Author: Bill Bonner

Hey, is this a great recovery…or what?

Stocks fell again yesterday. The Dow went down 69 points, closing below 10,000. Gold rose $15…closing above $1,200.

The two are still $8,800 apart. But give them time. They’ve been working their way closer for the last ten years. They’ll get there…

Single family house prices fell for the 6th month in a row, reports The Washington Post.

And get this: “Private pay shrinks to historic lows as government payouts rise,” says USA Today.

This is the big story. As a share of personal income, never before has the private sector contributed so little. Thank god for the government. Without those checks from the feds, we’d all be broke.

The story as told by USA Today:

“Paychecks from private business shrank to their smallest share of personal income in US history during the first quarter of this year, a USA Today analysis of government data finds.

“At the same time, government-provided benefits – from Social Security, unemployment insurance, food stamps and other programs – rose to a record high during the first three months of 2010.

“Those records reflect a long-term trend accelerated by the recession and the federal stimulus program to counteract the downturn. The result is a major shift in the source of personal income from private wages to government programs.

“The trend is not sustainable, says University of Michigan economist Donald Grimes. Reason: The federal government depends on private wages to generate income taxes to pay for its ever-more-expensive programs. Government-generated income is taxed at lower rates or not at all, he says. ‘This is really important,’ Grimes says.”

That’s the trouble, isn’t it? The feds don’t really have any money. They don’t make anything. They don’t create any wealth. So they can only send us checks by taking the money from us – one way or another.

And that, dear reader, is the story of the most important trend of our time. The feds are taking a bigger and bigger share of the economy. And the bigger the share they get, the less the rest of it is worth. Because an economy run by politicians and bureaucrats is not a healthy economy. It’s a sick economy…it limps along. It wheezes and coughs. And if the trend towards more and more federal control continues…the economy finally dies.

If you want the government to take care of you, said Jefferson, “you will soon want bread.” He didn’t say it exactly that way. We improved it.

The feds don’t make decisions on the basis of fair play and rational economic choices. Instead, they’re political choices – such as bailing out the big banks because they are said to be “too big to fail,” or bailing out the big auto companies because they employ too many voters, or bailing out the mortgage industry because too many people would lose their houses if the mortgage industry were allowed to go whither it should.

Even in the best of times an investment is a risky thing. Sometimes it will produce a positive return (above the real cost of funds). Sometimes it won’t.

Imagine what happens when decisions are made by functionaries, political appointees and GS-12s? Capital is then allocated to the wrong projects for the wrong reasons…which result in the wrong outcomes.

Bad economic decisions produce bad economic results. Bad economic results lower the value of capital assets…and make almost everyone in the economy poorer.

We say, “almost everyone,” because the government’s employees, lobbyists, and contractors are in a class apart. They are the ruling party and its apparatchiks. While everyone else gets poorer, they get richer.

And more thoughts…

“Tax increases. Spending cuts.” That’s the name of the game in Europe.

The OECD is calling for them. The IMF is requiring them. Politicians are promising them.

Just yesterday, Italy came forward with $30 billion worth of spending cuts.

Reading the paper, you might think Europe’s leaders have the matter under control. Every day seems to bring fresh promises. But remember, these are the same people who failed to keep within Europe’s fiscal targets 57% of the time – even when the going was good.

How will they do with their backs against the wall? Better, most likely. But not good enough. The euro-feds will make plenty of gestures. But in the end, it just won’t make sense for people to give up present benefits in order to respect promises made by a generation of spendthrift politicians to a ruthless bunch of speculating bankers. The political left, which is leading the opposition to ‘austerity’ measures, will become more and more attractive to more and more voters. It will be harder and harder to cut spending.

This will force governments in the direction of least resistance.

They will “print money…go bust…and go to war,” says Marc Faber. “We are doomed.”

*** Oil is still spilling into the Gulf of Mexico at an unknown rate.

“Plug the damn hole,” says the nation’s chief executive to his aides. Why does he bother? His aides don’t know anything about plugging oil leaks under the ocean. And those people who do know something about it have been unable to fix the leak.

Mr. Obama is not only America’s president. He also presides over the biggest single user of oil in the world – the US military. The pentagon uses twice as much oil as the entire nation of Ireland. It sends soldiers in oil-burning airplanes to places of no apparent importance where they drive around in oil-burning machines for no apparent reason.

Naturally, oil becomes not just another commodity, but a strategic commodity…worth fighting for. Then, foreign wars use up the oil they were expected to protect.

But geopolitics is far beyond our understanding…and even farther out of our range of interest. We will just observe that the law of diminishing returns applies to just about everything. The farther offshore the roughnecks go…the deeper the sea and the higher the waves…the more the costs, the greater the risks and the lower the marginal returns. The return from Deepwater Horizon must be starkly negative…

The farther afield US armies go, too, the greater the costs, the higher the risks, and the lower the marginal returns.

“Why not just buy oil on the open market?”

Well, it’s clear you don’t know anything about geopolitics either, dear reader…don’t you know that our enemies might try to cut us off from vital oil supplies? That’s why Germany and Japan lost WWII! We were able to cut of their fuel…

“But weren’t Germany and Japan fighting for access to oil? Didn’t their politicians say they had to invade Poland…and the Philippines…to protect their vital supplies?”

No…they were aggressors. They were bad people…

“But if they hadn’t been the aggressors they wouldn’t have been bad people, right?”

That’s right…

“Then, we wouldn’t have cut off their access to oil!”

Oh, never mind. You’ll never understand geopolitics, will you?

Regards,

Bill Bonner
for The Daily Reckoning Australia

Similar Posts:

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• Transfer of Wealth
• Major Premise That Government Economists Can Improve Workings of a Free Economy
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“Call it a nightmare,” says Dave Rosenberg.

Markets all over the world went down again yesterday. The Dow dropped below 10,000 in the morning trading…then came back to give up a modest 22 points by the closing bell.

The Wall Street Journal says it’s time to start worrying about a “double dip recession.”

We suspect that output will dip below zero again – giving us, technically, a ‘double dip’ recession. But calling it a recession misses the point. It’s not just a pause. It’s a change…a Great Correction.

There’s something else going on…something much more important and much harder to deal with than an ordinary recession. The feds have thrown everything into the battle to stop this downturn. No matter how you look at it, the ammunition spent in this fight has been spectacular.

And it hasn’t worked. Unemployment has actually gotten worse. Private sector credit has declined. And what’s this? “Falling home prices raise fears of new bottom,” says a headline.

People talk of ‘recovery,’ but it’s now three years after the crisis began and there is no recovery. Instead, there’s another crisis on the horizon.

And now the trouble is, the feds don’t have much ammunition left. Interest rates are already at zero; they can’t go lower. And the federal deficit is already as much as 10% of GDP.

Besides, it’s becoming clear that all that ammunition fired off so far was wasted! It got us nothing but more debt.

The problem was never a recession. It was too much debt in the private sector. But the feds misunderstood it. They thought it was a regular recession that they could ‘cure’ with more credit and more spending. So, they added trillions of new debt in the public sector!

They claimed to have spared the world economy a worse disaster. But now that worst disaster is happening anyway. The bad dream has turned into a nightmare. Because it’s not just the private sector going broke; governments are going broke too.

