Signs of the Economic Apocalypse, 7-2-07

From Signs of the Times:

Gold closed at 650.90 dollars an ounce Friday, down 0.9% from $657.00 at the close of the previous Friday. The dollar closed at 0.7384 euros Friday, down 0.6% from 0.7426 at the previous week’s close. That put the euro at 1.3542 dollars compared to 1.3466 the Friday before. Gold in euros would be 480.65 an ounce, down 1.5% from 487.90 for the week. Oil closed at 70.68 dollars a barrel Friday, up 1.0% from $69.14 at the close of the week before. Oil in euros would be 52.19 euros a barrel, up 1.7% from 51.34 for the week. The gold/oil ratio closed at 9.21 Friday, down 3.1% from 9.50 the Friday before. In U.S. stocks, the Dow closed at 13,408.62 Friday, up 0.4% from 13,360.26 at the close of the week before. The NASDAQ closed at 2,603.23 Friday, up 0.6% from 2,588.96 for the week. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 5.03%, down ten basis points from 5.13 at the end of the previous week.

Since Friday was the end of the second quarter of 2007, let’s look at the numbers for the quarter and the year to date. Gold rose 1.9% from 638.80 dollars an ounce for the year so far but fell 2.8% from 669.00 for the second quarter. The dollar fell 2.6% from 0.7576 euros for the year and fell 1.4% from 0.7487 for the quarter. Gold in euros fell 0.7% from 483.98 for the year and 4.2% from 500.86 for the quarter. Oil rose 15.8% from 61.05 for the year and rose 7.3% from 65.87 for the second quarter. Oil in euros rose 12.8% from 46.25 for the year and 5.8% from 49.31 for the quarter. The gold/oil ratio fell 13.6% from 10.46 for the year to date and fell 10.3% from 10.16 for the second quarter. In U.S. stocks, the Dow Jones Industrial Average rose 7.6% from 12,463.15 in the first half of 2007, and rose 8.5% from 12,354.35 during the second quarter. The NASDAQ rose 7.8% from 2,415.29 for the year and rose 7.5% from 2,421.64 for the quarter. In U.S. interest rates, the yield on the ten-year U.S. Treasury note rose 33 basis points from 4.70 for the year to date and 39 basis points from 4.64 for the quarter.

Here are charts of some of the numbers we have been following for the past two and a half years.

The price of oil has been rising steadily and fairly steeply in 2007, rising nearly 16% for the year in dollars. U.S stocks rose 7.6% so far this year and U.S. interest rates have risen significantly, with the 10-year U.S. T-Note gaining 39 basis point during the second quarter of 2007. Gold has treaded water lately, rising about 2% for the year in dollars but down about 3% for the second quarter.

The rise in U.S. interest rates may be the most significant change during the past quarter. The United States and indeed the world has been enjoying a low interest rate environment for more than a decade. Low interest rates have propped up property values world-wide and have alleviated the burden of lower pay in developed countries. With all the debt out there, higher interest rates could easily send the world into a deep recession.

Looking back over two and a half years, nothing cataclysmic has happened in the economy. That conforms to the new paradigm in the derivative era where crises are avoided until… they’re not. And because of the way they were avoided, the correction, when it does come, becomes a cataclysm. The push off the cliff may happen due to forces internal to the economy or through an external shock. It is hard to imagine that we will be as lucky during the next quarter-decade, but in a non-linear environment, predictions are difficult.

Two questions to ask. How long can assets be turned into debt for short-term gain (this is happening at a personal, corporate and governmental level)? How much of the outstanding debt can ever be paid off?

Here are Mike Whitney’s answers:

A Subprime Chernobyl?

The Fed's Role in the Bear Stearns Meltdown

Mike Whitney

The Bank for International Settlements issued a warning last week that the Federal Reserve's monetary policies have created an enormous equity bubble which could lead to another "Great Depression". The UK Telegraph says that, "The BIS--the ultimate bank of central bankers--pointed to a confluence a worrying signs, citing mass issuance of new-fangled credit instruments, soaring levels of household debt, extreme appetite for risk shown by investors, and entrenched imbalances in the world currency system."

The IMF and the UN have issued similar warnings, but they've all been ignored by the Bush administration. Neither Bush nor the Federal Reserve is interested in "course correction". They plan to stick with the same harebrained policies until the end.

The "easy credit" which created the subprime crisis in mortgage lending has now spread to the hedge fund industry. The troubles at Bear Stearns prove that Secretary of the Treasury Henry Paulson's assurance that the problem is "contained" is pure baloney. The contagion is swiftly moving through the entire system taking down home owners, mortgage lenders, banks, rating agencies, and hedge funds. We are just at the beginning of a system-wide breakdown.

The problem originated at the Federal Reserve when Fed-chief Alan Greenspan lowered the Feds Fund Rate to 1% in June 2003 and kept rates perilously low for more than 2 years. Trillions of dollars flowed into the economy through low interest loans creating a massive equity bubble in real estate which drove up housing prices and triggered a speculative frenzy.

The Feds' "easy money" policy has disrupted the "debt-to-GDP" balance which maintains the integrity of the currency. By expanding circulation debt via low interest rates; Greenspan put the country on the path to hyperinflation and, very likely, the collapse of the monetary system.

The problems at Bear Stearns are the logical upshot of Greenspan's policies. The over-leveraged hedge funds are a good example of what happens during a "credit boom". Liquidity flows into the markets and raises the nominal value of all asset classes but, at the same time, GDP continues to shrink. That's because the wages of working class people have stagnated and not kept pace with productivity.
When workers have less discretionary income, consumer spending"which accounts for 70% of GDP"begins to decline. That's why this quarters earnings reports have fallen short of expectations. The American consumer is "tapped out".

The current rise in stock prices does not indicate a healthy economy. It simply proves that the market is awash in cheap credit resulting from the Fed's increases in the money supply. Consumer spending is a better indicator of the real state of the economy than stocks. When consumer spending drops off; it is a sign of overcapacity, which is deflationary. That means that growth will continue to shrivel because maxed-out workers can no longer purchase the things they are making.

The underlying problem is not simply the Fed's reckless increases to the money supply, but the growing "wealth gap" which is undermining solid economic growth. If wages don't keep pace with productivity; the middle class loses its ability to buy consumer items and the economy slows.

The reason that hasn't happened yet in the US is because of the extraordinary opportunities to expand personal debt. The Fed's low interest rates have created a culture of borrowing which has convinced many people that debt equals wealth. It's not; and the collapse in the housing market will prove how lethal that theory really is.
To large extent, the housing bubble has concealed the systematic destruction of America's industrial and manufacturing base. Low interest rates have lulled the public to sleep while millions of high-paying jobs have been outsourced. The rise in housing prices has created the illusion of prosperity but, in truth, we are only selling houses to each other and are not making anything that the rest of the world wants. The $11 trillion dollars that was pumped into the real estate market is probably the greatest waste of capital investment in the nations' history. It hasn't produced a single asset that will add to our collective wealth or industrial competitiveness. It's been a total bust.

The Federal Reserve produces all the facts and figures related to the housing industry. They knew that trillions of dollars were being diverted into a speculative bubble, but they did nothing to stop it. Instead, they kept interest rates low and endorsed the lax lending standards which paved the way for millions of defaults. Now the effects of their "cheap money" policies have spread to the hedge fund industry where hundreds of billions of dollars in pensions and savings are in jeopardy.

Alan Greenspan played a major role in the housing boondoggle. On February 26, 2004, he said, "American consumers might benefit if lenders provide greater mortgage product alternatives to the traditional fixed rate mortgage. To the degree that households are driven by fears of payment shocks but willing to manage their own interest-rate risks, the traditional fixed-rate mortgage may be an expensive method of financing a home."

Greenspan tacitly approved the whacky financing which produced all manner of untested loans"including ARMs, piggyback loans, "no doc" loans, "interest only" loans etc. These loans are a break from traditional financing and have contributed to the increase in bankruptcies.

Millions of people who were hoodwinked into buying homes with "interest-only", "no down" loans will now either lose their homes or be shackled to an asset of decreasing value for the next 30 years. They've been tricked into a life of indentured servitude.

A recent article in the Wall Street Journal revealed the extent of Greenspan's involvement in the housing fiasco. Here's an excerpt from the article:

"Edward Gramlich, who was Fed governor from 1997 to 2005, said he proposed to Mr. Greenspan in or around 2000, when predatory lending was a growing concern, that the Fed use its discretionary authority to send examiners into the offices of consumer-finance lenders that were units of Fed-regulated bank holding companies.

"I would have liked the Fed to be a leader" in cracking down on predatory lending, Mr. Gramlich, now a scholar at the Urban Institute, said in an interview this past week. Knowing it would be controversial with Mr. Greenspan, whose deregulatory philosophy is well known, Mr. Gramlich broached it to him personally rather than take it to the full board.

"He was opposed to it, so I didn't really pursue it," says Mr. Gramlich.

"Still, Mr. Greenspan's views did color the regulatory environment, facilitating growing concentration in banking and a hands-off approach to derivatives and hedge funds. That approach, broadly shared by both the Clinton and Bush administrations, is coming under increased scrutiny". (Wall Street Journal)

So, Greenspan had the chance to "crack down on predatory lending" and he refused. Now millions of low income people are saddled with payments they have no reasonable prospect of paying off. How much of the present carnage could have been avoided if he had Greenspan done the right thing?

The "Not So Great" Depression

An article appeared this week in the UK Telegraph by Ambrose Evans-Pritchard which supports the theory that Greenspan's "loose monetary policy" fueled a huge credit bubble, which is pushing the global economy towards a "1930s-style slump."

