer demand, Wall Street rose again on Friday as investors discounted the big drop in retail sales, choosing to believe it was a temporary stumble that will not derail prospects for continued economic expansion.

Both the Dow Jones industrial average and the broader Standard & Poor's 500 index set closing records for a second straight day. The Dow climbed 45.52 points to close at 13,907.25, after surging by 283 points on Thursday, the biggest one-day point gain since October 2002.

The economy slowed to a dismal 0.7 percent growth rate in the first three months of this year, but is believed to have rebounded significantly in the just-completed April-June quarter to growth above 3 percent.

Analysts said, however, that the dip in June retail sales would provide a weaker starting point for the current quarter and they forecast that growth in the second half of this year would slip to around 2.5 percent as the slump in housing persists longer than expected, acting as a drag on consumer spending.

Housing, which has been hurt this year by spreading troubles in the subprime mortgage market, has seen sales decline and prices fall in many formerly red-hot markets, where sharp price appreciation over the past five years had boosted consumer spending by making consumers feel more wealthy and also allowing them to take out home equity loans to finance purchases.

"Consumers have been living beyond their means and they are now starting to slow down," said David Wyss, chief economist at Standard & Poor's in New York.

Saturday was Bastille Day in France. The blogger who calls himself Badtux the Snarky Penguin had some interesting observations about that:

The blood of tyrants

July 14, 2007

Today is Bastille Day in France, a celebration of the overthrow of the French monarchy. Here is a song which celebrates the overthrow of tyrants. It is the French national anthem. Please go read the English translation of the lyrics and come back.

Okay, you're back. So what do you think? Suitably bloodthirsty? Not exactly your typical national anthem, eh, what with all that bit about bloodthirsty ripping of babes out of wombs and such.

Some say that we need our own Bastille Day to overthrow the tyrants who control our nation (who, I might add, are not our elected officials -- they are, for the most part, puppets of the real rulers of our nation, the wealthy elite that prefers to work behind the scenes). The problem is what happens next. Once a people becomes accustomed to blood, there is no end to the blood. Rule of law is over, and rule of gun is the only rule. The end result, typically, is that the worst amongst us come out on top -- those with the least morals, the most willingness to kill upon the slightest whim, the least consideration for the least amongst us.

For the French, the result of overthrowing the monarchy led inevitably to Napoleon, who killed millions during his quest to conquer Europe, including over a million Frenchmen whose lives he threw away. While it would certainly be satisfying to take the puppet George W. Bush to the gallows and stretch his neck, and past that point take all the rulers of America and stretch their necks -- Richard and Helen DeVos, the Olin family, the Bradley family, the Scaife family, etc. -- then what? That road inevitably leads down the same road that the garroting of the French royal family led down -- blood, misery, and millions of dead.

One of the geniuses of our founding fathers is that, by and large, they did not massacre the supporters of the English monarchy once the pro-monarchy forces lost and American independence was secured. Instead, they exiled those supporters to Canada. There was no bloodbath on American soil outside the blood of soldiers. Perhaps, if we are forced to fight a new war of independence against a new monarchy, that would be a reasonable solution for dealing with our own monarchs. Except instead of sending them to Canada (which undoubtedly would not want them), I have a much better idea. Send them to Iraq. Naked. With no possessions. No servants. No soldiers or guards. Drop them naked and alone into the middle of the Sadr City suburb of Baghdad. Hey, if it was good enough for our founding fathers... oh wait, I forget, our founding fathers didn't ship the supporters of monarchy naked to Canada. They tarred and feathered them first. Hmm... stock tip: buy stock in feather companies.

What the Snarky Penguin refers to as “the worst among us” we now know can be referred to as psychopaths or “the other human race.” Chaotic times with shattering social trauma are indeed times when those with the lowest morals can rise higher. And, as Andrew Lobaczewski points out in Political Ponerology, they often do it by infiltrating and taking over reform movements, turning them either into power bases that do not serve the goals they were founded to serve or into revolutionary movements that create the kind of violence and chaos that facilitates further takeovers by pathological elements.

With Sarkozy doing his best to implement Anglo-American style capitalism in France, it is a good time to remind people in France what they will get if they let him: a more psychopath-friendly society. Neoliberalism, when implemented, makes it easier for psychopaths to take over a society. This happens at several levels. At the level of individual businesses, Paul Babiak and Robert Hare spell it out in Snakes in Suits: When Psychopaths go to Work (New York: Harper Collins, 2006, 2007). According to Babiak and Hare, the shift to more unstable, entrepreneurial corporations in the United States during the past two decades presented new opportunities for “the other human race” or those without a conscience:

[D]uring the unstable period of the 1980s and 1990s, too many things changed, seemingly all at once, with little time to build supporting policies, procedures, and systems before the next changes came about. In contrast to old-style bureaucratic organizations that were built on stability, consistency, and predictability, the new transitional organizations were forced to give up these “luxuries,” having to become more fluid in the face of an unstable, inconsistent, and unpredictable future… At some point along the way, the concept of the “psychological contract” was challenged, and it eventually gave way to a world where the employee-employer relationship was seen as a transitory one rather than a long-term partnership. This dramatically affected executives, managers, and employees emotionally, psychologically, and socially—causing even the most confident people to feel that they had lost control of their lives. (Snakes in Suits, pp. 157-9)

Who succeeds in this environment, in this new culture of change? Most management experts agree that in order to survive the chaos, employees, managers, and executives must adopt constant change as a work style and lifestyle—the management term for this is embrace change. (p, 160)

Would someone with a psychopathic personality, turned off by earning an honest living in general, even be interested in joining one of these transitioning organizations? Unfortunately, the answer we found is yes, as organizations have become more psychopath friendly in recent years. Rapid business growth, increased downsizing, frequent reorganizations, mergers, acquisitions, and joint ventures have inadvertently increased the increased the number of attractive employment opportunities for individuals with psychopathic personalities—without the need for them to correct or change their psychopathic attitudes and behaviors.

What is it about these new organizations that make them so attractive to psychopaths? First, these “entrepreneurial pretenders” find change personally stimulating. Their thrill-seeking nature draws them to situations where a lot is happening and happening quickly. Second, being the consummate rule-breakers, they find the increased freedom to act tot heir liking. These pretenders capitalize on the lessened reliance on rules and policies and the increased need for free-form decision making that characterize organizations in a chaotic state. Third, as opportunists, they take advantage of others in ways that are not always obvious. In particular, the opportunity to get a leadership or management position is extremely attractive because these positions offer the psychopaths a chance to exert power and control over people and resources, they tend not to require involvement in the details, and they command larger-than-average salaries. Because a leader’s ability to get people to do things is often of more importance than his or her technical capabilities to perform work tasks, pretenders lacking in real work expertise are not disadvantaged; their talents are assumed and their phony or exaggerated backgrounds often accepted at face value. (p. 164)

Babiak and Hare think this is nothing more than an inadvertent result of other factors. What if it is the intended result? Babiak and Hare’s blindness to the larger macrosocial context is displayed in the following sidebar next to the previously-quoted passage:

Entrepreneurial or Just Plain Crooked?

In 2005, the Canadian government was rocked by a patronage scandal involving several hundred million dollars that were funneled by the party in power to advertising agencies. A judicial report on the scandal roundly criticized the party and the ad agencies, who had provided kickbacks for use by the party.

Recently, the Canadian Ethics Commissioner startled the country by stating that the affair could be viewed either as a triumph of theft” or as a “triumph of entrepreneurship,” depending on “how you look at these things.”

…Such ethical relativism is part of the reason psychopathic and other unprincipled “entrepreneurs” find it so easy to line their pockets with the unwitting contributions of those whose ethical standards are more fixed.

In an early 2006 election, the scandal-ridden political party was voted out of power.

What Babiak and Hare don’t mention is that the party that took power was a neoconservative one that backed the Bush regime’s foreign policy goals and backed the corporate globalist agenda in domestic policy, both of which further a psychopath-friendly agenda. The scandal may have been manufactured, more or less, to achieve just that result.

We noted a couple of months ago that countries that were taken over by the neoconservatives had the highest balance of payment deficits. Now we see that an entrepreneurial business culture in a society that has dismantled social insurance is also more psychopath-friendly. This is no accident. Clearly there is much more going on here than just a change in the nature of the corporation that just happened to offer advantages to psychopaths. In a whole range of areas, the way is being made straight for psychopaths to assume control. A society’s immune system is weakened before the move is made by the pathogen.

Once they pull the plug on the bubble economy and institute the crash, the pathocrats may believe that is their chance to take total control. However, the vast majority of normal people may decide they have had enough and stop obeying them. But, as Laura Knight-Jadczyk points out, that can only happen when normal people are fortified by knowledge of the true nature of their enemy:

There are only two things that can bring a psychopath under submission: 1) a bigger psychopath; 2) the non-violent, absolute refusal of all others to submit to their controls no matter the consequences. If every single normal person in the U.S. (and elsewhere) simply sat down and refused to lift a hand to further one single aim of the psychopathic agenda, en masse, if people refused to pay taxes, if soldiers refused to fight, if government workers and corporate drones refused to go to work, if doctors refused to treat psychopathic elites and their families, the whole system would grind to a screeching halt.

But that can only happen if the masses of people KNOW about psychopathy in all its horrible details. Only if they know that they are dealing with creatures that really aren't human can they have the understanding of what they must do. And only when they get miserable enough that the misery that the psychopath will inflict on them in the beginning of their resistance pales in comparison, will they have the will to do this.