Not that we have any new information on the subject. And we wait to be proven wrong. But we can add and subtract. And when we add up the debt totals in the developed world – the US, Europe, and Japan – what we get are some pretty big numbers. Government debt alone is $32 trillion. That’s for a combined economy of about $34 trillion.

Right now, with the lowest interest rates in 30 years, it’s still possible for most ‘western’ governments to pay the interest and finance their deficits. But Europe has already run into trouble. Every government in Europe is scrambling to come up with a credible plan for budget cuts. David Cameron announced his plan just yesterday.

“Austerity plans multiply in Europe,” says the headline in yesterday’s Figaro. And those poor French bureaucrats! They’re supposed to cut expenses by 10% next year.

In Japan and America, on the other hand, deficit spending still looks easy. Aside from a few cranks, clairvoyants and Daily Reckoning readers, everyone seems to think things will be all right forever. There is no serious pressure to cut budgets – except at the state level. The Pentagon still has a blank check – it just fills in the amount each year. Health care expenses still grow like weeds without winter.

Few people realize that America’s finances are already no better than those of Greece. Fewer still care.

But heck, we’re not going to go around with a long face about it. Nope. So what if the stock market begins the terminal phase of its long bear market – the one that began ten years ago? So what if the real estate market takes the next stairway down towards more foreclosures and lower prices? So what if the feds go broke?

We’re not going to sweat it. Instead, we’re going to enjoy it.

But how? Ah… Well, first, we’re going to stay out of US stocks in the short run. Then, we’re going to get out of US bonds and the US dollar…too. We’re going to stay in cash and gold…

And maybe we’ll learn to speak Chinese…

And more thoughts…

Deep Do-Do Horizon…

Well, Rand Paul, Ron’s son, has already put his foot in his mouth.

He’s quoted in the news telling the media to back off and give BP a break. “Everybody makes mistakes…” he says.

Of course, Rand is right. Even huge oil companies err. And anyone who tries to drill a hole in the earth’s crust a mile below the surface of the water, is bound to have a few ‘uh oh’ moments.

The size of the ‘uh oh’ in this case could be breathtaking. Who knows? On the one hand, the oil company acts like our son, Edward, 16, when he drops a glass or forgets to do his homework. “It’s no big deal… Don’t get all excited about it…” he says. On the other, there are ‘experts’ predicting an EE – an ‘extinction event.’ If enough black goo oozes out of the hole, they say, it could poison all the oceans…and make the planet uninhabitable! The continental US will be a land crowned with brotherhood from slick to shining slick.

We don’t know what to think. So we don’t think anything at all. Besides, the newspaper tells us that Kevin Costner has invented a new technology for cleaning up the ocean – called “ocean therapy.” No kidding.

But the media is on BP’s case. And the politicians too. Nobody likes a big oil company. And Rand Paul’s comment – according to the press – just proves the man is not fit to sit in the US Congress. The press wants someone who knows how to fake outrage when the moment calls for it.

We don’t know Rand Paul; we only know his father. Pere Paul is the kind of politician the country needs but won’t accept. He offers real ‘change.’ That is to say, if he had the power to do so, he would unwind the welfare/warfare state. He would more-or-less, let people alone to get on with their own lives again.

But that is not what Americans want…neither Republicans, Democrats, nor Tea Party members. Nor is it what voters want. What the man on the street seems to want is cheaper gasoline, free health care, food stamps, Social Security, wars and boondoggles. At least, that’s what the evidence suggests. He wants protection from everything and a free lunch too.

We don’t know about Rand.

But as for Ron…the country doesn’t deserve him.

Regards,

Bill Bonner

for The Daily Reckoning Australia

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• Government Debt
• The Country is Going into a Recession with its Finances in the Worst Shape Ever
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Today, the euro. Tomorrow, the dollar.

The euro is taking a beating. Investors are worried that it won’t survive Europe’s debt problems.

Note, we said ‘debt’ problems. Many experts still believe it is a liquidity problem. That is, they think it’s just a problem of finding financing. They blame speculators and hedge funds for panicking…or for deliberately cutting off the flow of juice.

But the speculators are just doing their job. They see that the real problem is debt. Greece, for example, has government debt equal to 120% of GDP. It’s too much. And even if all their austerity measures are put in place successfully – that is, if the Greeks go along with proposed budget cuts – the level of Greek debt will still increase, to 150% of GDP.

In other words, the fix makes things worse, not better. Debt needs to be defaulted…and restructured…not increased.

And it’s not even sure that the fix will happen as planned. Spain’s big unions are planning a huge strike for June 8th. Malcontents, anarchists, public employees, retirees – all are resisting budget cuts. And as long as the fix is in, they figure they can get away with it. Most likely, the only way to really rein in spending is by cutting off the money.

With the cuts or without them, the situation looks bad. What will happen? Some think Germany will leave the euro. Others think Greece and Spain will leave.

Who knows?

But the euro is not alone. The worst deficit on the east side of the Atlantic is not in Greece. It’s in England. And the worst household debt is not in Spain; it’s in England too.

Not surprisingly, the pound is falling. This week, speculators are betting against sterling at a record level.

And the US dollar can’t be too far behind. From the US to Britain to Greece, the basic numbers are very similar. Debt and deficits are high – with no obvious way to bring them down.

“Divided Europe Spreads Contagion Fears in US,” says a Reuters headline.

Reuters sees the effect; it misses the cause. Debt is not catchy. It’s more like cirrhosis of the liver or lung cancer. It’s the result of behavior, not the result of contagious disease.

Yesterday, in New York, the Dow gave back the gains it registered on Friday. It was down 126 points. It is clearly headed down. The question we’ve been asking ourselves: is this just another downtrend…or THE downtrend.

We’ve seen the top. Somewhere up ahead is the bottom. At the top, stocks sell for more than 20 times earnings. At the bottom, they sell for less than 10 times earnings…maybe as little 5 times earnings.

If this is THE big downtrend, it will keep taking stocks down until it finally reaches bottom – even if there are a few bounces and countertrends along the way. Look for Dow 5,000 or less – sometime in the future.

In the meantime, gold went way up yesterday – a $17 gain. The fundamental problem in the western world is debt. That debt is stated and measured in terms of paper money. Rather than let the debt go bad, governments are trying to increase the supply of money so that debtors will be able to pay. But governments don’t have any money, so they have to issue more debt first (magnifying the problem). Then, when governments can’t pay, they will probably issue more paper money to cover the problem. How this will play out exactly, no one knows. But it is sure to spell T-R-O-U-B-L-E. And when there’s trouble, people turn to gold.

Here at The Daily Reckoning, our guess is that the bull market in gold will continue until the monetary system finally falls apart. Then, the dollar, the pound and the euro will ALL be going down – fast – against gold and other real assets. And all forms of debt, denominated in paper currency, will be marked down sharply. Many will disappear…worthless…

And here we offer a prediction:

The employees of the US Federal Reserve will ask to be paid in gold before the crisis is over.

And more thoughts…

Banks aren’t lending to private businesses. And now, they can’t raise money from the bond market either: Sales of corporate bonds have collapsed.

Bloomberg reports:

Corporate bond sales are poised for their worst month in a decade, while relative yields are rising at the fastest pace since Lehman Brothers Holdings Inc.’s collapse as the response by lawmakers to Europe’s sovereign debt crisis fails to inspire investor confidence.