The article quotes from a statement made by The Bank for International Settlements:"Virtually nobody foresaw the Great Depression of the 1930s, or the crises which affected Japan and Southeast Asia in the early and late 1990s. In fact, each downturn was preceded by a period of non-inflationary growth exuberant enough to lead many commentators to suggest that a 'new era' had arrived".

But today we face "worrying signs" of another economic meltdown.

The BIS said that they were "starting to doubt the wisdom of letting asset bubbles build up on the assumption that they could safely be cleaned up' afterwards". (Greenspan's method) and that, "while cutting interest rates in such a crisis may help, it has the effect of transferring wealth from creditors to debtors and sowing the seeds for more serious problems further ahead.'"

"The bank said it was far from clear whether the US would be able to ignore the consequences of its latest imbalances, ($800 billion per year) citing a current account deficit running at 6.5% of GDP, a rise in US external liabilities by over $4 trillion from 2001 to 2005, and an unprecedented drop in the savings rate. The dollar clearly remains vulnerable to a sudden loss of private sector confidence."'

The BIS referred to the toxic effect of the "$470 billion in collateralized debt obligations (CDO), and a further $524 billion in "synthetic" CDOs which have spread through hedge funds industry. These CDOs are the loans (many sub primes) which were bundled off to Wall Street and turned into securities which are highly leveraged in hedge funds for maximum profitability. As Bear Stearns is discovering, these CDOs are like roadside bombs; exploding without notice whenever the stock market suddenly dips.

The BIS also cautioned about the excess of "leveraged buy-outs (mergers) which touched $753bn, with an average debt/cash flow ratio hitting a record 5.4--. Sooner or later the credit cycle will turn and default rates will begin to rise.'"

The central banks around the world are increasingly worried that the Bush administration's profligate spending and irrational monetary policies will trigger a global depression. The recent volatility in the stock market suggests that the credit boom is just about over. Once the liquidity dries up---stocks will fall sharply.

The Housing Slump

Yesterday's housing data, shows that sales are still weak while inventory continues to grow. Existing home sales dropped 3% while prices dropped another 2.1%. Falling prices mean that cash-strapped home owners will not be able to tap into their home's equity for other expenses. Last year, mortgage equity withdrawals (MEWs) accounted for $600 billion of consumer spending. This year, the amount will be negligible at best.

The media and the Fed continue to mislead the public about the magnitude of the housing bubble. Fed chief Bernanke assures us that the sub prime calamity hasn't "spread to other parts of the economy" (tell that to Bear Stearns) and the media keeps cheerily reiterating that a "turnaround" or "soft landing" is just ahead.

These claims are ridiculous. Apart from the 80 or more sub-prime lenders that have gone "belly-up" in the last few months, the rickety collateralized debt obligations (CDOs) and mortgage backed securities (MBSs) are steamrolling their way through the stock market bowling down everything their path. Bear Stearns is just the first on the casualties list. There'll be many more before the storm is over.

Fed-chairman Bernanke knows what's going on. He was given a full rundown by "John Burns Real Estate Consulting that the national sales information for both new and existing homes, is "misleading and covering up a deep plunge of the housing sector." The housing market is freefalling. Existing-home sales are down 22% in May and mortgage applications have fallen a whopping 18%....In Florida home sales are down 34%, not 28% as NAR reported; Arizona sales are down 38%, not 28%; and California's down 37%, not 24% as NAR reports."

Down 37% in California!?! It's a landslide.

As the defaults continue to pile up; the hedge funds will take a bigger and bigger pounding. It can't be avoided. That's what happens when bankers abandon traditional lending standards and lend trillions of thousands of dollars to people who have bad credit and lie on their loan applications.

Thousands of these same shaky sub primes loans have been wrapped up like the Crown Jewels and sold off to Wall Street as CDOs. Now they are ripping through the hedge fund industry like a tornado in a trailer park. The media has tried to downplay the damage, but its not hard to see what is really going on. According to Reuters:

"Banks doubled the amount of CDOs outstanding in the past two years to $2.6 trillion, including a record $769 billion sold last year, according to J.P. Morgan. These figures include funded and unfunded issuance. Pimco's Bill Gross said there are hundreds of billions of dollars of subprime residential mortgage-backed securities (RMBS), derivatives on subprime RMBS and collateralized debt obligations (CDOs) that buy subprime RMBS and/or the derivatives on the RMBS -- all of which he considers "toxic waste."'

"$2.6 trillion"! That's enough to bring down the whole economy. And, as Bear Stearns proves, the whole mess is beginning to unwind pretty quickly.

"Foreign investors have been the dominant buyers of these exotic debt instruments in recent years, owing to their insatiable demand for yield. If investors start dumping them, oh boy, watch out for some massive credit widening," said Dan Fuss, Vice Chairman at Loomis Sayles. (Reuters)

If the hedge fund industry follows the downward slide of the housing bubble, foreign investors will run for the exits. In fact, this may already being happening.

China sold $5.8 billion in US Treasuries in May; the first time they have dumped USTs on the market. This may be the first sign of "capital flight"---foreign investment fleeing the US for more promising markets in Asia and Europe. The greenback's survival now depends on the generosity of foreign bankers. If they refuse to recycle our $800 billion current account deficit by purchasing US bonds and securities, then the dollar will sink like a stone and lose its place as the world's reserve currency.

More Housing Blowdown

Last Friday, the stock market took a 185-point nosedive on the news that Bear Stearns was trying to raise $3.2 billion to rescue its battered hedge fund.

According to the New York Times, however, Bear was only able to came up with "$1.6 billion in secured loans to bail out one of the 2 hedge funds".

The funds are the latest victim of the sub-prime meltdown which Bernanke and Paulson assured us was "largely contained". In fact, Paulson even said, "We have had a major housing correction in this country," and "I do believe we are at or near the bottom."

Anyone who believes Paulson should take a look this chart It illustrates that how loan "resets" will continue to pound the housing market for at least another year and a half getting steadily worse as inventory grows.

The disaster is so bad that even the realtors are beginning to tell the truth. As one agent noted, "It's a bloodbath."

But the debacle in housing is only the first part of a much larger problem"a global liquidity crisis. Banks and mortgage lenders have already begun to tighten up their lending practices and many have abandoned sub prime loans altogether. (20% of the housing market in 2006 was sub prime) Now the focus has shifted to the stock market, where banks are beginning to see that "risk" has not been properly calculated. That means that if more hedge funds collapse, the banks may not be able to cover the losses.

The Bear Stearns fiasco has had a chilling affect on lending. In fact, the New York Times reported on 6-26-07 that "After years of supersize private equity deals--the buyout boom may be about to hit a bump--Rising interest rates and tougher terms from investors may signal that private equity players will soon be struggling to continue reaping the outsize returns that have made the buyout business so lucrative." (Private Equity Investors Hint at Cool Down" NY Times)

Liquidity is drying up in the private equity business. The troubles at Bear Stearns has changed the credit-landscape overnight. Bankers are nervous, money is getting tighter, and liquidity is vanishing.

"We know that these holdings are not unique to Bear Stearns," said Professor Joseph R. Mason, co-author of a recent study warning of dangers in securities backed by home loans to high-risk borrowers. "It would be hard to find a Wall Street firm that hasn't created similar funds."

That's right; the industry is waist-deep in these sub-prime time-bombs. Shaky loans and rising foreclosures threaten to knock the foundation blocks out from under the stock market and set off a wave of panic selling.

Could it have been avoided?

Perhaps, if there were better regulations on rating bonds and restricting leverage.
Consider this: one of Bear Stearns hedge funds took a $600 million investment and leveraged it 10 times its value to $7 billion. Their portfolio was chock-full of dicey CDOs and "illiquid assets" such as timber holdings in foreign countries and toll roads. These assets are difficult to price and nearly impossible to quickly auction off if the market suddenly takes a downturn.

It looked like Merrill Lynch & Co., was going to auction off $850 million of Bear Stearns CDOs this week, but backed off at the last minute. (They were reportedly only offered 30 cents on the dollar!) Once the hedge funds start selling these CDOs, then everyone will know how little they're worth. That could trigger a wave of selling that could bring down the stock market. Even if that scenario doesn't play out, the Bear Stearns incident ensures that CDOs in other hedge funds will be face a substantial downgrading that could take a big chunk out of their bottom line.

And, there's a bigger fear on Wall Street than the fact that 2 hedge funds are headed into bankruptcy, that is, that a sudden tightening of credit will send the over-leveraged stock market into a downward spiral.

The market is particularly sensitive to any rise in interest rates or tougher lending standards. It's become addicted to cheap credit and any break in the chain will cause equities to plummet.

Economist Henry C K Liu sums it up like this:

"The liquidity boom has been delivering strong growth through asset inflation without adding commensurate substantive expansion of the real economy. --. Unlike real physical assets, virtual financial mirages that arise out of thin air can evaporate again into thin air without warning. As inflation picks up, the liquidity boom and asset inflation will draw to a close, leaving a hollowed economy devoid of substance. --A global financial crisis is inevitable". (Henry C K Liu "Liquidity boom and looming crisis" Asia Times)

In other words, the "virtual" wealth of Wall Street is a chimera which was created by the Fed's inexorable expansion of debt. It can vanish in a flash if the sources of liquidity are cut off.

Puru Saxena draws the same conclusion in his article "A Gradual Transition":

"Thanks to the Federal Reserve's expansionary monetary policies over the past 5 years, US asset-prices have risen considerably; also known as the "wealth effect". At the end of last year, the market capitalization of the US stock market rose to a record-high of US$20.6 trillion, matching the value of household real-estate, which also rose to a record-high at the same time. On the surface, this may seem like brilliant news, however you must realize that this "wealth illusion" achieved by an ocean of money and record-high indebtedness is only a consequence of inflation.