Signs of the Economic Apocalypse, 7-9-07

From Signs of the Times:

Gold closed at 654.80 dollars an ounce Friday, up 0.6% from $650.90 at the close of the previous Friday. The dollar closed at 0.7338 euros Friday, down 0.6% from 0.7384 at the previous week’s close. That put the euro at 1.3628 dollars compared to 1.3542 the Friday before. Gold in euros would be 480.48 euros an ounce, virtually unchanged from 480.65 for the week. Oil closed at 72.81 dollars a barrel Friday, up 3.0% from $70.68 at the close of the week before. Oil in euros would be 53.43 euros a barrel, up 2.4% from 52.19 for the week. The gold/oil ratio closed at 8.99 Friday, down 2.4% from 9.21 the Friday before. In U.S. stocks, the Dow closed at 13,611.68 Friday, up 1.5% from 13,408.62 at the close of the week before. The NASDAQ closed at 2,666.51 Friday, up 2.4% from 2,603.23 for the week. In U.S. interest rates the yield on the ten-year U.S. Treasury note closed at 5.18%, up five basis points from 5.13 at the end of the previous week.

Oil prices rose last week and the dollar fell against the euro, ending close to historic lows. Hedge funds keep falling prey to the subprime mortgage mess. Yet the U.S. stock market rose and mainstream commentators were looking at halfway decent jobs numbers for June as a sign that all is well with the economy. The only way that could possibly be true would be if the housing drop has bottomed out. As we will see, the chances of that are slim. I think at this point we can ignore the stock market if we are trying to figure out what is coming next. The dollar may be the more important indicator. This week, for example, the Dow, while going up 1.5% in dollars, went down 1.5% compared to oil.

Garbage Bonds & Bonfires

Jim Willie CB

Jul 6, 2007

Holiday

In keeping with the Independence Day holiday, a preface is offered. The irony is stiff as a board, as thick as a fog, as ugly as a pig. Citizens in the Untied States have never seen such a broad, deep, palpable threat to their liberty, this time from within, in terms of the system and its leadership. Dependence, the opposite of the celebrated theme, is running strong. The corporate agenda takes a one-day holiday. Refer to waging war, deceiving the masses, selling out the Middle Class, undermining the institutions, and rendering any threat to systemic reform as anti-business or unpatriotic. Any opportunity for a day off is a good thing, to be honest. If you ask me, somehow this year the nation should skip the holiday. It is one thing to commemorate the fallen soldiers on Memorial Day. However, as national financial catastrophe approaches, sure to shred liberty and compromise sovereignty, it makes sense to skip any festival for independence. How about calling it the Second Labor Day, since some workers toil twice as hard or long for the same wage, and others earn half as much as they used to for the same work. My preference would be to work toward independence from the US Federal Reserve and the US Military, whose monetary inflation and warmongering have enslaved 300 million Americans by destroying the currency and decimating manufacturing base respectively. (Decimate technically means kill every tenth person, but here let's call it sparing every tenth company.) The bipolar alternatives are inconceivable to a sleepy, distracted, materialistic, hedonistic, betrayed, unhealthy, heavily medicated, poorly educated, misinformed public: a fully free bond market backed by gold currency, and an industrial dedication to research & development of products outside of weaponry. Like my top10 ideas for a economic, financial, political solution, not a single item of which stands a chance of enactment, the bipolar path is an exercise in futility and a waste of breath.

So let's celebrate a Dependence Day and hope for a bolt of lightning to save the day from our leaders, who regard the Constitution as a mere piece of paper, who work in a hideous manner to conceal their path toward a totalitarian state, the first stop being the North American Alliance, with a new amero currency sure to set off massive unprecedented controversy and retaliation on an international scale. The teetering dependence is acute, the US needing oil from the Persian Gulf, Nigeria, and Venezuela, offset by Europe needing Russian oil & natural gas. The teetering dependence is acute, the US requiring $3 billion per day in foreign capital, a continuing stream from China, constant flows from the Persian Gulf. The bona fide trouble makers reside in WashingtonDC and a suburban Virginia enclave, causing a rumpus domestically and internationally. They have inflicted terror for a long time…

Double Edged Sword

The title of this article shows full respect for junk bonds. The derogatory label of 'Garbage Bubble Bonds' befits the mortgage bonds, which pale in value by comparison to the respectable tainted paper sold as junk bonds in high yielding securities by companies with a speckled past. Junk bonds do not deserve any insult, since they almost always offer true value behind the bond, just some laden risk and a higher rewarding bond yield for investment return. Mortgage bonds do not, having been born of a bubble intentionally and recklessly created by Greenspan for the unexpressed purpose of covering up his stock bubble bust in 2000. Why is this man revered?