Companies have issued $47 billion of debt in May, down from $183 billion in April and the least since December 1999, data compiled by Bloomberg show. The extra yield investors demand to hold company debt rather than benchmark government securities is headed for the biggest monthly gain since October 2008, Bank of America Merrill Lynch’s Global Broad Market index shows.

Concern that European leaders won’t be able to coordinate a response to rising levels of government debt from Greece to Spain, while US legislation threatens to curb credit and hurt bank profits, is driving investors away from all but the safest securities. The rate banks say they charge each other for three-month loans in dollars has almost doubled since February.

“This is a quintessential liquidity crisis,” said William Cunningham, head of credit strategies and fixed-income research at Boston-based State Street Corp.’s investment unit, which oversees almost $2 trillion. “It’s not inconceivable to imagine a situation where the markets behave so poorly, the liquidity behaves so badly, and risk- tolerance just evaporates that – particularly in Europe – consumers contract, businesses stop hiring and stop investing, and economic activity halts.”

Mr. Cunningham doesn’t understand what is going on. It’s NOT a liquidity crisis… It’s a debt crisis…aggravated by a stupid government response.

Almost all capital in the western world (and Japan, for that matter) is going to the government. The private sector is deflating…the public sector is inflating…

.the whole process will continue until it blows up.

Regards,

Bill Bonner
for The Daily Reckoning Australia

Similar Posts:

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• The Euro is a Symptom of Centralisation
• USA Has Fives Times As Much Sovereign Debt As All the PIIGS Put Together
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• The U.S. Dollar is Not the Euro

We’re back in Paris. The flight on Air France was long, but not disagreeable. It was even better in the First Class cabin. Not that we were in it. But we were curious about the people who were.

Usually, on the Air France flight from Washington to Paris, you see a few rich people. You also see some people you wonder about. Typically, there is an African diplomat…or a hack bureaucrat from an international agency. Sometimes you will see a hip-hop star…or a fashion model. Or just someone who lucked into an upgrade.

But on the flight from Beijing, the people traveling in first class were almost all Chinese. We could not tell for sure, but they didn’t have that dull, stuffed-shirt look of politicians and aparatchiks. Instead, they looked like real entrepreneurs…real business people…people who probably paid for their tickets themselves.

Here in Paris, the weather is warm. Everywhere you look, people are out at sidewalk cafes. Life is very pleasant in Paris…refined…stylish…

.but where’s the excitement? The novelty? The growth? The innovation?

There’s something missing… It feels a little old… A little depasse…a little like yesterday’s news…a little stale…

.like, soooo 20th century…

The buildings here are old. The money here is old too. In China, everything is new. New buildings. New roads. New money everywhere.

We’re always wondering how the world works. How can a nation of 1.3 billion people under control of the Communist Party become the most dynamic, most capitalistic, most success-oriented race in the world? How can they grow their capital wealth at 3 to 10 times the rate of the US – when America is supposed to be the “most flexible and most sophisticated” economy in the world?

You’ll remember that Wall Street claimed to be using its derivatives and other math-heavy, fancy-pants products to make the economy safer while speeding up the rate of growth. It claimed to be way ahead of the rest of the world in its ability to raise and allocate capital. To hear the nation’s leading economists and Wall Street banks tell the story, allocating capital to its highest, most efficient uses is what makes an economy grow. That’s capitalism right? Using capital to make people richer. So, who are the world’s best capitalists? Surely the people with the most experience at it, right? And the people who got Nobel Prizes for describing how it works, right? And the people with the most capital…the most skills…the biggest market…and the greatest success record in history, right?

So how is it possible that people who just discovered capitalism 20 years ago could do a better job of it than Harvard grads motivated by million-dollar bonuses? How could a smart guy, with the best financial education that money could buy, with hundreds of years of capitalism behind him, backed by a government that professes to want to help him and flanked by almost unlimited capital, technology, and expertise, fall right on his face? How did so many winners turn into losers?

We’ll have some ideas on the subject later in the week.

Back to the markets…

Stocks bounced on Friday. The Dow rose 125 points following a big drop on Thursday. Gold lost ground too – down $12.

US stocks are now down about 3% for the year. The markets are deflating…

Don’t expect to find out by reading the market commentary in the mainstream press!

Journalists, commentators and the financial authorities are busily misunderstanding everything. According to the weekend analyses, last week’s downturn was a reaction to bad news from Europe. They claim it’s all the fault of the dumbo Europeans, who can’t get their act together. They created a jacked-up common currency – the euro – but never unified their economic and fiscal policies. So many of the member states got in trouble. And now the others are reluctant to bail them out. And the risk is that either the strong nations drop out of the euro, or the weak nations are kicked out. Either way, the whole thing could collapse in a heap.

Europe has a problem. But at least it’s out in the open. Everyone can see what is going on.

But that’s not why stocks fell. We don’t know why they fell. But we know it wasn’t just because investors were nervous about what is going on in Euroland.

The commentators and financial authorities have misunderstood everything…

.from what caused the crisis of ’07-’09…

.to what good the bailouts achieved…

.to what is happening in the markets today.

Tim Geithner, for example, is quoted in the weekend press telling the whole world that the ‘recovery will continue despite problems in Europe.’

He does not seem to realize that the recovery is not real…and that problems in Europe are really no different from problems in the US…

The problem is too much debt – in Europe, Japan and the US. The bailouts add trillions in new debt. This is not a way to solve the problem. It is a way to make it worse.

There are emerging economies. And there are ‘submerging economies,’ says our old friend Jim Davidson. The economies of Japan, the US and Europe are sinking under debt. All the slick Wall Street products merely added more debt to the private economy. Now, central banks and central governments are adding more public debt, too.

Markets will react to the fundamental problem – no matter what the pundits and politicos say. They will mark down asset prices in the debt-burdened economies… The Great Correction is at work.

And more thoughts…

An update from the Emerald Isle, from our own Irish gem, Ronan McMahon. Ireland has been leading Europe by pledging deep cuts in the public budget. With a much lower government debt than the US, Ireland could still save itself. So far, the Irish have gone along with the ‘austerity’ measures with good humor. That may be changing:

“I really hope Ireland can hobble along (re below) but it seems to be looking more and more like a best case scenario. We ran the largest deficit in euro land last year. Tax revenues continue to tank this year. The banks need another 20-30bn, which could bring this year’s deficit north of 30% if the cash is dished out this year. The government proudly told us when they started giving Anglo [a major Irish bank] cash that it was ‘off book’ so it was ok. Now Europe is insisting it’s booked the year it’s paid. That’s why last year’s deficit numbers were revised up in March of April.

“We took our first doses of medicine but the mood is changing. There was a mini riot outside the Dail (parliament). The police held the line…ironic given that there have been quite militant murmurings of action from within their representative body. Another dose of medicine is due in the next budget. Another 3bn in cuts needs to be found (although the EU are now looking at our books to see if we need to shave more). This time it won’t be so easy to find or to cut.

“NAMA (our bad bank) seems to be insolvent from the get go, and may need to be recapitalized. Not even a single euro of interest is being paid on a huge chunk of the loans it has taken over. Our economy is completely out of whack. Big multinationals are doing well making chips to keep your computer running or stents to keep your heart running or little blue pills to keep other parts running. But, in total they only employ about 100,000 people.