Code Red: Subprime Chernobyl

We expect that the mounting losses in CDOs and the continuing defaults in the housing industry will precipitate a "severe credit crunch" which will end in a stock market crash. A report which appeared yesterday in the UK Telegraph appears to agree with this analysis. Lombard Street Research predicted that:

"Excess liquidity in the global system will be slashed. Banks Capital is about to be decimated, which will require calling in a swathe of loans. This is going to aggravate the US hard landing"' ("Banks set to call in swathe of loans" UK Telegraph 6-26-07)

Three of the main hoses which provide liquidity for the market, have either been cut off or severely damaged. These are "securatized" subprime CDOs, corporate mega-mergers and hedge fund leveraging. Without these instruments for expanding debt; liquidity will dry up and stocks will fall. The period of "easy credit" will end in disaster.

We should now be able to see the straight line that connects the Fed's low interest rates to the impending stock market meltdown. The problems began at the central bank.

Presidential candidate Rep. Ron Paul (R-Texas) summed it up best when he said:

"From the Great Depression, to the stagflation of the seventies, to the burst of the dot.com bubble; every economic downturn suffered by the country over the last 80 years can be traced to Federal Reserve policy. The Fed has followed a consistent policy of flooding the economy with easy money, leading to a misallocation of resources and artificial "boom" followed by recession or depression when the Fed-created bubble bursts".

Signs of the Economic Apocalypse, 6-11-07

From Signs of the Times:

Gold closed at 650.30 dollars an ounce Friday, down 4.1% from $676.90 at the close of the previous Friday. The dollar closed at 0.7478 euros Friday, up 0.6% from 0.7435 at the previous week’s close. That put the euro at 1.3373 dollars compared to 1.3449 the Friday before. Gold in euros would be 486.28 euros an ounce, down 3.5% from 503.31 for the week. Oil closed at 64.76 dollars a barrel Friday, down 0.5% from $65.08 at the close of the week before. Oil in euros would be 48.43 euros a barrel, up less than 0.1% from 48.39 for the week. The gold/oil ratio closed at 10.04 Friday, down 3.6% from 10.40 at the close of the previous Friday. In U.S. stocks, the Dow closed at 13,424.39 Friday, down 1.8% from 13,668.11 at the close of the week before. The NASDAQ closed at 2,573.54 Friday, down 1.6% from 2,613.92 for the week. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 5.11% Friday, up 16 basis points from 4.95 for the week (and up 25 basis over the past two weeks).



Big moves in the markets last week. The Dow lost a lot of ground through Thursday, but regained some on Friday to close down less than 2% for the week. But gold dropped 4% and the ten-year T-note rose to 5.11%. Something seems to be up but what is it? It seems that second quarter growth in the U.S. will be higher than the sluggish first quarter. That could lead to higher U.S. interest rates, as could the quiet moves away from U.S. Treasury paper by other countries’ central banks. Which could lead to lower gold prices (higher interest rates make currencies more valuable). But the strength of the swings are worrisome.

European stocks, which had been doing very well lately, were rocked by a “three-alarm” sell recommendation by Morgan Stanley:

Morgan Stanley's 3-Alarm Sell Signal
The firm issues a "full house" warning on European equities, fueling big declines in stock markets Wednesday

Will Andrews

June 6, 2007, 2:40PM EST

There have been a number of bearish analyst calls on stocks amid the recent global stock rally, but it took a three-alarm warning from Morgan Stanley on European equities to catch investors' attention. The note, which was released June 4 but didn't seem to attract the market's attention until June 6, helped spark a big sell-off during the European session and also contributed to big declines on Wall Street, with the Dow Jones industrial average down over 150 points at one point. The Nasdaq and S&P 500 indexes were both off about 1% in afternoon trading.

Indeed, major European indexes, buffeted by interest rate worries after the European Central Bank raised its benchmark interest rate by a quarter point to 4% on June 6, took a big hit. London's FTSE 100 index fell 1.7%, as did the CAC-40 index in Paris. The Dax index in Frankfurt suffered the worst damage on the day, falling 2.4%.

What caused all the fuss? In the note from the firm's chief European equity strategist Teun Draaisma and other Morgan Stanley staff analysts, the company issued a "Full House" sell signal on European equities. "[W]e now have a tactical sell signal as rates are rising and hitting critical levels." The firm pointed to signals from three indicators: A fundamentals indicator, which tripped because of higher bond yields and higher new orders from manufacturers in the U.S, and existing sell signals on its valuation and risk indicators.

"Such a full house sell signal across these three indicators is rare, and has occurred only five times since 1980", the firm said. Equities have always been down in the next six months following such signals, according to Morgan Stanley, on average by 15%, with previous occasions including September, 1987, and April, 2002. "We now have the choice – jump on the strong momentum, or play the odds that our models give us," the firm said in the report. "We prefer to be on the right side of those odds."

Morgan Stanley strategists concurred with some recent thinking on the market: "Yes, we agree that the economy is fine, large caps are cheap and M&A is buoyant." But Morgan Stanley argues that at this stage of bull markets, larger corrections become more frequent, caused by little changes in the macroeconomic environment.

The strategists hedged a bit, noting that cautious investor sentiment can negate a valuation sell signal. "One explanation why our models haven't worked yet in the last few weeks is sentiment: arguably the wall of worry is still being climbed." The firm said its indicators are suggesting an equity market correction, and it is expecting one. "We remain neutral equities, overweight cash, underweight bonds, and continue to have a preference for large caps."

While Morgan Stanley's call on European stocks took a dramatic turn, its view on U.S. equities remains unchanged. In a June 4 note, chief U.S. strategist Henry McVey said there had been no change to the company's U.S. asset allocation. "Despite the additional upside we are forecasting, we do not believe that now is the time to pile into equities." For the U.S., Morgan Stanley continues to have an equal weight rating on stocks, at 65% of its recommended portfolio, while it is overweight cash (10%), and underweight bonds (25%).

Chris Burba, a technical market strategist for Standard & Poor's, says the MS note was a contributing factor to Wall Street's June 6 sell-off. While there may have been some initial confusion as to whether Morgan Stanley was making its call for Europe exclusively or for other markets, Burba notes that "even if it's just for Europe it's still worrisome for U.S. investors." Burba points to other factors weighing on U.S. stocks, including a recent uptick in interest rates and worries about Federal Reserve rate hikes later this year. (S&P, like BusinessWeek.com, is a unit of The McGraw-Hill Cos.

European media were a bit late to the party, but they jumped in head first Wednesday as the "Full House" note circulated more widely. "Morgan Stanley has advised clients to slash exposure to the stock market after its three key warning indicators began flashing a 'Full House' sell signal for the first time since the dotcom bust" wrote London's Daily Telegraph on June 6.

A Morgan Stanley spokesman confirmed to BusinessWeek that the sell signal was targeted at European equities. Some of the confusion in other markets may have resulted from early media reports about the release of the note, which "blew things out of proportion," said the Europe-based spokesman, who declined to be identified because of firm policy.

With global equity investors nervous after recent big gains – and more worried about rising inflation and interest rates – a big bearish call from anywhere can spark a rush to the exits.

In the U.S. stocks rose Friday after a week-long selloff. According to some analysts, the selloff and the rise on Friday were both related to the drop in bonds (meaning higher yields or interest rates). Higher interest rates can mean lower corporate profits. So dropping stock prices. Or, higher interest rates indicate a strong economy, and higher profits, so stock prices go up:

Stocks still have room to extend rally

Herbert Lash

Fri Jun 8, 7:09 PM ET

NEW YORK (Reuters) - Stocks could move higher next week after a bond market rout led investors to wonder if the threat of inflation was on the horizon or if the economy was actually stronger than expected, and good for stocks.

Major stock market gauges recovered on Friday after a bond sell-off pushed the benchmark 10-year U.S. Treasury note's yield up to 5.25 percent -- matching the fed funds rate target at one point -- from levels below 5 percent a week ago. That jump in government bond yields rattled investors who, skittish about a bull market that has lasted longer than most, worry that rising capital costs will cut corporate profits.

Around midday on Friday, stocks began rallying as the 10-year note's yield retreated to around 5.11 percent.

Friday's recovery after a three-day slide is a good indication of where the market is headed as investors realized they overreacted to a spike in market interest rates, said David Joy, market strategist at RiverSource Investments.

"Interest rates are where they should be, and we haven't had any inflation. This a little adjustment to a new level of rates, a level that the stock market doesn't have a problem with," Joy said.

The blue-chip Dow Jones industrial average climbed 157.66 points, or 1.19 percent, to end Friday's session at 13,424.39. The broad Standard & Poor's 500 index gained 16.95 points, or 1.14 percent, to finish at 1,507.67. The Nasdaq Composite Index advanced 32.16 points, or 1.27 percent, to close at 2,573.54.

Falling oil prices on Friday also helped the major U.S. stock indexes rebound. U.S. crude oil for July slid $2.17 to settle at $64.76 a barrel on the New York Mercantile Exchange. For the week, NYMEX July crude fell 32 cents.

For the week, though, the effects of the pullback were visible, with the Dow average ending down 1.78 percent, the S&P 500 falling 1.87 percent and the Nasdaq losing 1.54 percent.

For the year so far, however, the Dow is still up 7.71 percent, while the S&P 500 is up 6.30 percent and the Nasdaq is up 6.55 percent.

With memories of the dot-com bust still fresh, many investors are cautious and trying to identify an inflection point, Joy said. But stronger growth, absent inflationary pressures, is good for stocks, he said.

"The bond market has realized rates should be a little higher, given how strong the economy is," he said.

