Monday, October 15, 2007

Signs of the Economic Apocalypse, 10-15-07

From Signs of the Times:

Gold closed at 753.80 dollars an ounce Friday, up 1.7% from $741.30 at the close of the previous week. The dollar closed at 0.7053 euros Friday, down 0.3% from 0.7074 at the close of the previous Friday. That put the euro at 1.4178 dollars compared to 1.4136 the Friday before. Gold in euros would be 531.67 euros an ounce, up 1.4% from 524.41 for the week. Oil closed at 83.69 dollars a barrel Friday, up 3.0% from $81.22 at the close of the week before. Oil in euros would be 59.03 euros a barrel, up 2.7% from 57.46 for the week. The gold/oil ratio closed at 9.01, down 1.3% from 9.13 at the end of the week before. In U.S. stocks, the Dow closed at 14,093.08 Friday, up 0.2% from 14,066.01 for the week. The NASDAQ closed at 2,805.68 Friday, up 0.9% from 2,780.32 at the close of the week before. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.68%, up four basis points from 4.64 for the week.

Gold continues to rise and the dollar continues its fall. I am no longer surprised that stock prices keep rising. Those prices are not adjusted for the fall in the value of the dollar. They also reflect the ability of corporations to exploit people (profits) and that is increasing. There is little reason to use the stock market as an economic indicator. Ran Prieur puts it this way:

Last night I realized something: The stock market has passed from reality into myth: that is, it is no longer an indicator of how well off we are, but a symbol of how well off we are, exactly the same way Bush is not a strong leader but a symbol of a strong leader. When we ask, "are we in a depression yet?" we look to the stock market, because the Myth says "depression = stock market crash."

So I'm going to go out on a limb and say the stock market will never crash. More precisely, the Dow Jones number will never be seen to take a big fall. They won't let it! Because "they" understand the propaganda value of the Dow, they will find a way to keep it rising forever, or until no one cares. One way they'll do it is by companies buying back their stocks, which the oil companies are already doing, thus raising the price by reducing supply. Another way is through hyperinflation, which the Federal Reserve has been working on for years by printing mountains of new money.

So in five or ten more years, when a gallon of milk costs $400, and we're squatting in abandoned suburbs and eating dogs, Fox News and NPR will still recite the hourly magic spell: "Today the Dow Jones hit an all time high of 156,000..." And those who are caught in the spell will think, "The economy is doing better than ever -- if I work even harder I can get a piece of it."

The New York Times seems to think the stock market will crash, though. The 20-year anniversary of the 1987 crash provides the occasion for uneasy feelings:
The Man Who Won as Others Lost

Landon Thomas Jr.

October 13, 2007

Paul Tudor Jones II leans back in his chair and grins. The stock market is going to crash, and he knows it. “There will be some type of a decline, without a question, in the next 10, 20 months,” he says in his rich Memphis drawl. “And it will be earth-shaking; it will be saber-rattling.”

Coming from a financial speculator as prominent as Mr. Jones, a man with about $19 billion of short-term trading capital at his disposal, the words might be enough to send ripples through a stock market that, apparently defying logic, has been hitting new highs each day.

Except that the crash to which Mr. Jones refers occurred Oct. 19, 1987. His prognostication — brazen, and as impudent as the man himself — was made in a documentary called “Trader,” which was filmed in the year preceding that day.

Now, 20 years after the 508-point decline, several strategists are anticipating that the earth will shake again. Valuations are stretched beyond historical comparisons. The market, ever more volatile, is reaching new highs, ignoring a buildup of bad news. Most crucially, the strategists say, the sentiment that the market’s rise is infinite seems to have taken permanent hold.

“The overvaluation of stocks is more extreme than the 1929 high,” said Robert R. Prechter Jr., an independent market forecaster in Gainesville, Ga., and a well-known follower of Elliott Wave theory, which examines the extent to which investor psychology creates stock market patterns. “Which tells me the next bear market will be the biggest in many years, probably since 1929-32.”

At the end of the day Oct. 19, 1987, stocks were down 22 percent — precisely the “Acapulco cliff dive” predicted by Mr. Jones in the video. The day ruined the careers of many, but it made the reputations of Mr. Jones and Mr. Prechter, whose professional relationship dates to the mid-1980s.

In the video, Mr. Jones can be seen huddled over a graph, comparing the market’s peak in 1987 with a previous high in 1929.