“The public sector is bloated and horrifically expensive.

“Exporters to the UK, or retailers north of a line between Dublin and Galway have been living a nightmare with sterling weakness… Many have just disappeared. For the past 8 years the service sector was pretty much based on us selling houses to each other. Everyone had a ton of money…the bricklayer, the mortgage broker, the solicitor, the realtor, the BMW sales man, the stockbroker… That’s all gone.

“The residential real estate tidal wave hasn’t hit yet. Banks are ratcheting up interest rates in line with their cost of money. People will start walking away from their homes as they loose their jobs. Emigration is back…

“It’s pretty bleak. Hopefully we can hobble until we find the bottom of the rainbow.”

Regards,

Bill Bonner
for The Daily Reckoning Australia

Similar Posts:

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• Obama Plans to Do Away With Ireland’s Tax Advantage
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• Stock Markets were Down Friday in Europe

The primary trend is down…

Stocks fell again yesterday. The Dow lost 66 points.

The big shakeout was in the gold market – with a fall of $21.

It is unusual for gold to fall more (proportionately) than stocks. So, what’s the gold market trying to tell us? And why didn’t it mention it before?

As forecast, rates of delinquency and foreclosure are hitting new records. One of every 10 American homeowners is in trouble.

Unemployment shows little sign of improvement, with hundreds of thousands of new college grads joining the jobless this month.

And now this: prices are falling at the retail level too:

The New York Times:

Consumer prices fell in April for the first time since early last year, and inflation rose at its slowest rate since the 1960s, a new government report said.

Energy prices led the decline, falling by 1.4 percent in April, the Labor Department said.

Consumer prices over all fell in April by 0.1 percent, the Labor Department said in its monthly report on Wednesday. The decline was the first since March 2009. Prices rose by 0.1 percent in March 2010.

The downturn was led by a decline in energy prices, especially for gasoline and natural gas, the report said. Energy prices fell by 1.4 percent in April, the department said.

Food prices rose 0.2 percent, mostly because of higher costs for meat, poultry, fish and eggs.

But without the volatile prices for food and energy, the core index for consumer prices remained flat, as they did in March. Over the 12-month period that ended in April, the core index rose 0.9 percent, which economists said was the lowest it has been since the 1960s.

Everything is going down. Stocks. Commodities. Real Estate. China.

What happened to the recovery? Is it taking a breather? Is it just ‘fragile,’ as most economists believe?

No. It hasn’t slowed down. It isn’t fragile. It just doesn’t exist.

Paul Volcker:

“Any thoughts that participants in the financial community might have had that conditions were returning to normal should by now be shattered,” he said. “We are left with some very large questions: questions of understanding what happened, questions of what to do about it, and ultimately questions of political possibilities.”

No return to normal. No recovery. No inflation.

But before you get too comfortable with falling prices, remember that they can rise suddenly.

Dear readers will recall our Daily Reckoning position in the inflation/deflation debate. Asked whether we are headed towards inflation or deflation, we reply: ‘Yes!’

Pressed to give a more helpful response, we elaborate:

‘We will have both inflation and deflation. Probably in reverse order. Prices will fall as the private sector de-leverages. But they will eventually rise, as the public sector both leverages itself with debt and then monetizes the debt by creating more dollars.’

We are still in the early stages of what is to be a long period of restructuring and re-adjustment – a Great Correction. So far, the private sector has begun paying down and destroying debt. And the public sector has begun to increase its debt and destroy its own credit. Falling prices tell us that the private sector de-leveraging is continuing…and that the public has not yet lost faith in the government’s money. That will come.

Paul Volcker also said that “time is running out” to save US finances. You can’t go on a spree, spending trillions of dollars you don’t have, and not suffer the consequences eventually. Unless action is taken quickly, says Volcker, it will be too late.

The Wall Street Journal reports that state pension funds may already need a $1 trillion bailout.

Europe just initiated the biggest bailout to date – almost $1 trillion to bail out Greece, and spare mainly French banks from taking the losses they deserve.

But Greece is in no worse shape than the US. Deficits are about the same. So is total debt, when you include the debt of Fannie Mae and other enterprises, for whose debt the feds are now responsible. And how about funding those debts? Turns out, as a proportion of GDP, America’s funding requirements for this year are actually 50% greater than the Greeks.

One day, investors, householders and lenders will lose confidence in the full faith and credit of the United States government. Then, even in a slumpy economy, inflation will return. People will rush to get rid of their dollars. Prices will rise, fast. This crisis has a long way to go…

And more thoughts…

Last night, we got in a cab and went over to a restaurant near the Peoples’ Bank of China and the old city gate. We ate outside, on a rooftop terrace, looking out over the city.

We were struck by awe and wonder. In the space of two decades, Beijing has turned into one of the world’s biggest, most dynamic, and most appealing cities.

It is 4 times New York. And five times LA.

But we measure everything against Baltimore…and compared to Charm City…well…nothing is quite like Baltimore. And it’s probably better that way…

Beijing is striking in many ways.

Coming out of the Grand Hyatt, we hopped in a cab and were immediately stuck in a traffic jam. In front of us was a Mercedes Maybach. We have only seen one of these cars before – in Germany. They are such expensive automobiles you rarely see them. And yet, we realized that there was not just one of them in front of us. There was one behind us too. It was as if we had blundered into a government motorcade…stuck between the president of Russia and the president of Dubai (if Dubai had a president). But this was just an ordinary street scene. And all around were other black, luxury automobiles.

In the shopping mall under the hotel you can find any luxury brand you want. Hermes, Louis Vuitton, Gucci. And you can find dozens of fancy shopping malls in Beijing. Maybe hundreds of them. Looking out on the city lights from our restaurant terrace, we could see the town stretching out for miles in every direction. Office towers, hotels, and apartment buildings – high-rise, low-rise, in between rise – north, east, south and west.

At first, we thought the center of town had probably been the site of huge government-directed investment projects. We expected the rest of the city to be miserable and poor – like the slums of Buenos Aires or ‘the projects’ in Baltimore. Not at all. Everywhere you look you see new buildings…construction cranes…bridges and overpasses…new restaurants…new shops…

When was the last time they built an important new building in Baltimore? We can’t remember. Maybe it was the Ravens’ football stadium. There have been a few piddly structures erected around the harbor. But most of the building stopped with the harbor renewal projects of the ’80s and ’90s.

Even in New York, a new building rises from time to time. But the city hasn’t changed much since the ’20s. It has already been built up and built out.

America is what it is…and what it has been. Now, it is trying to hold onto its place…while China shoulders its way up to the bar.

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Deflation!

Yes, dear reader…prices are falling. In April, the US producer price index fell 0.1%.

Oil fell to $72 yesterday. The Dow fell 114 points.

Copper is down more than 20% from its high. Chinese stocks are down 21% so far this year.

The CRB – a measure of commodities prices – is down about 12%.

Even gold got whacked yesterday – down $13.

What’s going on?

Well, we’re in that long period of adjustment known (to us!) as the Great Correction.

In the first stage…

.the markets discover that its assets aren’t worth as much as investors had thought….