For the last few years, a constant reminder has banged around inside my head, that the housing crisis & mortgage debacle represent a double edged sword, as the households lose valuable home equity while the mortgage bonds lose basic principal value. Kurt Richebächer stresses numerous times in our conversations, that for every homeowner suffering a loss is a bond holder suffering an equal loss. The $22 trillion housing sector is matched by a comparable but lower number of trillion$ in mortgages, perhaps half of which are secured in mortgage bonds. The $750 billion in subprime mortgage bonds is only the tip of the iceberg. Layer upon layer of other asset-backed bonds are in trouble, each with larger size, each with probably less loss, versus the previous layer of higher risk. The point of the double edged sword is that for every loser on the home equity property owner side, one can point to a loser on the mortgage bond investor side. The argument extends to distress, market troubles, and more.

Just as the mortgages have begun to reset to higher adjusted rates (an average of 1.8% to 2.2% higher), the mortgage bonds must next be reset to lower ratings than 'AAA' which stands as an insult to the intelligence of a warm bodied investor with a pulse. Value is not based upon assumptions in a flimsy model. The significantly higher monthly mortgage payments coincide with the massive mortgage bond valuation declines. Just as foreclosure auctions essentially go 'No Bid' with 90% of the home inventory to move, the mortgage bonds have gone 'No Bid' with those auctions in the public view. Bankers and lenders face a tough decision. Soon the cost of portfolio insurance will exceed the loss from their liquidation. Then mortgage bonds will be sold in droves. Correspondingly, soon it might dawn on millions of homeowners that their home equity might go negative. Then marginal property owners will sell their homes in droves. My forecast stands. This housing bear market will be the worst, without any semblance of doubt or dispute when it ends, since World War II and probably since the Great Depression. It will be denied every step of the way, as losses mount for homeowners and bond investors alike. The denial is intended to prevent a housing stampede and bond meltdown.

For years the homestead, the house property has been considered the ultimate inflation hedge asset. Sure, price inflation wrecked havoc in the USEconomy, but the nation of citizens had a home which was rising in value to offset the undermine from inflation. Now the leaders point to still substantial gains in home equity from the last six years when the housing bubble was erected. In two to three years, they will sing a different tune, since most of the gains from the entire six years, nearly $10 trillion in additional home equity, will evaporate. A strong claim. Just watch as it happens. Call me crazy, send me nasty emails, but not a single forecast of mine has been outlandish in hindsight. This devastation will unleash the extraordinary economic recession, the unending bond crisis, the USDollar global upheaval, and the political response. In a matter of several months to a couple years, a growing sense of chaos will take over the landscape. After chaos intensifies, a totalitarian state is a certainty. The cry will be for order, not growth or job preservation. The next painful phase will involve inflationary recession, not stagflation. The powers mismanaging matters of state and banks will hope for stagflation, and not see it except in this falsified statistics.

The USEconomy has already handed its manufacturing base to Asia. Banking officials and economic counselors have leaned upon the residential real estate as foundation for the entire consumption driven economy, against all sacrosanct wisdom in full heretical style. The price to pay will be economic decline, lost wages, a lower standard of living, and rising chaos. People will lose their homes and lose their jobs. People unfortunately will volunteer to forfeit their freedoms in order to maintain order. They will eventually beg for order when the suburbs are invaded. When? Something like by year 2010. What lies around the corner is the end of the United States of America as we know it. The objective of each citizen is to preserve wealth, even to profit from the predictable decline, decay, degeneration, which will affect every aspect of life. The homestead is officially under siege, as are banks. Remember that 40% of all bank assets are tied to mortgage portfolios or mortgage bonds. Japan went underwater for a decade, due to heavy real estate commitment and losses. Expect something similar with the United States…

With lower mortgage bond principal comes higher bond yield. With higher bond yield comes higher mortgage rates. With higher mortgage rates come lower home purchase demand. With lower demand comes lower home prices. The dominoes are falling in ultra-slow motion. With lower home values, less spending results. With lower home values come more decisions to sell properties. With more homes up for sale come an aggravation to inventory strain. With colossal bond damage, related bond and asset sales will ensue. The meltdown is underway. Bear Stearns lit the fire. Wall Street in its infinite stupidity, recklessness, and cliquish behavior endorsed the torching of their colleague's bond basements…

Coercion Next

…Without a doubt the USDollar is the weakest link, as numerous holes must be plugged to in the leaking dike. Gold and silver must be prevented from a zoom rise in price, since they serve as warning signals. Crude oil and natural gas must be prevented from a zoom rise in price, since they directly strain the USDollar. The long-term interest rates must be prevented from jumping higher. The stock market indexes must be prevented from falling sharply, since the public sees stocks as a visible signal of wealth. The USDollar must be prevented from a sudden freefall. The entire Wall Street and US Federal Reserve leadership is in the process of soiling their skivvies. The best investment might be in Depends Adult Diapers. These guys, leverage mechanics in financial engineering, destroyers of economies, snake oil salesmen of cancer ridden asset bonds, they are sweating bullets, pooping their pants, staring into space, stunned by failed auctions and uncertain valuation, wondering about leverage implications and debts called by creditors. These are no longer exaggerations written in tabloids, but rather front page news items.