As Elliott Wave theory would have it, the two market tops may have been 60 years apart but the herdlike exuberance of investors pushing stocks ever upward was the same. On Oct. 5, 1987, Mr. Prechter, then and now the best-known proponent of the theory, told his subscribers to sell.

While the rest of Wall Street counted its losses, Mr. Jones, at age 32, returned 200 percent for his investors that year and drew a payday of an estimated $100 million for the year, an almost unheard-of sum at the time.

No one, including Mr. Prechter himself, claims that Mr. Jones relied solely on Mr. Prechter’s call. Indeed, in the video Mr. Jones can be seen as early as 1986 making a case that the market would fall. But the crash did not last long. Prices rebounded the next day, and within two years, the market had regained all that it had lost that day.

Now, Mr. Prechter is suggesting that the country is facing not just a market crash, but also a depression. On every measure, he says, the market is more overvalued than it was in 1987 before the reversal. The price-to-book ratio of the S.&. P 500-stock index today is 4.04, compared with 1.73 in 1987. And measures of the bullishness of Wall Street traders confirm Mr. Prechter’s assessment of the overvaluation…

The Times published the following piece by Robert Schiller the next day:
Sniffles That Precede a Recession

Robert J. Shiller

October 14, 2007

A recession has much the same pattern as the flu — starting with vague feelings of malaise and quickly building in misery until a patient’s activities are drastically curtailed. Then, all too gradually, comes an extended period of recovery, accompanied by lingering symptoms of discomfort.

With the unemployment rate up to 4.7 percent in September from 4.4 percent in March, the economy is feeling a chill. Is it descending into recession?

Most economists seem to be concluding that the current unpleasantness is a false alarm. They point to some good vital signs: the stock market is up, the dollar is cheap, the rest of the world is strong and the Fed is ready to respond.

But there are worrisome symptoms, and they bear close watching. The most important is a creeping sense of malaise that could turn into a general loss of confidence. The downturn in the housing market and the repercussions in financial markets are critical factors.

There have been only two domestic recessions in the last quarter-century — both of them also global recessions. According to the National Bureau of Economic Research dating committee, the first began in July 1990, the second in March 2001.

There were familiar warning signs for both of them — an initial sharp rise in unemployment, followed by slower increases that continued for a couple of years. In each case, as often happens with recessions, there was no agreement that a recession was under way until months after it started.

Diagnosis of a recession is hard because no single virus causes it. Instead, a recession seems to be a result of a confluence of many hard-to-measure factors. A decline in investment spending is typically one of them, and a recession is generally one of those rare events when residential and nonresidential investment both happen to decline together.

In some respects, the current situation looks a lot like the period leading up to the 1990 recession. We were coming out of a housing boom then, and the economy was emerging from an associated lending crisis — the savings-and-loan debacle. Now we are dealing with the subprime mortgage “crisis,” but so far, we have not seen the decline in nonresidential investment that occurred in 1990.

There are also some similarities to the 2001 recession, which likewise followed a huge speculative boom. The bursting of the Internet bubble brought a huge decline in corporate investment, and the 2001 recession helped to cleanse investors of their exaggerated hopes for the stock market, particularly for technology and the dot-coms. A similar cleansing of thinking appears under way regarding the housing market. But residential investment is not as big a component of gross domestic product as nonresidential investment; the decline in the housing market has apparently not yet been enough to push us into recession territory.

Consumer confidence indexes have not yet fallen as they did at the onset of the last two recessions. But confidence is a delicate psychological state, not easily quantified. It is related to the stories that people are talking about at the moment, narratives that put emotional color into otherwise dry economic statistics.

In August 1990, for example, a series of events in the Persian Gulf severely damaged business confidence, and that sequence seems to explain the timing of the 1990 recession. Saddam Hussein started his surprise invasion of Kuwait on Aug. 2, 1990, and the United States began sending jet planes to Saudi Arabia shortly thereafter; the Gulf War abruptly became a virtual certainty. Mr. Hussein asked Muslims around the world to join in a jihad against the forces opposing him. In the United States, people started canceling business trips. August was also the month when intense public conversation began about the economy’s weakness. In a sense, that was when the recession started, not the July date given by the bureau committee.

It is clear that salient, emotion-arousing narratives — those that capture the popular imagination and damage public confidence — are central to the etiology of recessions. As these stories gain currency, they impel people to curtail their spending, both in business and their personal lives.

Is this happening now? A disturbing narrative began to unfold in the last couple of months. People began talking of failed institutions — of the possibility that savings socked away in a money market account might actually be invested in subprime loans and so be lost. There has been fear of locked credit markets, of possible bank failures and runs on banks.