.creditors find that their credits aren’t as good as they had believed…

.consumers realize that they don’t have as much money to spend as they had hoped…

.businesses find that they don’t have as many sales as they had projected…

.and governments wake up to the fact that tax revenues are coming in at less than expected levels.

Boo hoo.

This leads to all sorts of gnashing of teeth and congressional hearings. But it’s just the way the world works.

Unfortunately, the way the world works includes a lot of preposterous ideas about the way the world SHOULD work…and a lot of scurrilous efforts pretending to make them work better.

So, while the private sector generally de-leverages – with lower prices and lower debt levels – the public sector tends to leverage up. And to hear some economists tell it, if the feds don’t come to the rescue with bailouts and boondoggles, the whole world economy will sink into a Dark Age.

A few even say the feds have no choice. Richard Koo maintains that if governments stop their stimulus spending – which, of course, adds trillions to the world’s public deficits – the deficits will go up!

Come again?

Yep. Koo’s point is pure Keynesianism…probably correct…and completely absurd at the same time: try to cut your deficit by reducing stimulus spending, he says, and you’re likely to destroy the economy, and increase the deficit too. More on that later in the week…

We’re not going to bore you with economics today – not while the world’s biggest and most dynamic country lies right outside our hotel.

We’re staying at the Grand Hyatt. But we could be in any one of dozens of international hotels in Beijing. The city is full of bright, modern, new buildings…bright, modern, new hotels…and bright, modern, new people.

“There’s a HUGE generation gap in China today,” said a dinner companion last night. “People our age [he was about the age of your editor] remember the Cultural Revolution. The only way to survive was to keep your head down. You learned not to stand out in any way. Everyone wore the same clothes. Everyone said the same things. If you didn’t you might get sent to a labor camp…or worse.

“But the younger generation has grown up in a China that is completely different. All they’ve seen is progress…spectacular progress…incredible growth. And they know that the way to succeed in this new China is to take chances…”

Keep reading…

China has become a nation of entrepreneurs…risk takers. It resembles the US in the ’20s – before the country was taken over by corporate managers and political mandarins. China is a good place to make money.

‘Rags to riches’ stories are so common you wonder if there’s anyone left to wear rags. One of those stories had an unhappy ending yesterday when one of China’s richest men was sentenced to 14 years in jail for corruption.

Today, China seems like a more capitalist country than the US. It is full of gamblers and innovators. The pace of change is breathtaking, with construction cranes all over the city. And the buildings themselves are often daring…the roads are straight in Beijing, but the buildings lean. Some walls lean in. Some lean out. Some lean one way and then the next.

The city, what we have seen of it, does not seem anything like a ‘third world’ hive. Instead, it is a giant, modern metropolis. We came prepared to compare it to Managua or Mumbai. Instead, it compares favorably to Chicago or New York.

Beijing is not our kind of city. We prefer places where we can walk around – like Paris, Zurich or London. This is more of a car-friendly town, like Amarillo or Brasilia. The streets are wide. The buildings are tall and isolated. You go from one complex of modern high-rises to another.

But this city is much more lively than Paris or New York. It is a city still taking shape…a city that is still figuring out its role in the world. It is “making its way across a river by feeling the rocks,” as the Chinese say.

Beijing is still a city for tomorrow…

But is China a buy or a sell? We asked local experts.

The answer: it depends.

China probably is a bubble economy, in many ways. Property prices soared as people speculated on real estate. Individuals bought apartments and houses as a way to store the money they’d made in business. But unlike the US, they paid cash. Now, prices seem to be going down. Some areas are going ‘no bid,’ with prices collapsing.

But since there is little mortgage debt, it does not seem likely that the residential sector will suffer the same dramatic decline as, say, Las Vegas…

The news this morning is that Las Vegas is in the middle of a housing resurgence. More than 1,000 new units are under construction.

But wait. The city has some 15,000 empty units still on the market.

“My parents bought a house in Las Vegas in 2000,” said one of our new friends last night. “They paid $220,000. Then, in the boom, it went up to about $350,000. Now the price of the house is about $190,000.

“There’s a house I saw the last time I visited. It was on the market in 2006 for $2.9 million. A big house up against the foothills. With a guesthouse and two pools. A really nice place. It was being offered at only $700,000.”

While the residential market is not highly leveraged in China, the commercial market floats on a sea of debt.

“What happens is that local governments get into deals with local developers,” our host explained. “Between the two of them, they borrow huge amounts of money from the banks. Then they build something that feels good to everyone associated with it, but that might not have much commercial potential. Nobody wants to see the project fail, so it tends to be refinanced…and refinanced…until it is carrying a mountain of debt.

“What we’re going to see, I think, is that all that debt will come crashing down. It’s going to be a mess for while. Maybe a long while.”

Does that mean an investor should stay away from Chinese shares?

“Not necessarily,” says our local expert. “Many of these companies are still growing very fast…and many are not dependent on the building boom. Some of them have nice little niches…like selling beer and soap to a huge population of people whose incomes are rising. And because their prices have been knocked down, you can buy these companies for about 8 times earnings. It could be that they’ll go down some more in the coming crisis. Still, they could turn out to be great investments over the long run.”

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Last night, we went to a marvelous restaurant – 1949.

The restaurant is in a complex in the middle of the business district. At relatively little expense, the owners have created a stylish oasis – one that they can knock down in a few years in order to build a high- rise on the precious property.

Dear Readers will recall that Peking duck is on our short list of the world’s greatest, almost divine, inventions. Here, at 1949, we had Peking duck in Peking. And it was the best ever.

The Chinese have been the source of many innovations – from pasta to gunpowder. But Peking duck is their finest contribution to human life.

*** “Talents heed the call of home,” says China Daily.

For many years, some of the brightest and best of young Chinese left the country. They considered the opportunities for education, entrepreneurship, and career advancement better overseas. Often, they went to the finest universities in Britain, Canada and America. Then, they took top jobs at multi-national companies, research institutes…and in academia.

But now they’re coming home, says the paper.

We met a number of these people yesterday. US-educated…sometimes US-raised…the overseas Chinese are now finding more opportunities back in China.

Why?

Because there is more money in China. Growth rates are higher. And new businesses find capital more easily.

In short, China is booming. And booms bring prodigal sons back home.

“I studied law in America…”

“I went to university in Montreal, Canada…”

“I used to work for Baker Mckenzie…”

“I grew up in Tennessee…”

It seemed like everyone we met had ties to the US or Canada. But now they’re doing business in China, not in North America…

Boom, Baby, Boom!

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Boom, Baby, Boom…

What’s going on in China?

That’s what we’ve come here to find out. We paid a visit to China 25 years ago and haven’t been back since. More on China in just a minute…

Let’s look at what is going on in the West, first.

Yesterday, the Dow rose slightly – after taking a beating last week. Gold settled at $1,228.

Dear Readers are out of stocks. So we’re not particularly worried. But we’re deeply interested. Has the bear market/Great Correction resumed – as we said it would? Or is this just more ‘noise’ – with no particular meaning?

We don’t know. But we intend to be in cash and gold when we find out.

Back to the Middle Kingdom…

First impression: this is not the same country it was a quarter of a century ago. The last time we were here there were almost no private cars. Everyone dressed in drab grey outfits and rode bicycles. There were no shiny new buildings. There were almost no restaurants. And if you saw a truck, it was likely to be broken down beside the road, with a couple legs sticking out from beneath it.