In other news, the media took notice of a troubling recent trend. The super-rich buying massive tracks of land in South America. Why are they doing this? To secure fresh water sources? To have a place to sit out the next ice age? To set up their own kingdoms in a post-war or post apocalyptic world? The following article that drew attention to the phenomenon raises many questions and answers few. It also highlights the sinister undertones of the world conservation movement:

American buys slices of South America

Shane Romig

Jun 9, 7:25 PM ET

LOS ESTEROS DEL IBERA, Argentina - Associated Press

The American multimillionaire who founded the North Face and Esprit clothing lines says he is trying to save the planet by buying bits of it. First Douglas Tompkins purchased a huge swath of southern Chile, and now he's hoping to save the northeast wetlands of neighboring Argentina.

He has snapped up more than half a million acres of the Esteros del Ibera, a vast Argentine marshland teeming with wildlife.

Tompkins, 64, is a hero to some for his environmental stewardship. Others resent his land purchases as a foreign challenge to their national patrimony.

In an interview with The Associated Press, Tompkins said industrialized agriculture is chewing up big chunks of Argentina's fragile marshland and savanna, and that essential topsoil is disappearing as a result.

"Everywhere I look here in Argentina I see massive abuse of the soil ... just like what happened in the U.S. 20 or 30 years ago," he said.

Tompkins hopes to do in Argentina what he did in Chile — create broad stretches of land protected from agribusiness or industrial development, and one day turn them over to the government as nature reserves.

Wealthy foreigners have bought an estimated 4.5 million acres in Argentina and Chile in the past 15 years for private Patagonian playgrounds. Sylvester Stallone, Ted Turner and Italian fashion designer Luciano Benetton all have large holdings set amid pristine mountains and lakes.

So, too, has the Bush family in Paraguay. Why did they not mention this?

Tompkins was among the early ones, buying a 35-mile-wide strip of Chile from a Pacific coastal bay to the country's Andean mountain border with Argentina. He said his purchases were intended specifically to protect the environment.

Argentine officials took notice and eagerly courted Tompkins' philanthropy, flying him to several areas of ecological significance in the late 1990s — when the government was strapped for cash because of the economic crisis.

"The land conservation budget was burning a hole in our pocket," Tompkins said.
He bought a 120,000-acre ranch in 1998 and has increased his Argentine holdings to nearly 600,000 acres since then. He now owns well over 1 million acres in Chile and Argentina, a combined area about the size of Rhode Island.

The financial details of the transactions were not disclosed because they were private deals between Tompkins and landowners. There was no major opposition to the deals initially because Tompkins bought the land parcels gradually, keeping a low profile.

Critics now weave many conspiracy theories, accusing Tompkins of seeking control of one of South America's biggest fresh water reserves, and worrying that he might never cede the lands to the state.

"These lands should not belong to an individual, much less a foreigner," said Luis D'Elia, who argues the American could gain "control of resources that are going to be scarce in the future, like water."

Tompkins' Argentine holdings sit atop the huge Guarani Aquifer, which extends north into Paraguay.

Last year, D'Elia, then a minister in Argentina's left-leaning cabinet, accused Tompkins of blocking access to public roads and cut through some locked gates to the land trust's property.

"He blundered in cutting the provincial road, the only access for the people living in the area," D'Elia argued.

This month lawmakers in Corrientes province, where the wetlands are located, modified the local constitution to block foreigners from buying land considered a strategic resource. The law appeared to target any new attempts by Tompkins to increase his holdings.

Tompkins responded in an e-mailed statement from his publicist that such changes would be unconstitutional and likely trigger legal challenges.

Jose Luis Niella, a Catholic priest and social activist, said many poor people no longer have access to lands where ancestors lived freely for generations. "It's not fair for him to be concerned only with protecting the environment," Niella said.

In Chile, independent Sen. Antonio Horvath said the Chilean government must have final say on land usage, complaining that Tompkins' purchases were "effectively splitting the country in two."

Opposition lawmakers in both countries have sought unsuccessfully to expropriate Tompkins' purchases or put limits on extremely large landholdings.

The Argentine wetlands remain wild for now, with marsh deer feeding on tall grasses, families of capybaras splashing through the muddy water and caymans sunning themselves on the banks of small islands. An ostrich-like nandu tries to peck its way in through a screen door at one of the eco-tourism lodges opened for visitors in three renovated ranch houses.

Tompkins' Conservation Land Trust recently released its first anteater into the wild and wants to reintroduce otters and even jaguars.

Tompkins shrugs off the protests.

"If you had to go to bed every night thinking about every accusation that would come up the next day, you'd be consumed," he said. "Some of that stuff is laughable. ... You've just got to live with that and focus on the things you're doing."

Tompkins insists he'll eventually return the land to both governments to be preserved as nature reserves or parks, but will hold onto it for now "as a very good example of what private conservation can do."

Finally, more evidence that former Federal Reserve Board chairman, Alan Greenspan, deliberately encouraged the housing bubble just like he did the dot com stock bubble. We have known for a long time that he encouraged borrowers to take risky variable rate, low initial payment mortgages. He did this publicly at the time. Now we find out that he blocked any Fed oversight of shady lenders:

Greenspan nixed idea of subprime crackdown: paper

Sat Jun 9, 6:03 PM ET

CHICAGO (Reuters) - Alan Greenspan, when chairman of the Federal Reserve, brushed off an idea to boost scrutiny of subprime mortgage lenders, a former Fed governor told the Wall Street Journal.

In an interview published on Saturday, Edward Gramlich, who was a Fed governor from 1997 to 2005, said he proposed to Greenspan in or around 2000 that the Fed start sending examiners into the offices of consumer-finance lenders that were units of Fed-regulated banks.

"He was opposed to it, so I didn't really pursue it," said Gramlich, who said he raised the idea with Greenspan personally rather than going to the full board of governors.

Gramlich is now a senior fellow at the Urban Institute, a nonpartisan Washington-based research group.

Greenspan, who retired from the Fed in early 2006, told the Journal he did not recall a specific discussion on subprime lenders but would have been opposed to a crackdown.

"For us to go in and audit how they act on their mortgage applications would have been a huge effort, and it's not clear to me we would have found anything that would have been worthwhile," Greenspan said.

Subprime loans, typically made to borrowers with poor credit histories, have hurt the U.S. mortgage market in recent months as higher interest rates led to rising defaults and delinquencies.

Under new Chairman Ben Bernanke the Fed has started reviewing its oversight of holding-company units.

Signs of the Economic Apocalypse, 4-30-07

From Signs of the Times:

Gold closed at 684.70 dollars an ounce Friday, down 1.6% from $695.80 at the close of the previous Friday. The dollar closed at 0.7325 euros Friday, down 0.5% from 0.7359 at the previous week’s close. That put the euro at 1.3652 dollars compared to 1.3589 the Friday before. Gold in euros would be 501.54 euros an ounce, down 2.1% from 512.03 for the week. Oil closed at 66.46 dollars a barrel Friday, up 3.7% from $64.11 at the close of the Friday before. Oil in euros would be 48.68 euros a barrel, up 3.2% from 47.18 for the week. The gold/oil ratio closed at 10.30 Friday, down 5.3% from 10.85 at the close of the previous Friday. In U.S. stocks, the Dow closed at 13,120.94 Friday, up 1.2% from 12,961.98 for the week. The NASDAQ closed at 2,557.21 Friday, up 1.2 % from 2,526.39 at the end of the week before. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.69%, up two basis points from 4.67 for the week.

There were more troubling signs for the U.S. economy last week in spite of record-high stock prices. GDP growth weakened sharply and the dollar hit a record low against the euro. And, not only did growth stall, but prices went up as well:

GDP growth weakest in four years

By Glenn Somerville

Fri Apr 27, 12:11 PM ET

WASHINGTON (Reuters) - Economic growth during the first quarter was the weakest in four years, hurt by a slumping housing market and deteriorating international trade, the Commerce Department reported on Friday.

At the same time, one price gauge in the GDP report posted its biggest jump in 16 years, sending a jolt of fear through financial markets that official interest rates will stay high.

Gross domestic product or GDP, which measures total goods and services output within U.S. borders, increased at a weaker-than-expected 1.3 percent annual rate in the three months from January through March.

That was half the fourth quarter's 2.5 percent rate and well below the 1.8 percent that Wall Street analysts had forecast. Vital consumer spending held up relatively well but there were signs in a later report that costlier gasoline and lower housing prices might cast a shadow on the outlook.

The Reuters/University of Michigan Surveys of Consumers sentiment index showed a reading of 87.1, down from 88.4 in March and the lowest in seven months. It was the third straight monthly fall in the index but the final April reading was not as low as forecast.

The U.S. economy powered ahead at a 5.6 percent rate in the first quarter of 2006, but has been slowing in recent months as a hard-hit housing sector has led to rising defaults and caused builders to scale back until inventories are reduced.
Residential spending shrank by 17 percent in the first quarter following declines of 19.8 percent in the fourth quarter and 18.7 percent in the third quarter last year.

The dollar continued its fall:

Dollar sinks to record low vs euro

By Kevin Plumberg

Fri Apr 27, 6:00 PM ET

NEW YORK (Reuters) - The dollar dropped to a record low against the euro on Friday after the weakest reading of U.S. economic growth in four years suggested the economy could be at danger of falling behind the rest of the world.

For the first time since its launch in January 1999, the euro rose above $1.3680 and was on track for its largest monthly gain since November.

Against the yen, the euro zone currency climbed to an all-time high above 163 yen, as solid expectations for economic growth in Europe contrasted with the mediocre pace of expansion in the United States and Japan.

Growth in U.S. gross domestic product was below its long-term trend for the fourth consecutive quarter in the first three months of the year, while a measure of inflation posted its largest rise in 16 years.

The data did little to shake the view among investors that the Federal Reserve will likely have to cut U.S. interest rates at least once this year, compared with forecasts for higher rates in the euro zone and Britain, among others, thereby reducing the relative appeal of U.S. fixed-income assets…

MORE OF THE SAME

The weakening dollar in the face of economic strength in Europe and Asia independent of U.S. demand unearthed the greenback's long-term enemies -- diversification of dollar-denominated central bank and portfolio holdings and concerns about financing the U.S. current account deficit.