Some of these tales have faded — bank runs no longer seem a risk. But confidence in the economy remains fragile. More shocks are likely as an era of huge real estate speculation apparently ends, with the possibility of further surges in foreclosures and failures of financial institutions.

The narrative is still unfolding, and the extent of its virulence is not yet known.

Robert J. Shiller is professor of economics and finance at Yale and co-founder and chief economist of MacroMarkets LLC.

Speaking of 1987, the following (satirical) piece from The Onion proves that supply-side economics works!
Reaganomics Finally Trickles Down To Area Man

HAZELWOOD, MO—Twenty-six years after Ronald Reagan first set his controversial fiscal policies into motion, the deceased president's massive tax cuts for the ultrarich at last trickled all the way down to deliver their bounty, in the form of a $10 bonus, to Hazelwood, MO car-wash attendant Frank Kellener.

"Back when Reagan was in charge, I didn't think much of him," Kellener, 57, said, holding up two five-dollar bills nearly three decades in the making. "But who would have thought that in 2007 I'd have this extra $10 in my pocket? He may not have lived to see it, but I'm sure President Reagan is up in heaven smiling down on me right now."

Leading economists say Kellener's unexpected windfall provides the first irrefutable proof of the effectiveness of Reagan's so-called supply-side economics, and shows that the former president had "incredible, far-reaching foresight."

"When the tax burden on the upper income brackets is lifted, the rich and not-rich alike all benefit," said Arthur Laffer, who was a former member of Reagan's Economic Policy Advisory Board. "Eventually."

The $10 began its long journey into Kellener's wallet in 1983, when a beefed-up national defense budget of $210 billion enabled the military to purchase advanced warhead-delivery systems from aerospace manufacturer Lockheed. Buoyed by a multimillion-dollar bonus, then-CEO Martin Lawler bought a house on a 5,000-acre plot in Montana. When a forest fire destroyed his home in 1986, Lawler took the federal relief check and invested it in a savings and loan run by a Virginia man named Michael Webber. After Webber's firm collapsed in 1989, and he was indicted on fraud and conspiracy charges, he retained the services of high- powered law firm Rabin & Levy for his defense. After six years and $7 million in legal fees, Webber received only a $250,000 fine, and the defense team went out to celebrate at a Washington, D.C.-area restaurant called Di Forenza. During dinner, lawyer Peter Smith overheard several investment bankers at an adjoining table discussing a hot Internet start-up that was about to go public. Smith took a portion of his earnings from the Webber case and bought several hundred shares in, quadrupling his investment before selling them four months later.'s two founders used the sudden influx of investment capital to outfit their office with modern Danish furniture, in a sale brokered by the New York gallery Modern Now! in 1998. After the ensuing dot-com bust, Modern Now! was forced out of business, and Sotheby's auction house was put in charge of liquidating its inventory. The commission from that auction enabled auctioneer Mary Schafer to retire to the Ozark region of Missouri in 2006. Last month, while passing through Hazelwood, she took her Audi to Marlin Car Wash, where Kellener was one of the employees who tended to her car. She was so satisfied with the job that she left a $50 tip, which the manager divided among the people working that day.

"This money didn't just affect one life," Laffer said. "It affected five."

Prior to joining Marlin Car Wash in 2005, Kellener worked for nearly two decades at a local Ford assembly plant that is now defunct. Before that, he was employed by the FAA as an air traffic controller until his union went on strike and Reagan fired him, along with nearly 13,000 others. This is the largest tip he has received in his professional life.

"I thought Reaganomics was nothing more than a mirage that allowed President Reagan to reward his wealthy support base," Sen. Edward Kennedy (D-MA) said. "But two generations later I am seeing Reaganomics in action, and I like what I see. It just took a little longer than I thought it was supposed to."

The tip has not gone unnoticed by the economic team in the current administration.

"Had Mr. Kellener received that money in 1981, like the Democrats wanted, it would only be worth $4.24 today because of inflation," Treasury Secretary Henry M. Paulson, Jr. said during an official announcement of the economic policy's success at a press conference Monday. "Instead, Kellener has a solid $10 to spend right here and now. The system works, and our current president intends to keep making it work."

Kellener, who has cared for his schizophrenic sister ever since her federally funded mental institution was closed in 1984, said that he plans to donate the full $10 to the Republican presidential candidate who best embodies Reagan's legacy.


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