Second impression: wow! So many daring new buildings…such broad streets…so many construction cranes…so many fancy cars…so many electric bicycles…

..there is no doubt that China is far outpacing Europe and the US in many respects…that the 21st century will be defined by what happens here, not what happens in the West.

Third impression: China is in trouble.

“Stocks dive on housing fears,” says the headline at China Daily.

The Shanghai Composite index suffered its biggest drop of the year yesterday – down 5% after losing 20% since January.

According to the papers, the market has been spooked by the government’s efforts to restrain real estate speculation. The Chinese have a lot of money. And Chinese investors have relatively few places to put it. They tend to buy real estate…or stocks. This has pushed up property prices by as much as 100% in some areas, over the last 12 months. And it has caused the government to worry about a bubble.

Is the Chinese economy a bubble? Most likely – yes. Will it blow up? Again, most likely, yes. In fact, it seems to be blowing up right now. After leading the world in the bounce phase, it now may be leading the world in a return of the Great Correction.

In a nutshell – China’s economy is unbalanced…with far too much weight given to exports. Typical of successful export-oriented Asian economies, it has built too much capacity.

The last big economy to run into this problem was Japan. After the big boom of the ’80s, Japan had too many factories…and too much capital invested in the export sector. When the stock market realized it, a big sell-off began. That bear market lasted at least until 2009 – 19 years. For all we know, it’s still not over.

Stock markets are always discovering what things are really worth. Right now, they’re realizing that China’s companies are not worth quite as much as they thought a few weeks ago.

Will the sell-off continue? We don’t know. But most likely – yes. Because a big boom is typically followed by a big bust.

But wait a minute. How can we reconcile Impression #2 with Impression #3? How can China be the country of the future and still face a big financial upheaval?

Well, that is the future!

Much the same thing happened in the US after 1929. The US faced a tough period of adjustment – made worse by the efforts of the Hoover and Roosevelt administrations. Instead of letting the problem take care of itself – as they did during the 19th century – the feds intervened heavily. In effect, they were trying to keep the future from happening.

You can slow the future… You can make it more painful. You can drag your feet and shut your eyes…but the future is going to happen, whether you like it or not.

As it came about, the future for the US was bright. It just had to live through the Great Depression and WWII first.

China must be facing its own tests and challenges. Maybe they will be political. Maybe they will be only economic. But they are bound to be monumental…

And the events in Thailand show us how they can be bloody too.

“Thai street battles escalate,” says today’s Financial Times.

As of this morning, 29 people have died. More than 230 have been hurt. And a quarter of the country is locked down in a ‘state of emergency.’

Thailand’s troubles look less and less like street protests and more and more like a civil war. Who’s right? Who’s wrong? Who are the good guys? Who are the bad guys?

Who knows? As in most civil wars, it’s probably a shame that both sides can’t lose.

But it shows what can happen….

Bill Bonner
for The Daily Reckoning Australia

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We just stepped off the plane… We’ll have to catch our breath and open our eyes before we have anything to say about China…

In the meantime, let’s look back at what is happening in Europe and America.

And we will begin by thanking Paul Krugman, economiste ordinaire at The New York Times.

Sometimes, in the dark of night, we are haunted by demons of doubt and worry. Especially when we’re alone. And far from home.

Maybe we’re wrong. Maybe we’re leading thousands of loyal Dear Readers astray. Maybe the Great Correction isn’t what we think it is. Maybe deficits are good. And maybe the US will never run itself into the Greek-style yoghurt.

What a relief it was to find Krugman in today’s International Herald Tribune! Naturally, Krugman disagrees with us completely. Which puts our mind at ease. If Krugman agreed with us, we’d have to re-think our position.

“America is not Greece,” he says. So far, so good. His geography is correct.

It is all downhill from there.

Krugman won a Nobel Prize for his early work. Which makes us wonder about the Nobel committee.

The US is running about the same size deficit as Greece; but don’t focus on that, says Krugman. The two places are not the same, he insists. Because the US has a “much lower debt level.”

He’s wrong about that. If you add to the US national debt the debts of Fannie Mae, GM, and all the other financial holes, which the government will ultimately have to fill, the crater is about 120% of GDP – the same as Greece’s debt.

“Even more important,” he writes, “is that we have a clear path to economic recovery.”

Oh. Where’s that? As near as we can tell, the path is twisty, poorly lighted and full of lethal obstacles. There are now nearly as many people relying on the US government for food as the entire population of Spain. There are about as many people unemployed in the US as the entire populations of Greece, Portugal and Ireland…combined. And there are as many people who have gotten negligible income gains as…well…the entire population of America.

Without more income, how can Americans increase spending? Without more spending, how can the economy really grow?

The government can do the spending! Well, good luck with that. Already, the return on additional borrowing in the private sector is so marginal that banks are generally unwilling to lend. And the return on government debt? It looks like a positive return, at first. People spend transfer payments just like any other money. Economists like Krugman can’t tell the difference. But government spending generally produces negative real growth.

Nevertheless, Krugman explains that IF the economy improves…and IF the administration cuts deficits…and IF the new health care program doesn’t cost more than the Obama team says it will – heck…everything will work out just fine! With a few tax increases, of course.

Then, he tells us that, yes, over the long run we’re going to hell in a handcart. But that problem can be solved by a “combination of health care reform and other measures.”

Finally, he’s right about something. Enough ‘other measures’ and you’ve got the problem licked.

What other measures? Well, the deficit is now at about 10% of GDP. So, all you’ve got to do is to cut spending by 11% of GDP and you’ve got a surplus. Let’s see, where are we going to cut $1.4 trillion dollars? That’s cutting out 100% of the defense budget. And 100% of Social Security too.

And if you don’t do that…you get more deficits. And if you get more deficits, you end up with more debt. And if you keep adding debt faster than real GDP growth, you eventually get to the point where the markets cannot or will not finance it. And then you’re Greece.

What is likely to happen is that yields will stay low enough for long enough to make people think Krugman knows what he is talking about. They’ll think that the US can borrow as much as it wants for as long as it wants…

In The Washington Post, economist James Galbraith is already a believer. He argues that the chance of getting into a Greek-style jamb is “zero.” He says deficits don’t lead to trouble. The US has been running deficits since the ’70s, he points out.

And look at the Japanese, he adds. They’ve been running huge deficits (fiscal stimulus) since their economy slipped up in 1989. And they’re still able to borrow at practically zero interest.

Makes you wonder how Greece got into trouble. It ran plenty of stimulating deficits. Then again, everything was all right in Greece until it wasn’t.

A man jumped off the 65th floor of a skyscraper. As he went by the 11th floor, the secretaries heard him remark:

“All right so far.”

The US is all right so far. So is Japan.

And more thoughts…

– Deep Do-Do Horizon

“Following the Gulf disaster…it will be a long time before any new permits are issued for drilling for oil in the Gulf…” said Rick Rule, at the Family Office get-together this weekend.

And this from Bloomberg:

Senators from California, Oregon and Washington introduced legislation to ban oil drilling off the West Coast amid mounting concern about the spill in the Gulf of Mexico.