"The U.S. is still trying to fund a $200 billion-plus quarterly current account deficit but the new twist is that growth has moved to a sub-2 percent pace," said Brian Garvey, senior currency strategist with State Street Global Markets in Boston.

"This could serve as a wake-up call to foreigners who have recently shown an increasing appetite for U.S. equities and U.S. corporate bonds," he said in a research note.

U.S. financial markets need to attract $3 billion every working day to cover the outflow of money due to the world's largest economy's trade deficit.

Next week, investors will have a steady flow of U.S. economic data to measure the dollar against. In particular, investors will likely focus on the March core PCE price index -- the Fed's favored gauge of inflation -- due on Monday and the monthly payrolls report due on Friday.

Significantly lower-than-expected jobs growth could seal the near-term fate of the struggling U.S. dollar.

"The new kid on the block is the potential for a weak labor market," said a money manager with a large currency overlay manager in London. "There's more dollar weakness to go."

It is increasingly clear that the United States’s economy is heading towards recession (at least), the rest of the world has been doing extremely well. The question becomes, will a collapsing dollar and a crashing U.S. domestic economy bring the rest of the world down with it, or will the rest of the world be able to cushion the impact?

After strong growth, world economy at a “turning point”

Nick Beams

24 April 2007

The latest reports on the state of the world economy by both the International Monetary Fund (IMF) and the World Bank paint a picture of a global boom, the like of which has not been seen in almost four decades.

The IMF’s World Economic Outlook (WEO), published earlier this month, predicts that the average world growth rate of 4.9 percent in the period 2003-2006 will continue at least for the next two years. According to IMF statistics, the only stronger spurt was the period 1970-1973, when world growth averaged 5.4 percent. If the current rate is sustained it will represent the most powerful six-year expansion of the world economy in the period since 1970.

The conclusions of the Global Economic Prospects report, published by the World Bank in December 2006, are not essentially different. While its figures are slightly below those of the IMF, due to different measurement techniques, the World Bank points to a “strong global performance” reflecting a “very rapid expansion in developing countries, which grew more than twice as fast as the advanced economies.” This was not just a result of the impact of the Chinese economy, which grew by 10.4 percent, but extended across the range of developing countries. Altogether 38 percent of the increase in global output originated in these regions, well above their 22 percent of world gross domestic product (GDP).

The World Bank noted that if the past 25 years were divided in two periods—1980-2000 and 2000-2005—average growth in developing countries had accelerated from 3.2 percent in the first period to 5 percent in the second. While this acceleration was not shared by all countries, neither was it merely the result of increased growth in China and India.

The IMF’s WEO was filled with similar reports of economic success. Economic activity in Western Europe had “gathered momentum” in 2006 with GDP growth in the euro area reaching 2.6 percent, almost double the rate for 2005 and the highest figure since 2000. “Germany was the principal locomotive, fuelled by robust export growth and strong investment generated by the major improvement in competitiveness and corporate health in recent years,” it stated. Overall the unemployment rate had fallen to 7.6 percent in the euro area, its lowest level for 15 years.

There was even good news from Japan, where the economy was virtually stagnant for more than a decade following the collapse of the share market and real estate bubble in the early 1990s. Despite an unexpected decline in consumption in the middle of 2006, the “economy’s underlying momentum remains robust with private investment expanding—supported by strong profits, improved corporate balance sheets, and the resumption of bank lending—and rising export growth.” Real economic growth in Japan was expected to remain at above 2 percent.

While the growth rate in Latin America was expected to ease to 4.9 percent this year, from 5.5 percent in 2006, the years 2004-2006 were “the strongest three-year period of growth in Latin America since the late 1970s.”

In so-called “emerging Asia” economic activity “continues to expand at a brisk pace”, supported by “very strong growth in both China and India.” In China, real GDP expanded by 10.7 percent in 2006, while in India the growth rate was 9.2 percent, the result of increased consumption, investment and exports.

Growth in Eastern Europe accelerated to 6 percent in 2006, while in Russia the growth rate of 7.7 percent in 2006 was expected to ease only slightly to 7.0 percent in 2007 and 6.4 percent in 2008.

The report described the economic outlook for Africa as “very positive” against a backdrop of strong global growth, increased capital inflows, rising oil production in a number of countries and increased demand for non-fuel commodities. “Real GDP growth is expected to accelerate to 6.2 percent this year, from 5.5 percent in 2006, before slowing to 5.8 percent in 2008.”

One area of immediate concern was whether this expansion in the rest of the world would be pulled back by the slowing of the US economy due to the significant decline in the housing market. Latest figures showed that housing starts and permits were still headed downwards, with stocks of unsold new homes at their highest levels in 15 years. It has been estimated that over the last three quarters of 2006 the sharp contraction in residential construction took an average of 1 percentage point off real GDP growth in the US.

With the US economy having “slowed noticeably over the past year”, the central issue concerning the IMF was “whether this weakness in growth is a temporary slowdown ... or the early stages of a more protracted downturn.” It concluded that a “growth pause still seems more likely at this stage than a recession”. While the growth forecast for the US has been lowered to 2.2 percent (compared to a prediction of 2.9 percent last September), the economic expansion was “expected to gradually regain momentum, with quarterly growth rates rising during the course of 2007 and returning to around potential by mid-2008.”

Financial instability

While setting out what one well-known economist called “the single most optimistic official forecast I have ever seen for the global economy,” the IMF report did voice some concerns, especially with regard to financial markets.

The continued drive for increased yield had resulted in greater risk-taking in less well understood markets and financial instruments. “While this strategy has been successful when markets remain buoyant, price setbacks, rising volatility and emerging loan losses could lead to a reappraisal of investment strategies and a pull-back from positions that have become overextended. Such an unwinding may have serious macroeconomic consequences,” it stated.

The report also sounded a warning about the recent upsurge in leveraged buyouts often led by private equity firms, but in the end concluded that the risks to global growth “now seem more balanced than six months ago.”

Without providing a great deal of analysis, both the IMF and the World Bank pointed to the integration of the global markets, the opening up of the economies of China and India, the expansion of the world labour supply and the impact of information and communications technology as the main factors behind the upturn in world economic growth.

According to the World Bank, over the last quarter century, a time of unprecedented integration for the global economy, sharp falls in transport and communications costs, together with reductions in barriers to trade, have paved the way for productivity increases associated with the integration of emerging markets into global markets.

…In the special section devoted to the globalisation of labour, the IMF report estimates that the effective global labour force has risen fourfold over the past two decades—a “growing pool of global labour [which] is being accessed by advanced economies through various channels, including imports of final goods, offshoring of the production of intermediates [partially completed goods], and immigration.”

Most of this increase in labour supply took place after 1990 with East Asia contributing about half and South Asia and the former Eastern bloc countries accounting for smaller proportions. While most of this cheaper labour comprised less-educated workers, the report noted that the relative supply of workers with higher education increased by about 50 percent over the last 25 years, mainly from the advanced countries, but also from China.

Neither the World Bank nor the IMF draw any historical parallels, but the vast structural changes associated with the latest phase of capitalist globalisation recall the opening of the 20th century when profit rates and economic growth in the major capitalist countries received a significant impetus from the cheap raw materials, minerals and other resources that came from the colonies.

Together with the introduction of new technologies, the vast expansion in the global labour force over the past two decades has resulted in a significant boost to profits. Since the beginning of the 1980s, it is estimated that in the advanced capitalist countries the share of GDP going to labour has declined by about 8 percentage points.

Both organisations regard the latest upswing in growth as a sign of the health and stability of world capitalism ... but there are some nagging doubts. In the words of the World Bank: “While the soft landing is the most likely scenario, the global economy is at a turning point following several years of very strong growth—and such periods are fraught with risk. Indeed ... the last century began under similar auspicious circumstances characterised by an extended period of strong growth buoyed by technological change and ample liquidity. Rather than continuing forward as anticipated by leading economists at the time, the world plunged into the Great Depression. Thus, while much in the current environment is reassuring, a note of caution is merited.”…

I think a lot more than “a note of caution” is merited. So does Mike Whitney who discusses the reasons why a collapse in the U.S is likely and why it will threaten economic growth world-wide:

"Is It Too Late to Get Out?" Housing Bubble Boondoggle

Mike Whitney

April 24, 2007

Treasury Secretary Henry Paulson delivered an upbeat assessment of the slumping real estate market on Friday saying, "All the signs I look at" show "the housing market is at or near the bottom."

Baloney.

Paulson added that the meltdown in subprime mortages was not a "serious problem. I think it's going to be largely contained."

Wrong again.

Paulson knows full well that the housing market is headed for a crash and probably won't bounce back for the next 4 or 5 years. That's why Congress is slapping together a bailout package that will keep struggling homeowners out of foreclosure. If defaults keep skyrocketing at the present rate they are liable to bring the whole economy down in a heap.

Last week, the Senate convened the Joint Economic Committee, chaired by Senator Charles Schumer. The committee's job is to develop a strategy to keep delinquent subprime mortgage holders in their homes. It may look like the congress is looking out for the little guy, but that's not the case. As Schumer noted, "The subprime mortgage meltdown has economic consequences that will ripple through our communities unless we act."

Schumer's right. The repercussions of millions of homeowners defaulting on their loans could be a major hit for Wall Street and the banking sector. That's what Schumer is worried about---not the plight of over-leveraged homeowners.