…The weakest link in the above list of assets to protect is the USDollar. The untold story is that the strain on credit derivatives has put tremendous pressure on the USDollar, which cannot hold. The sale and liquidation of countless billion$ in credit derivatives will deliver a series of unending blows to the USDollar, sure to crack before long. With $120 trillion in notional value for credit derivatives, figure with 30:1 leverage that $4 trillion in original equity tied to margin investment is involved. The FOREX markets (foreign exchange for currency trades) involves between $1 trillion and $1.5 trillion in daily volume, less on holidays and more during crises. We have a crisis building. The USDollar in my view cannot be defended in the face of a credit derivative crisis. Look for coercion next, in the form of threats to those wishing to liquidate vast tranches of bonds. To expect no interweaving of military activity with the coercion would be naïve. It is a certainty. It has past precedent…

Crude Oil As Canary

In the face of a weak link USDollar, a fast eroding Petro-Dollar defacto standard enforced by Persian Gulf principal players, one should expect the crude oil price to hurtle higher. It is doing precisely that. Blame had been put on the Nigerian situation, but that is but a false facade and distorted assessment intentionally given. The links have always been firm between the USDollar and crude oil. The alchemists cannot control them, while at the same time keep their controls in place on the vast price capping required throughout the Western bond world on long-term interest rates…

Gold Awaits

In time, the push upward in crude oil price will be matched by a push upward in the gold price. The two are strongly correlated. A systemic bonfire has been lit, the effects of which will undermine the confidence in the US banking system, the US bond arena, and the USDollar itself. To date, the authorities have succeeded in tossing a wet blanket over the gold market. See the monumental official gold bullion sales out of Europe. But they cannot break gold, which has been successfully defended at the $650 mark. In time, analyses will surface that the entire US banking system is at risk, possibly to repeat the Japanese 1990 decade outcome.

According to Gary Dorsch, policy makers engineered the rise in stock prices in order to cushion the effect of the housing collapse. The problem is, that stocks will most likely not emerge unharmed from a real housing crash.

Global Exodus from the US Dollar in Motion

By Gary Dorsch, Editor, Global Money Trends newsletter

Trading in the arcane world of foreign exchange is often akin to judging a reverse beauty contest. The trick to profitable trading is to pick the least ugly currency. Nearly all fiat or paper currencies are ugly, because the 18 of the world’s top-20 central banks are inflating the money supply at double digit rates. At the moment, the world’s two ugliest currencies are the Japanese yen and the US dollar.

The Bank of Japan pegs its overnight loan rate at just 0.50%, in a brazen effort to devalue the yen, to boost exports abroad, and prevent an abrupt unwinding of the mushrooming “yen carry” trade. Meanwhile the Federal Reserve is inflating its M3 money supply at a 13.7% annualized clip, according to private economists, which if correct, would be the fastest rate of expansion in more than 30-years.

US Treasury chief Henry Paulson, and former chairman of Goldman Sachs, “monitors the financial markets closely,” and has reinvigorated the infamous “Plunge Protection Team,” which comes to the rescue of the US stock market whenever nasty revelations come to the surface. At the moment, Paulson’s grand strategy is to offset losses in the US housing sector with big gains in the stock market, to prevent the US economy from sliding into recession.

A key player in the “Plunge Protection Team” (PPT) is none other than Federal Reserve chief Ben “helicopter” Bernanke. Since the Bernanke Fed discontinued the decades-old reporting of the broad M3 money supply in March of 2006, the growth rate of M3 has accelerated from an 8% rate to a sizzling 13.7% clip, its fastest in more than three decades. The Bernanke Fed is preventing borrowing rates from rising at a time of explosive loan demand for US corporate mergers and takeovers, by rapidly increasing the US money supply.

The Bank of America, Citigroup, and JP Morgan led US loan underwriting in the first half of 2007, which totaled $943 billion, up 5.4% from a year earlier. Global mergers and takeovers soared to an astronomical $2.78 trillion during the first six months of the year, up 51% from a year ago, led by $1.05 trillion in the US alone. Buy-outs by private takeover artists soared 23% to a record high of $568 billion in H’1 2007, with 35% of US takeovers, and 13% of European takeovers financed with debt.

But one sector of the US stock market which has not responded positively to the Fed’s heavy injections of monetary steroids has been the home builders, once regarded as a top bull-market leader from 2003 thru August 2005. The Dow Jones Home Construction Index, a yardstick that measures home builder performance, is off 25% this year, and is flirting with key support at the 525 level, which if penetrated, would be especially bearish.

On July 2nd, Paulson sent a discreet signal to Wall Street power-brokers to avoid dumping the home builders. “In terms of housing, it’s had a significant impact on the economy. No one is forecasting when, with any degree of clarity, that the upturn in housing is going to come, other than it’s at or near the bottom.