“We believe that offshore oil drilling is simply not worth the risk,” Senator Dianne Feinstein, a Democrat of California, told reporters today in Washington.

The measure would amend the Outer Continental Shelf Lands Act to impose a permanent ban on drilling off the three states.

Offshore drilling was banned for decades after a 1969 spill about five miles off the Santa Barbara coast soaked California beaches in a 35- mile long oil slick. In July 2008, then-President George W. Bush lifted the presidential moratorium. Congress allowed its own drilling ban to expire three months later.

“This oil spill could destroy the future of offshore drilling,” adds our Family Office researcher, Charles Delvalle. “More states will be allowed to decide whether they want drilling offshore or not. And Senators are trying to allow neighboring states to have a ‘veto’ over any one state’s offshore drilling decision.

“So let’s say Florida wanted to put some offshore rigs up close to Georgia. If Georgia doesn’t want that rig up, it can ‘veto’ Florida’s decision.”

Daily Reckoning readers can see where this is going. Even if the oil were available beneath the sea, the oil industry is going to have more and more trouble bringing it to market.

Rick notes that even on dry land, the oil industry is facing disasters. A number of major exporters – Mexico, Iran, Venezuela and Peru – could take themselves out of the export business in the next few years, he says, thanks to their habit of using oil revenues for social/political purposes and failing to invest in additional capacity.

This is occurring as the number of cars – and the demand for energy – is exploding.

Implication: a higher oil price.

“There’s plenty of $200 oil,” said Rick.

Trouble is, there isn’t that much $70 oil.

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Poor Fabulous Fab.

The young Frenchman went to all the right schools in Paris. He must have been good at math, because he got into Stanford. And then, it was onward and upward… He landed a job at Goldman. He was making millions. His girlfriend wrote to say how she’d like to curl up in his arms.

And then, at the tender age of 31, powee! Right in the kisser.

His beautiful derivatives lost 85% of its value in just 5 months, his clients get sore and now he’s got a whole posse of senators on his tail.

The senate torturers didn’t have any idea what Fabulous Fab was up to. They wouldn’t know a derivative contract from a household fusebox. But they knew something had gone wrong. They knew the public was out for blood. And they knew the lights were on and cameras were rolling.

This was the time to impress the rubes back home. Get some Wall Street hotshot in the dock and grill him hard. And a Frenchman to boot! What luck.

I-N-D-I-G-N-A-T-I-O-N! The senators were positively shocked…shocked!…to discover that Fab…and Goldman…were out to make money. Maybe they thought the Goldman was a public utility – like Amtrak or the Post Office. Government services don’t work very well, they may have told themselves, but at least they don’t make any money!

Yes, senators can feign indignation when it is called for. But what are they so indignant about? Well, that’s another matter. Who knows and who cares! The point is, the voters want to see them nail this little Frenchman…and they’re going to make a good show of it.

The media reports suggest that everyone played along on Tuesday. The senators were indignant. The Goldman fellow denied any wrongdoing…but regretted that had sent the emails out. While the senators pretended indignation, the Frenchman’s regret was certainly sincere. So was his denial. For, in fact, it’s hard to know what he did wrong. Yes, he played his clients for suckers, but so what? That’s what Fab Finance is all about – make money…and then dump the risk onto someone too dumb to know what he’s doing. And then, when he blows up…and the whole system blows up…in come the senators to bail everyone out.

From Fab’s perspective – and ours – if you can find bankers and hedge funds dim enough to take your derivative contracts – without wondering what is in them – you are performing a public service by separating them from their money. Better for the cash to be in the hands of someone who knows what to do with it – like Fabulous Fab himself.

But let us imagine that Fabulous Fab gets his hands on some real dough. And let’s imagine that he is not in the mood to gamble on his own jackass derivatives…or to find some chump to sell them to.

What would he do with the money?

Ah…here, he would have to close his newspaper and turn off his television and think deeply about what is actually going on in the world. Forget the circus surrounding Goldman. Forget the news flow. Forget even the ‘information’ coming from the markets.

Now, it’s time to think. This is real money we’re talking about…not just casino chips.

Fab is no dope. He’d probably look at what is happening with Greek debt…and he’d be suspicious of all government bonds. After all, Greece’s finances are not so different from a half-dozen other countries – including the US of A. True, Greece’s debt problems have investors running to the relative safety of the US…which lowers borrowing costs for the US and makes it easier for the feds to finance their debt.

But the problem of too much public debt can’t be solved by low interest rates and more debt. Eventually, the US runs into the same problem the Greeks face now. Only the US problem is even bigger…and there is no bigger, richer nation to bail it out.

Fab figures all of that out… He figures US lending rates may go down in the short run, but in the long run, the feds face the same predicament – they need to borrow more and more money just to keep the show on the road. And eventually, lenders will want higher interest rates. And it won’t be too long before Moody’s and Standard and Poor’s take a hard look at America’s balance sheet too.

The news yesterday was that the rating agencies may downgrade Spain, Portugal, and Ireland even further. And Reuters reported that the Greek debt alone would cost bondholders $265 million – if Greece has to reschedule (that is, if Greece defaults on its loans).

Greece now. Then Spain. Then Ireland. Then Britain. Then America.

And more thoughts:

Our “Crash Alert” flag is still flying. It’s been up there for so long it’s gotten a bit faded and tattered. But we leave it up; we never know when we will need it.

The Dow bounced yesterday – up 53 points after taking a big fall on Tuesday. Gold rose $9…and seems, once again, to be readying for a move on the $1,200 level.

Which brings us back to Fabulous Fab. What would he do if he had some really big money? Would he buy stocks? If he’s smart he’d stay away from them. This market could crack at any time. Stocks are cheap. And there are too many threats coming from too many different directions compared to the limited upside potential.

Would he buy bonds? Nope…bonds could surprise us all as de-leveraging resumes in earnest. They could be the only thing that resists a general turn-down in asset prices.

But who’s going to bet on a depression? Not Fabulous Fab. If he had big money, he’d just want to park some money safely…not gamble on the outside chance of a deeper slump. So what does he do?

He buys gold. That is why gold continues to creep up. The big money wants to protect itself. And it’s getting wary of government debt.

*** What’s going on in Arizona? The state legislature has passed a law that allows the police to stop anyone on the street and ask him for his papers. If his papers are not in order, the fellow is in trouble.

The idea is to discourage illegal immigrants.

Here at The Daily Reckoning our views on immigration are about as unpopular as our views on everything else. We listen to CNN en Espagnol in the morning. From what we can tell, immigrants from across the border are doing the country a big service. And illegal immigrants are the best kind. They work cheap. They stay out of trouble. They use few public services. And they don’t vote. What’s more, they know how to dance.

If we were all illegal immigrants, the country would have a much healthier economy. Labor rates would fall to levels where we could compete with other exporters. Social costs – food stamps, unemployment compensation, social security, medicare/aid – would drop. And non- voters couldn’t demand more bread and circuses from the legislature (currently, 47% of voters pay no taxes…)

Meanwhile, our old friend Jim Davidson thinks he’s spotted a new trend. For the first time ever, he says, immigration – legal or illegal – is not a problem:

“Note that according to the Center for Immigration Studies, a think tank that agitates for tighter border controls, the number of illegal immigrants living in the United States declined to 11 million in 2008 from 12.5 million in 2007. For the first time since the depths of the Great Depression in the early 1930s, more persons appear to have left the US than moved in.”