Every day now, another major lending institution unveils its plan for bailing out the housing market. Citigroup and Bank of America have joined forces to create the Neighborhood Assistance Corporation of America which will provide $1 billion for the rescue of subprime loans. This will allow homeowners to refinance their mortgages and keep them out of foreclosure. The new "30- year loans will carry a fixed interest rate one point below the prime rate, putting it currently at 5.5 percent. There are no fees, and the banks pay all the closing costs."

But why are the banks being so generous if, as Paulson says, "the housing market is at or near the bottom." This proves that the Treasury Secretary is full of malarkey and that the problem is much bigger than he's letting on.

Last week, Washington Mutual announced a $2 billion program to slow foreclosures (Washington Mutual's subprime segment lost $164 million in the first quarter) while Freddie Mac committed a whopping $20 billion to the same goal. In fact, Freddie Mac announced that it "would stretch the loan term to a maximum of 40 years from the current 30-year limit."

40 years!?! How about a 60 or 80 year mortgage?

Can you sense the desperation? And yet, Paulson says he doesn't see the subprime meltdown as a "serious problem"!

Paulson's comments have had no effect on the Federal Reserve. The Fed has been frantically searching for a strategy that will deal with the rising foreclosures. On Wednesday, The Washington Post reported that "Federal bank regulators called on lenders to work with distressed borrowers unable to meet payments on high-risk mortgages to help them keep their homes".

Huh?

When was the last time the feds ordered the privately-owned banks to rewrite loans?

Never--that's when.

That gives us some idea of how bad things really are. The details of the meltdown are being downplayed in the media to prevent panic-selling among the public. But the Fed knows what's going on. They know that "U.S. mortgage default rates hit an all-time high in the first quarter of 2007" and that "the percentage of mortgages in default rose to a record 2.87%". In fact, the Federal Reserve and the five other federal agencies that regulate banks issued this statement just last week:

"Prudent workout arrangements that are consistent with safe and sound lending practices are generally in the long-term best interest of both the financial institution and the borrowerInstitutions will not face regulatory penalties if they pursue reasonable workout arrangements with borrowers."

Translation: "Rewrite the loans! Promise them anything! Just make sure they remain shackled to their houses!"

Unfortunately, the problem won't be "fixed" with a $30 or $40 billion bailout scheme. The problem is much bigger than that. There is an estimated $2.5 trillion in subprimes and Alt-A loans---20% of which are expected enter foreclosure in the next few years. Any up-tick in interest rates or unemployment will only aggravate the situation.

Kenneth Heebner, manager of CGM Realty Fund (Capital Growth Management), provided a realistic forecast of what we can expect in the near future as defaults increase.

Heebner: "The Greatest Price Decline in Housing since the Great Depression" (Bloomberg News interview)

"The real wave of pain and foreclosures is just beginning.subprimes and Alt-A are both in trouble. A lot of these will go into default. The reason is, that the people who took these out never really intended to fully service the mortgage---they were counting on rising home prices so they could sign on the dotted line without showing what their income was and then 2 years later flip into another junk mortgage and get a big profit out of the house with putting anything down

"There's a $1.5 trillion in subprimes and $1 trillion in Alt-A the catalyst will be declining house prices which is already underway. But as we get a large amount of these $2.5 trillion mortgages go into default, we'll see foreclosed houses dumped on an already weak market where homebuilders are already struggling to sell there houses. The price declines which have started will continue and may even accelerate in some of the hotter markets. I would expect that housing prices in "2007 will decline 20% in a lot of markets".

"What you are going to see is the greatest price decline in housing since the Great Depression. The one thing that people should not do, is go near a CDO or a residential mortgage backed security rated Triple A by Moody's and S&P because these are going to get down-graded by the hundreds of millions---because they are secured by subprime and Alt-A mortgages where there'll be massive defaults".

Question: "Will the losses in the mortgage market exceed those in the S&L crisis?"

Heebner: "They're going to dwarf those losses because the losses could easily approach $1 trillion---that dwarfs anything that has ever happened. Enron was $100 billion---this will be far greater than that..The good news is that most of these loans are owned by Hedge FundsYou hedge funds buying these subprime and Alt-A loans and leveraging them at 10 to 1. They buy a pool of mortgages at 8% and they borrow against it in yen for 3% and then lever it at 10 to 1so you have a lucrative profit And the hedge fund you are running, the manager is going to get 20% of the gain---so even if it's a year before you go broke; you get rich until the fund is shut down".

Heebner added this instructive comment: "The brokerage firms created "securitization" they know the products are toxic. I don't think they are going to suffer losses; they simply passed them on to everyone else. The only impact this will have is the profits that flow from it will get less.But it is less than 3% of revenues in even the most exposed brokerage firm so THEY'RE NOT GOING TO GET CAUGHT."

Although Heebner believes the brokerage houses will do fine; the same is not true for the small investor. Nearly 70% of subprimes have been securitized. That means that the vast number of shoddy "no down payment, no document, interest-only" loans (that are headed for default) have been transformed into securities and sold to hedge funds. As the housing market continues to falter, these funds will plummet at an inverse rate to the amount of leverage that has been applied. That may explain why, (according to Bloomberg Markets) the "wealthiest Americans have been bailing out" of hedge funds at an alarming rate. A report in last Thursday's New York Times stated:

"Americans with a net worth of at least $25 million, excluding the value of their primary homes, reduced their exposure to hedge funds in 2006"-- The amount of money held by wealthy investors in hedge funds has dropped dramatically-- "The average balance, which was $2.8 million in 2005, was just $1.6 million last year, a 43 percent decline".

So, what do America's richest investors know that the rest of us don't?

Could it be that the over-leveraged hedge funds industry is about to get hammered by the subprime implosion?

If so, it won't be the brokerage houses or savvy insiders who get hurt. It'll be the little guys and the pension funds that take a drubbing.

In Henry C K Liu's "Why the Subprime Bust will Spread" (Asia Times) the author states that the bursting housing bubble will trigger a major pension crisis. After all, who are the "institutional investors? They are mostly pension funds that manage the money the US working public depends on for retirement. In other words, the aggregate retirement assets of the working public are exposed to the risk of the same working public defaulting on their house mortgages". (Liu)

The origins of the housing bubble are complex, but they are worth understanding if we want to know how things will progress. The housing bubble is not merely the result of low interest rates and shabby lending practices. As Liu says, "the bubble was caused by creative housing finance made possible by the emergence of a deregulated global credit market through finance liberalization. The low cost of mortgages lifted all US house prices beyond levels sustainable by household income in otherwise disaggregated markets". The deregulated cross-border flow of funds (via the yen low interest "carry trade" or the $800 billion current account deficit) have played a major role in inflating the US real estate market.

Liu adds, "Since the money financing this housing bubble is sourced globally, a bursting of the US housing bubble will have dire consequences globally."Since nearly 50% of "securitized" mortgage debt is owned by foreign investors; the subprime meltdown is bound send tremors through the entire global financial system.

The housing decline is further complicated by Wall Street innovations in derivatives trading which has generated trillions of dollars in "virtual" wealth and is affecting the Feds ability to control inflation through interest rate manipulation. As Kenneth Heebner said, "You have hedge funds buying these subprime and Alt-A loans and leveraging them at 10 to 1. They buy a pool of mortgages at 8% and they borrow against it in yen for 3% and then lever it at 10 to 1so you have a lucrative profit."

In other words, low interest foreign capital has flooded US markets and contributed to distortions in housing prices.

In her recent article "War Drags the Dollar Down", Ann Berg refers to Wall Street's "swirling galaxy of exotic finance" which has "worked magic for the government and the elite", but has yet to weather a severe downturn in the economy.

But how will market deal with sudden downturn in the hedge fund industry? Will the dodgy subprimes and shaky collateralized debt obligations (CDOs) trigger a crash or has the risk been wisely dispersed through derivatives trading?

No one really knows.

As Berg says, "Derivatives numbers are staggering. The Bank for International Settlements estimates that the notional amount of derivatives traded on regulated exchanges topped a quadrillion dollars last year and that the outstanding unregulated off-exchange (called over-the-counter OTC) amount stood at $370 trillion in June 2006. Because the OTC market is composed of endless strings of bilateral transactions the systemic risk is unknown."

The comments of the President of the New York Fed, Timothy Geithner, help to clarify the abstruse activities of the modern market:

"Credit market innovations have transformed the financial system from one in which most credit risk is in the form of loans, held to maturity on the balance sheets of banks, to a system in which most credit risk now takes an incredibly diverse array of different forms, much of it held by nonbank financial institutions that mark to market and can take on substantial leverage."

Geither's right. The markets now operate as unregulated banks generating mountains of credit through massively leveraged debt instruments---a monster credit bubble larger than anything in the history of capitalism.

So, where is all this headed?

No one really knows. But when the housing bubble crashes into Wall Street's credit bubble,; we can expect the "big bang". That may explain why America's wealthiest investors are running for cover before the whole thing blows. (A number of investors have already cashed out and put their holdings into foreign funds and currencies)

One thing is certain ---time is running out. With $1 trillion in subprimes and Alt-A loans headed for default the system is facing its greatest challenge. US- GDP has been revised to a measly 1.8%, foreign investment is down, and the dollar is losing ground to the euro on an almost weekly basis.

Falling home prices have already precipitated a number of other problems. For example, Gene Sperling reports in "Housing Bust Meets the Equity Blues" that "The Fed data showed an amazing expansion (in Mortgage-Equity Withdrawal). In 1995, active MEW had been $37 billion. By the fourth quarter of 2005, it soared to $532 billion annualized, a 14-fold expansion". These equity withdrawals have translated into consumer spending which accounts for at least 1 full percentage point of GDP. Declining house prices means that extra boast for the economy will now disappear.

Foreclosures are soaring and expected to get worse for the next two years at least. In California foreclosure filings jumped 79% in March alone. Other "hot markets" are reporting similar figures.