The Fed has obscured its money printing operations by discontinuing the reporting of M3, in order to limit the damage to the fixed income markets. But word of the explosive growth of the M3 money supply is slowly leaking out, and taking its toll on the US Treasury Note market, which briefly tumbled to its lowest level in five years in June, lifting 10-year yields as high as 5.30%, before receding back to 5.00%, on a “flight to safety” from the riskiest of the sub-prime home loan market.

Because the US credit markets are swimming in a tidal wave of rising liquidity, there will always be bargain hunters who are happy to park excess cash into the bond market whenever yields surge higher. Asian central banks and Arab Oil kingdoms in particular, have been big buyers of US T-bonds over the past four years, and hold roughly $1.3 trillion of the IOU’s, but even this massive intervention couldn’t turn the tide of the four-year bear market.

But now there are indications that China’s insatiable appetite for US T-bonds is waning. Beijing was a net seller of $5.8 billion of US T-bonds in April, the first drop in Chinese holdings since October 2005, and sparking the recent slide that lifted 10-year yields by 70 basis points, at its high mark. Since Beijing unhinged the dollar from a fixed peg of 8.27 yuan in July 2005, the value of the US 10-year T-note, when converted into yuan, has declined by 15 percent. Earlier today, the dollar slipped to 7.59 yuan, or 8.9% lower since the yuan was freed from the dollar peg…

Bank of England – Pioneer of “Asset Targeting”

Just about every major central bank has a big credibility problem, when it comes to maintaining the purchasing power of its currency. The Bank of England, for instance, has tolerated double-digit growth of its M4 money supply for the past two years. The BoE is the “Group of Seven’s” original pioneer in “asset targeting,” or guiding the stock and real estate markets to higher levels, by injecting excess liquidity into the markets, until asset prices reach the bank’s targeted levels.

The BoE has guided the Footsie-100 from a low of 3,500 in Q’1 of 2003, to a 7-year high above 6,600 this month. But the BoE’s monetary abuse that has taken place over the past few years, is taking its toll on the British debt markets, where the benchmark 10-year gilt fell to a 7-year low in June, lifting its yield to as high as 5.55%, before bargain hunters came out of the woodwork.

“Investors are likely to take advantage of this ample liquidity and the associated easy credit to purchase other assets, driving risk premia down and asset prices up," the BoE said in a February 20th, report for parliament’s Treasury Committee. “In due course, those higher asset prices may be expected to feed through into higher demand for goods and prices, putting upward pressure on the general price level.”

In a speech to mark the tenth anniversary of the central bank’s independence, BoE chief Mervyn King said on May 2nd, “It is unfortunate, if monetary developments are given insufficient attention in the analysis of the inflation outlook. The growth of money and credit may signal in advance of other indicators that the Bank rate is set at a level inconsistent with bringing inflation back to the target in the medium term.

The BoE is well aware of the inflationary consequences of double-digit money supply growth, and London futures markets are pricing in two BoE rate hikes to 6% in the days and months ahead. But the BoE must still overcome stiff political opposition to higher borrowing costs, namely from newly installed prime-minister Gordon Brown. “Rigid monetary rules that assume a fixed relationship between money and inflation do not produce reliable targets or policy,” Brown argued on June 14th.

Such reckless comments by Mr Brown, are reminiscent of his decision to sell off more than half of the UK’s centuries-old gold reserves in May 1999. The decision to sell 400 tons of gold is seen in City circles as a financial bungle on the scale of the Tories’ “Black Wednesday” that cost the taxpayer 3.3 billion pounds. Brown offloaded the gold at a 20-year low in 17-auctions between $256 and $296 /oz, with an average of $275 /oz. Since then gold has risen sharply and stands around $650 /oz.

…Mitigating some of the pressure for sharply higher BoE rates however, is the strength of the British pound, which climbed above the psychological $2 mark last week, for only the second time since 1980. The British pound is being driven higher by widening interest rate differentials moving in its favor, with the Federal Reserve handcuffed by a weakening housing market and a sub-prime loan debacle.

Both the British pound and US dollar are heavily inflated currencies. Both offer large external trade deficits and big budget deficits. While the Fed is inflating its M3 money supply at a 13.7% clip, the Bank of England is inflating its M4 at a 13.9% annualized clip. But the US economy is roughly six times the size of England’s, so in absolute terms, the increase in supply of US dollars is much larger. And with the BoE expected to lift its lending rates to 75 basis points above the US$ rate, the pound is winning this “reverse beauty” contest…

One piece of good news about the lower dollar and lower wages for U.S. workers is that the U.S. is starting to look like a lower cost manufacturing alternative:

VW mulls N. America plant due to dollar weakness

July 7, 2007

FRANKFURT (Reuters) - Volkswagen, the world's fourth-largest carmaker, is considering building a new North American factory if the dollar stays weak, Chief Executive Martin Winterkorn said in an interview with German magazine Focus.

"If the dollar stays at its current level, one has to consider a factory in North America very seriously," Winterkorn said, according to a preview of the interview released on Saturday.

The euro is near an all-time high against the U.S. dollar and Japanese yen, making it harder for European-made cars to compete with those produced in the United States and Japan and causing concern among some euro-zone politicians.

Volkswagen has only one factory in North America currently, in Puebla, Mexico, which manufactures its Jetta and New Beetle cars as well as buses and trucks.

Winterkorn said Volkswagen had not done very well in the United States up to now, and hoped planned new offices away from Detroit, the centre of U.S. auto manufacturing, would bring it closer to U.S. consumers.

Winterkorn also forecast that Volkswagen would produce more than 6 million cars this year, up from 5.7 million in 2006. A goal of 10 percent higher productivity was attainable this year, he added.

The bad news is, with all currencies falling against energy prices, the price of food is rising. Energy is a large input in each step of the food production and distribution process. To make matters worse, more and more food growing acerage is devoted to ethanol production to run cars.

Nestlé chief fears food price inflation

Geoff Dyer

July 5 2007

Food prices are set for a period of “significant and long-lasting” inflation because of demand from China and India and the use of crops for biofuels, according to the head of Nestlé .

Peter Brabeck, chairman of the world’s largest food company, said rises in food prices reflected not only temporary factors but also long-term and structural changes in supply and demand.

“They will have a long-lasting impact on food prices,” he told the Financial Times during a visit to China.

Several food companies have warned about the short-term outlook for prices, but Mr Brabeck’s comments are among the starkest warnings that a long period of rising food prices could stoke broader inflationary pressures.

Mr Brabeck said Nestlé had first forecast higher food prices two years ago and price pressure had become apparent last year.

Corn prices have risen about 60 per cent and wheat about 50 per cent over the last 12 months. Sugar, milk and cocoa prices have also surged, prompting the biggest increase in retail food prices in three decades in some countries.

The Nestlé chairman cited population growth, rising demand from “the phenomena of India and China” and the use of food products by biofuel producers as causes of pressure in international food markets.

Reports from two international organisations this week forecast food price rises of between 20 and 50 per cent over the next decade.

But some analysts believe the long-term risk of higher food prices is exaggerated. Julian Jessop, chief international economist at Capital Economics in London, said biofuels producers would develop technologies that required less raw material or used non-edible parts of food.

“There are good medium-term reasons to think that the biofuels price shock will pass,” he said.

In the United States, the past sixty years has seen low food prices, rising real estate prices, and low import costs (due to a strong dollar). All that seems to be on the verge of a sharp reversal. There are still people alive in the United States who remember the Great Depression, but they are getting fewer with each passing year. The result is that the United States has reached a peak of what Andrew Lobaczewski calls the “hysteroidal cycle.”

During good times, people progressively lose sight of the need for profound reflection, introspection, knowledge of others, and an understanding of life’s complicated laws. Is it worth pondering the properties of human nature and man’s flawed personality, whether one’s own or someone else’s? Can we understand the creative meaning of suffering we have not undergone ourselves, instead of taking the easy way out and blaming the victim? Any excess mental effort seems like pointless labor if life’s joys appear to be available for the taking. A clever, liberal, and merry individual is a good sport; a more farsighted person predicting dire results becomes a wet-blanket killjoy.

…During “good” times, the search for truth becomes uncomfortable because it reveals inconvenient facts. It is better to think about easier and more pleasant things. Unconscious elimination of data which are, or appear to be, inexpedient gradually turns into a habit, and then becomes a custom accepted by society at large.

…Such contented periods for one group of people—often rooted in some injustice to other people or nations—start to strangle the capacity for individual and social consciousness; subconscious factors take over a decisive role in life… Catastrophe waits in the wings. In such times, the capacity for logical and disciplined thought, born of necessity during difficult times, begins to fade. When communities lose the capacity for psychological reason and moral criticism, the processes of the generation of evil are intensified at every social scale, whether individual or macrosocial, until everything reverts to “bad” times. (Andrew Lobaczewski, Political Ponerology, 1st ed., p. 85-6)

That explains a lot about recent history in the United States, not least how a small group of plotters could have assassinated and blackmailed their way into power in the United States with surprisingly little resistance. (It also explains why the U.S. infuriates so many like a privileged child acting foolishly.) As Dr. Lobaczewski said, this takes place at all levels. With this in mind, the following description of mortgage lending in recent years takes on deeper significance:

Why A Changing Lending and Borrowing Ethos Led to the Housing Bubble

Thomas Au

July 6, 2007

Why did house prices go berserk in the past decade? Did American homeowners develop a greater taste for housing, relative to other consumption goods? Was it because of globalization or other macroeconomic factors? Was it a rising ownership culture? Each of these factors played a part, but the main answer appears to be changing behavior of lenders. That’s because it seems that borrowers will borrow as much (for the reasons discussed earlier) as lenders will lend them. This took the form of low (or no) down, low (or no) “doc” loans. In essence, lenders said to subprime borrowers, “Just sign on the dotted line, your credit’s good. If there’s a problem, we’ll just repossess your house and come out whole.”