The glut of new homes for sale on the market has slammed sales of the nation's major builders; most are reporting profits are down by 40% or more.

The collapse of the subprime mortgage market is also pushing some big U.S. homebuilders toward Chapter 11. According to Bloomberg News, "Some builders are staying out of bankruptcy by relying on the profits they made when sales boomed" in 2004 and 2005. Starting next year they must begin to repay $3.6 billion in public debt in what will certainly be a falling market. The prospects don't look good.

Also, Credit card debt is way up (nearly 7% in one year) and economists are predicting that the trajectory will continue now that home equity is vanishing. Americans savings rate is in negative numbers and the steep increase in credit card debt (with its high interest rates) only compounds the problem. The American consumer has now compiled more personal debt than anytime in history.

The Grim Reaper Meets the Housing Bubble

Those who follow developments in real estate have heard many of the wacky anecdotes related to the housing bubble. Stories abound of young people buying homes just to pay off tens of thousands of dollars of collage loans with their "presto"-equity ---or low paid construction laborers securing 105% loans without any proof of income and a poor credit history. One of the stories that got national attention was about Alberto and Rosa Ramirez, who worked as strawberry pickers in the fields around Watsonville each earning about $300 a week. They (somehow?) qualified for a loan of $720,000 which paid for a "new" four-bedroom, two-bath house in Hollister.

It's sheer madness!

Obviously, those days are over. The speculative frenzy that was generated by the Fed's low interest rates, the banks lax lending standards, and the deregulated global credit market is drawing to a close. The fallout from the collapse in subprime-loans will roil the stock market and hedge funds, but, as Heebner says, the investment banks and brokerage firms will escape without a bruise.

Where's the justice?

Despite Hank Paulson's cheery predictions, we are no where "near the bottom". In fact, a recent survey showed that only 1 in 7 Americans believe that house prices will go down. Even now, very few people grasp the underlying issues or the potential for disaster. We're on a treadmill to oblivion and they think it's a merry-go-round.

As housing prices tumble, more homeowners will experience "negative equity", that is, when the current value of their home is less than the sum of their mortgage. This is the very definition of modern serfdom.

We can expect to see an erosion of confidence in the market, a rise in inventory, and a steady increase in defaults.More and more people will walk away from their homes rather than be hand-cuffed to an asset that loses value every day. This could transform a "housing correction" into a nation-wide financial calamity.

Many peoples' futures are linked directly to the "anticipated" value of their homes.It is impossible to determine how shocked they'll be when prices retreat and equity shrivels. The housing flame-out has all the makings of a national trauma"another violent jolt to the fragile American psyche.

So far, we're still in the first phase of a process that will probably play out for 10 years or more. (Judging by Japan's decades-long decline) None of the bailout plans are large enough to make any quantifiable difference.The numbers are just too big.

Housing prices are coming down and the real estate market will return to fundamentals. That much is certain. The law of gravity can only be ignored for so long.

Just don't count on a "soft landing".

Last week a milestone in the decline of the United States was reached: Toyota surpassed General Motors as the world’s largest auto manufacturer:

Toyota surpasses GM in global auto sales

Jerry White

26 April 2007

During the first three months of 2007, Toyota sold more cars and trucks worldwide than General Motors for the first time ever, as the Japanese company moved closer to becoming the world’s largest automaker in terms of annual global sales. With the exception of individual years in the 1970s and 1980s when production was cut due to labor strikes, General Motors has held the number-one spot for every year since 1931—during the depths of the Great Depression.

The long-awaited eclipsing of General Motors is symbolic not only for what it says about the demise of the once-mighty manufacturing giant, but also for what it reveals about the historic decline of the world position of American capitalism. For most of the twentieth century, GM was synonymous with the power and innovation of US industry. Today, the Detroit-based auto manufacturer—which has been steadily losing market share for three decades and posted more than $12 billion in losses over the last two years—is retrenching its operations, shedding tens of thousands of jobs and shuttering its factories.

In 1955, GM accounted for half of the American auto market, at a time when four out of every five cars in the world were being produced in the US. Emerging from war-torn Japan, Toyota was a small company that only produced 23,000 cars, compared to 4 million manufactured by GM in the US. Today, Toyota is increasing its production worldwide and in North America, where the Japanese auto company first introduced its vehicles 50 years ago. Toyota is steadily grabbing market share from the US carmakers, including GM.

Toyota’s first-quarter sales rose 9.2 percent to a record 2.35 million vehicles, the company reported Tuesday. Last week, GM reported it sold 2.26 million vehicles in the January-to-March period. Fifty years after Toyota entered the all-important US market, the company controlled 15.6 percent of the share, up from 9.3 in 2000, while GM’s share fell to 23.1 percent in 2006—its lowest percentage since the 1920s—down from 28.1 percent just seven years ago.

Globally, GM outsold Toyota 9.1 million to 8.8 million in 2006. But the Japanese auto company’s sales rose 8 percent last year, and it expects to sell 9.34 million vehicles in 2007, in large measure due to growing demand in the North American market. Toyota has six assembly plants in North America with a total production capacity of 1.8 million vehicles a year, and it expects output to rise to 2.2 million by 2010 as two more new plants come on line. Meanwhile, GM is cutting North American production by 1 million units.

While expanding sales in some emerging markets, particularly in China, GM officials have resigned themselves to a permanent loss in US market share. In November 2005, GM launched a major restructuring that called for closing 12 plants by 2008 and slashing its workforce by more than 34,000 employees.

At its peak, GM employed more than 600,000 American workers, including 459,000 members of the United Auto Workers (UAW) union. With the new round of cuts, GM will reduce its blue-collar workforce to 86,000 US hourly workers by the end of 2008, roughly the number of people it employed in Flint, Michigan, alone in the 1970s.

Workers in dozens of GM’s manufacturing centers—such as Detroit, Pontiac, Saginaw and Flint in Michigan; Dayton in Ohio; and Kokomo and Muncie in Indiana—once enjoyed the highest pay of any industrial workers in the country and record levels of home ownership. Today, these cities are littered with empty factories and face a rash of home foreclosures, personal bankruptcies and requests for emergency food and healthcare assistance.

In addition to GM, the other “Big Three” auto companies are hanging on by a thread. Number-two carmaker Ford lost a record $12.7 billion in 2006 and is in the process of closing plants in the US and Canada and eliminating the jobs of 38,000 autoworkers.

Two months ago, DaimlerChrysler reported huge losses at its North American Chrysler Group division and said it would wipe out 13,000 jobs. The German company also revealed plans to spin off its money-losing US operation, opening the way to the carve-up of the 82-year-old company by Wall Street speculators who are anxious to slash workers’ wages and benefits and sell off the company’s most profitable assets. All told, US automakers and suppliers eliminated 150,000 jobs in the US in 2006.

The virtual collapse of the Big Three US auto companies has been a drawn-out process. In the post-World War II period—while Japanese and German industries were still rebuilding after the ruin of the war—GM and other manufacturers boasted that their costs per unit were the lowest in the world, despite paying workers the highest wages. By the 1970s and 1980s, however, profit margins began to fall, and more efficient and innovative Japanese and German manufacturers began to challenge the US monopoly over auto production and penetrate the American market itself.

The response of the auto corporations was to launch an unrelenting assault on the jobs, working conditions and living standards of autoworkers, which continues to this day. Rather than opposing this attack, the UAW collaborated in the shutdown of factories and the destruction of 600,000 Big Three jobs since 1979.

Preaching labor management cooperation, the UAW suppressed the opposition of rank-and-file workers and joined the auto bosses and Democratic Party politicians in promoting anti-Japanese chauvinism in order to divide US workers from their brothers and sisters in Japan and other countries.

US auto executives—who themselves pocketed tens of millions in compensation despite the record losses at their companies—relied on high-profit SUVs and other gas-guzzling vehicles to satisfy big investors, while driving fewer and fewer workers in the factories to produce more and more, and outsourcing production to lower-wage factories in the US and overseas. Rising gas prices and widespread economic insecurity have caused a sharp fall in demand for these bigger vehicles, eliminating a major source of profit for the auto companies. Under pressure from Wall Street investors, GM is looking to slash labor costs again, using as its model the low-wage, nonunion plants Toyota operates in the southern US.

In a speech on Monday in Louisville, Kentucky, GM Vice Chairman Bob Lutz warned that the entire automotive sector would be further hit by the downturn in the housing market and the meltdown in the home mortgage industry. “A lot of people are finding themselves in a position of reduced affordability and that has had an impact, not just on us, but across the industry.”

Add a collapse of the U.S. economy and the dollar to a military defeat in Iraq and Afghanistan, and you will get a drastic fall in the position of the United States in the world. Will the world be able to manage the collapse of the United States as peacefully and absorb the consequences as effortlessly as it did the collapse of the Soviet Union?

Signs of the Economic Apocalypse, 4-2-07

From Signs of the Times:

Gold closed at 669.00 dollars an ounce on Friday, up 1.8% from $657.30 at the close of the previous Friday. The dollar closed at 0.7487 euros Friday, down 0.5% from 0.7528 at the previous week’s close. That put the euro at 1.3357 dollars compared to 1.3284 at the end of the week before. Gold in euros would be 500.86 euros an ounce, up 1.2% from 494.92 for the week. Oil closed at 65.87 dollars a barrel Friday, up 5.8% from $62.28 at the end of the week before. Oil in euros would be 49.31 euros a barrel, up 5.2% from 46.88 for the week. The gold/oil ratio closed at 10.16 Friday, down 3.8% from 10.55 at the close of the previous Friday. In U.S. stocks, the Dow closed at 12,354.35 Friday, down 1.0% from 12,481.01 for the week. The NASDAQ closed at 2,421.64, down 1.4% from 2,456.18 at the end of the week before. In U.S. interest rates, the yield on the ten-year U.S. Treasury note closed at 4.64%, up three basis points from 4.61 for the week.