Why would borrowers do this? Most of them aren’t that financially sophisticated, and therefore mainly rely on the lender for guidance. They don’t typically say, I can afford a house worth X, will you give me a loan for X (or X minus my down payment of Y). More often, they go to lenders and say, here is my income, this is what I can pay a monthly basis, can I afford to buy such and such a house? And they will take the lender’s word for it without making an independent judgment. This seems to extend to all segments of society (present company aside): I’ve spoken with high-paid (non-financial) professionals who weren’t sure what compound interest is.

As a beginning homeowner two decades ago, I tried to avoid this trap, refusing to buy a condo that would have cost almost three times my income (then considered the limit of prudence) in favor of one that cost only half as much, or just over one and a half times income. (Condos and coops have maintenance charges tied to underlying mortgages that effectively raise their true cost.) The cheaper unit was also better sized to my down payment, which thus represented 20%, rather than 10% of the cost. But I (and other thestreet.com subscribers and contributors) am vastly atypical of the general population.

The truth of the matter is that many investors are fairly sophisticated about stocks, but not about bonds. The reason is that stocks can be analyzed as a combination of a bond and a call option. Investors are sensitive to the “optionality” properties of stocks, but not to the fixed income characteristics. Their mentality is “you pay your money and you take your chances” (Punch, 1846). At some level, many investors believe that mortgage writers are “paying their money and taking their chances.” But that’s not how mortgages (or other forms of debt) are supposed to work. Yet lenders recently seemed (by their actions) to ignore this fact, and also encourage borrowers in this regard.

Time was, when a banker’s first responsibility was to protect against loss, because the returns offered by interest would not be enough to compensate for principal loss. If there was any real doubt about the borrower’s creditworthiness, the loan was not made. Over the past few decades, however, the emphasis has shifted to “selling” loans (even though the process is more like bond-buying.) Under this ethos, if there was any doubt about the matter, the loan was made. Only the certifiably insolvent were denied credit. In fact, lenders bent over backwards to “qualify” borrowers who were otherwise unqualified: “To make it possible for you to take out this loan, we’ll give you a two year ‘teaser’ rate that’s much lower than the market rate, thereby putting your monthly payments just within acceptable limits.” The problem was that the loan was affordable only during the “teaser” period, and not over its whole life.

Such adjustable rate mortgages (ARMs) were particularly prevalent in the past five years, and many of them are “re-setting” as we speak. Using index numbers, the rate of ARM resets came into 2007 at about 20, rose to 40 or so in the first half, will climb to around 60 in the second half of this year, and will peak at 100 in the first quarter of 2008. So we won’t know until the middle of next year (one year hence) what the default rate of the peak number of ARM loans will be.

The reason these lending practices occurred was that “slicing and dicing” of mortgages separated the origination (selling), underwriting (credit analysis) and insurance (investment) functions. Mortgage brokers are not bankers, they are loan sales outlets. The “bankers” that fund these loans are in many cases not really performing this function; they are then merely assemblers and packagers of loans for resale to large investors such as hedge funds, which are now essentially writing insurance. This last function used to be performed by private mortgage insurers who actually performed underwriting functions; hedge funds usually don’t. In essence, no one is now taking responsibility for the whole process, so problems can be blamed on someone else in the food chain…

According to Lobaczewski, once the process has gone too far, the only way out is the hard-won wisdom of truly difficult times. Europe experienced the hysteroidal peak a hundred years ago. Much suffering ocurred on that continent for fifty years to burn away the folly. Given what Lobaczewski says about the unconscious elimination and substitution of data, it is not surprising that the United States has refused to learn from the wisdom of the Europeans. Laissez-faire capitalism and preemtive wars: who cares about consequences, about realistic cause and effect? Things will be as we want them to be because we are special and we are powerful!

Then,

When bad times arrive and people are overwhelmed by an excess of evil, they must gather all their physical and mental strength to fight for existence and protect human reason. The search for some way out of the difficulties and dangers rekindles long-buried powers of discretion…

Slowly and laboriously, however, they discover the advantages conferred by mental effort; improved understanding of the psychological situation in particular, better differentiation of human characters and personalities, and, finally, comprehension of one’s adversaries. During such times, virtues which former generations relegated to literary motifs regain their real and useful substance and become prized for their value. A wise person capable of furnishing sound advice is highly respected. (Political Ponerology, p. 88)