Friday was the end of the first quarter of 2007, so let’s look at the year-to-date numbers. Gold went from 638.80 dollars an ounce to $669.00 in the first quarter, a rise of 4.7%. The dollar fell 1.2% from 0.7576 euros to 0.7487 in the first quarter. The euro rose 1.2% from $1.3199 to $1.3357. Gold in euros went from €483.98 to €500.86 in the first quarter, a rise of 3.5%. Oil rose 7.9% from $61.05 to $65.87. In euros, oil went from €46.25 to €49.31, a rise of 6.6%. The gold/oil ratio fell 3.0% from 10.46 to 10.16 in the quarter. The Dow Jones Industrial Average fell 0.9% from 12,463.15 to 12,354.35 and the NASDAQ rose 0.3% from 2,415.29 to 2,421.64 in the first quarter of 2007. The yield on the ten-year U.S. Treasury note fell six basis points from 4.70 to 4.64 in the quarter.

To summarize, gold and oil rose substantially in the first quarter of 2007, U.S. stocks were about the same and the dollar fell a bit against the euro. Many indices had ups and downs that were more dramatic than that from week to week, but the end result, comparing the beginning of the quarter to the end, is an economy that is treading water. The big question marks remain the impact of the end of the housing boom and whether or not the wars in the Middle East will expand and worsen. In both areas the trends don’t look good, but not much was decided in the first quarter.

Here are some charts showing price changes going back to the beginning of 2005:

American workers had good reason to feel uneasy last week. The small bit of good news on the housing the previous Friday (existing home sales) was cancelled Monday by bad news on the new home sales numbers for February fell 3.9%. Then, the electronics retailer, Circuit City announced that they will lay off 3,400 of their most experienced and high-paid workers, then rehire them at lower wages.

US: Circuit City fires 3,400 better-paid store workers

By Naomi Spencer
30 March 2007

In a ruthless move to slash worker compensation costs, electronics retailer Circuit City announced March 28 that 3,400 in-store employees, 9 percent of the company’s workforce, would be fired. The company is specifically targeting experienced workers because after years on the job they had accumulated relatively higher wages. According to the Washington Post those affected were notified Wednesday morning and immediately escorted out of the stores by management.

The retailer, which operates 640 outlets in the US, is cutting $775 million in costs over the next seven years by replacing its better-paid store clerks and outsourcing its information technology department. Stocks rose by 2 percent on news of the firings, to $19.23 a share.

Like most of the US retail sector workforce, Circuit City employees are not unionized, and are subject to high job insecurity. According to a Bloomberg report, average pay for Circuit City store employees is a modest $10 to $11 an hour. The company has said that those fired this week were “well above the market-based salary range for their role.”

“This was a cost containment measure that occurred in our stores today,” Circuit City spokesman Jim Babb declared in an interview with the Vermont-based newspaper Burlington Free Press. Absurdly, Babb insisted that employees were fired without notice because “if something like that is hanging over their head for two weeks, it doesn’t benefit the employee or the company.”

While claiming they cannot afford to pay more than $22,000 a year—barely above the official poverty rate for a family of four—Circuit City executives are continuing to rake in the cash. According to Forbes.com, president and chief executive Philip Schoonover received $4,514,975 in compensation and an additional $5,459,409 in stock options in 2006. Executive vice-president George Clark drew $1,949,733 in compensation and $4,083,013 in stock options last year.

These workers now have the option of reapplying after a severance period at what the company’s executives call “current market range” wages. And while the new wage range has not been announced, Babb tellingly announced that hiring was to start immediately, and applicants need have no sales experience.

Aside from the cost cutting, the firings and pay caps are also a brazen attempt to intimidate the workers into accepting worsening conditions. The Los Angeles based Daily News interviewed workers at a local Circuit City who explained that the firing comes two weeks before performance reviews, which often come with pay raises.

One employee, who did not give his name because of a store policy against speaking to the media, told the Daily News he was afraid to take a raise on top of his $10.50 an hour. “You’re going to walk in the [manager’s] door, and for the first time you’re going to say, ‘I don’t want a raise,’” he said. “If you take the raise, will you lose your job?”

“This store has probably lost all its good salespeople,” Richard O’Neal, who was among those fired, told the paper. “This morning we were all really pissed, but now I laugh about it. What can you do?” O’Neal was told he could reapply for his job after 10 weeks if he was willing to work for minimum wage. Currently in California minimum wage is $7.50 an hour, an outrageously low wage for the high cost of living in Los Angeles.

Alan Hartley, a car stereo installer at a Charlotte, North Carolina Circuit City, told local television station WCNC that he and other top employees thought they had been called in to a special meeting because they were going to be recognized for outstanding job performance. Instead, they were handed termination letters and told to leave. “We just bought our first house about two or three months ago, and I’m afraid I’m going to lose it,” he told the reporters. “I’m not sure what I’m going to do. I’m hurt mainly because I love this company. I planned on retiring from it. I feel I’ve taken very good care of them, and I can’t believe they did this.”

“Now they are going to hire people that aren’t properly trained for the jobs to take care of their customers,” Hartley said. “All the employees that were the best, they just fired . I’ve consistently out performed the other people in my department. I’ve gotten raise upon raise, and the other people who got fired today [were] the same way.” He added, “I haven’t told my kids yet. They don’t know I just got fired for doing a good job.”

The firings are the most abrupt and brazen manifestation of a trend by corporate America to push out older and better compensated workers and replace them with a smaller, younger, uninsured and underpaid workforce. Other major retailers have put a multi-tiered wage system in place whereby new workers are paid significantly less than their predecessors. Wal-Mart has implemented such a system, with frozen wages for the longtime employees.

One Asheville, North Carolina Circuit City employee among the fired, 24 year-old Steven Rash, told the Washington Post that he earned $11.59 an hour after working for the company for seven years. Rash, who works another job full-time, explained that he worked 15 to 20 hours a week at the store in order to manage his student loan debt. “It’s not just a part-time job,” he told the Post “It’s about paying the bills.” He told the paper he was given four weeks of severance pay.

“I’m ticked off that they can just come at you from one day to another, no warning, and oh, you’re gone,” Jose Macias, 27, of San Diego, California, told the Post. “I dedicated seven years to them. Loyalty gets you nothing.” Macias said he had been told that Circuit City was firing all employees who were paid more than 51 cents over pay caps that were set for departments. The cap for the computer department, where he worked, was $15.50 an hour.

In Roanoke, Virginia, Channel 10 news interviewed two fired Circuit City employees. Bobby Young, who had just been awarded a certificate in recognition of 20 years of excellence with the retailer in January, said he was handed a termination letter addressed “to whom it may concern” when he got to work Wednesday morning. “I don’t know what I’ll be doing tomorrow morning,” he told the station. “What they did as a company to me, it’s not the American way.”

Another fired Roanoke employee, Douglas Burnette, worked at Circuit City for 19 years. He earned about $35,000 a year. “You say you pay me too much,” he said, “but I’m coming to work everyday. I’m reliable. I’m honest . . . Circuit City kicked me out. We gave these people our lives. We went there, we gave them honesty, and that’s a slap in your face.”

They don’t even try to hide the feudal nature of neoliberalism anymore. Even mainstream neoliberal economist have been coming out and saying that free trade will hurt most people in the developed world. Only a small percentage of people are benefitting and people are beginning to realize that even in the United States. During the debate on NAFTA in the 1990s, the professional, technical and managerial classes thought that free trade would only hurt the working class. Now they are realizing, too late, that they too will be its victims.

In related news, income inequality in the United States reached levels not seen since the 1920s:

Income Gap Is Widening, Data Shows

By David Cay Johnston

March 29, 2007

Income inequality grew significantly in 2005, with the top 1 percent of Americans — those with incomes that year of more than $348,000 — receiving their largest share of national income since 1928, analysis of newly released tax data shows.

The top 10 percent, roughly those earning more than $100,000, also reached a level of income share not seen since before the Depression.

While total reported income in the United States increased almost 9 percent in 2005, the most recent year for which such data is available, average incomes for those in the bottom 90 percent dipped slightly compared with the year before, dropping $172, or 0.6 percent.

The gains went largely to the top 1 percent, whose incomes rose to an average of more than $1.1 million each, an increase of more than $139,000, or about 14 percent.

The new data also shows that the top 300,000 Americans collectively enjoyed almost as much income as the bottom 150 million Americans. Per person, the top group received 440 times as much as the average person in the bottom half earned, nearly doubling the gap from 1980.

Prof. Emmanuel Saez, the University of California, Berkeley, economist who analyzed the Internal Revenue Service data with Prof. Thomas Piketty of the Paris School of Economics, said such growing disparities were significant in terms of social and political stability.

“If the economy is growing but only a few are enjoying the benefits, it goes to our sense of fairness,” Professor Saez said. “It can have important political consequences.”

...The analysis by the two professors showed that the top 10 percent of Americans collected 48.5 percent of all reported income in 2005.

That is an increase of more than 2 percentage points over the previous year and up from roughly 33 percent in the late 1970s. The peak for this group was 49.3 percent in 1928.

The top 1 percent received 21.8 percent of all reported income in 2005, up significantly from 19.8 percent the year before and more than double their share of income in 1980. The peak was in 1928, when the top 1 percent reported 23.9 percent of all income.

The top tenth of a percent and top one-hundredth of a percent recorded even bigger gains in 2005 over the previous year. Their incomes soared by about a fifth in one year, largely because of the rising stock market and increased business profits.

The top tenth of a percent reported an average income of $5.6 million, up $908,000, while the top one-hundredth of a percent had an average income of $25.7 million, up nearly $4.4 million in one year.