This is typical of a nation in decline, says Jim. It’s what happened to Great Britain after it lost its empire.

And now, there’s a new phenomenon: the illegal EMIGRANT.

First this news item from The New York Times:

WASHINGTON – Amid mounting frustration over taxation and banking problems, small but growing numbers of overseas Americans are taking the weighty step of renouncing their citizenship.

The Federal Register, the government publication that records such decisions, shows that 502 expatriates gave up their US citizenship or permanent residency status in the last quarter of 2009. That is a tiny portion of the 5.2 million Americans estimated by the State Department to be living abroad.

Still, 502 was the largest quarterly figure in years, more than twice the total for all of 2008, and it looms larger, given how agonizing the decision can be. There were 235 renunciations in 2008 and 743 last year. Waiting periods to meet with consular officers to formalize renunciations have grown.

It is not easy to renounce your citizenship. If you are wealthy, the costs can be very high, as the feds try to punish you for leaving. Davidson comments:

Just as there are “illegal immigrants” to the United States, so there are also now growing numbers of “illegal emigrants” from the United States. While statistics are necessarily sketchy, evidence suggests that there has been a dramatic upsurge in the number of US persons living abroad. According to the Association of Americans Resident Overseas, (AARO) apart from the military and other US government employees, 5.26 million US citizens reside abroad, a 67 percent increase since 2008. “Among the benefits the study cites of a life abroad are statistics that show expats earn more, pay less tax, have a better work/life balance, have an improved quality of life, enjoy broader cultural opportunities, and enjoy better job prospects.”

In the opinion of the US State Department the AARO estimate is 25% too low. The State Department suggests that about 1.34 million Americans have become “illegal emigrants,” which is to say that they have gone abroad and “fallen off the radar.” As one report stated, “If an American living abroad stops paying their taxes, stops visiting the US, stops using embassy or consulate services they will not be OFFICIALLY counted anymore.”

Regards,

Bill Bonner
for The Daily Reckoning Australia

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“Panel will tackle national debt,” says a headline in this week’s Washington Post.

Would anyone like to bet?

Who writes these headlines? What are they thinking? Are they thinking at all?

While the bi-partisan group of bumblers may do something; tackling the national debt – or even slowing it down – is not one of them. It would be going against the tide of modern financial history, which rolls debt into bigger and bigger piles and turns small problems into huge ones.

Let us look back. What has been the major trend of the entire past 50 or so years? Government has played a larger and larger role in the US and most western democracies. Only in the formerly (and for many, still) communist countries has government been rolled back.

The communists learned their lessons. They proved that government spending does not make people rich. But now…what’s this…? The US and other countries are greatly increasing the percentage of GDP spent by the government.

The communists proved that central planning didn’t work. But again, the US and others are now planning their economies more than ever – managing interest rates, directing capital to one industry while denying it to others, raising taxes on this…subsidizing that…regulating everything that moves…

The communists also proved that state ownership of industry was a bad idea. But the US and others now own banks, insurance companies, almost the entire mortgage business, and one of the world’s largest automakers.

Perhaps most importantly, almost all the ‘old’ democracies – notably the US – are taking on much more debt. Bankers do stupid things – the feds take over the debt. Homeowners do stupid things – the feds give them more low-cost credit. Politicians do stupid things – and the feds run up even more debt.

And it’s killing them. They can’t raise enough money through taxation to fund their spending plans, so they have to borrow. And borrowing exposes them to big risks.

In a few days, America’s first time house buyers’ tax credit program expires. It’s been a great success, say supporters.

Let’s see, how did it work? According to the news reports, the government gave away $12.6 billion in tax credits. Of course, some people would have bought a house anyway…and could have afforded one without the tax credit.

Wait…that means that the only additional sales came from people who 1) didn’t really want to buy a house or 2) couldn’t really afford one. According to economists’ estimates, each one of these people cost the feds $30,000 worth of tax credits.

And according to the results of an audit, $139 million was paid out to people who hadn’t bought a house at all. And one of the people who got the credit was only 4 years old.

A perfect federal program – it accomplished nothing at great expense…

And it adds to the debt!

Yesterday, the Dow sold off 213 points. Gold rose $8. In the aftermarket it soared even more.

What’s bugging the markets? Debt. Specifically, the debts of Greece…and Portugal…and Spain…

Last Thursday was “Black Thursday” for Greece. News reports told the world that Greece’s budget problems were bigger than people had thought. Traders dumped Greek bonds.

Greece’s debt is now ‘junk’…the rating agencies say that if the country is forced to reschedule creditors could get back only 30% of their money. Naturally, lenders are nervous. And investors fear that Greece’s problems are not limited to the Hellenes. Sovereign debt problems are as ‘contagious’ as HIV. All it takes is a little hanky panky of the wrong sort…and you’ve got it!

Greece’s budget deficit is 8.7% of GDP.

Portugal’s deficit is the same.

Spain’s is higher – at 10.4%.

Where’s the US deficit? Last time we looked it was projected to be as high as 12% of GDP.

By many measures, the US is actually in WORSE shape than Greece. And the rating agencies have already warned about a possible downgrade of US debt too.

And by all measures, the US has the biggest pile of debt in the world… Just wait until the sparks hit it. You’ll see the world’s biggest blow-up!

And more thoughts…

“Ask me how insurance works.”

“All right, how does insurance work?”

“Well, okay, you give me your money…”

“Is that all there is to it?”

“Yes.”

“Is that a joke?”

“Not exactly…”

Fire insurance works by sharing out the risk of a fire among hundreds of homeowners. In effect, if one house burns down, the others have already put aside enough money to rebuild it.

It’s a kind of voluntary socialism…freely collectivizing the risk of a house fire.

But just because you have fire insurance doesn’t mean you will leave a can of gasoline on the kitchen stove. You know it would be a big pain to replace the house and its contents – even if you were made whole financially. That’s why it works, because it doesn’t change human behavior. So, actuaries can calculate the odds of a fire fairly accurately.

But suppose you could insure against losses in the stock market? Or suppose you were guaranteed health care…or a comfortable retirement…no matter what you did? Wouldn’t you at least be tempted to live a little? To take chances? To spend a bit more?

And wouldn’t the whole economy change as a result?

For the last 50 years – or more – we have been taking part in a vast experiment. What will happen as more and more risks and costs are socialized?

We already saw what happened in the mortgage market. Bankers used to take their risks one by one… If they thought a man was a good credit risk, they lent him money. Sometimes they were right. Sometimes they were wrong. Being wrong from time to time was just a cost of doing business.

But then the financial industry collectivized the risk. The banker lent, earned a fee, and then sold the mortgage on to Wall Street, where it was securitized, packaged and resold. What was the consequence? Well, mortgage lenders stopped worrying about individual risks. They changed their behavior and stopped using their own judgment. All they wanted was to close the folder, collect their fees, and move the paper on. Soon, they were lending without asking questions – using low-doc, IO mortgages. House buyers changed their behavior too. Easy mortgage credit pushed up demand…which pushed up prices. Pretty soon, the whole town was on fire.

But then the feds stepped in and collectivize the risk even further. Now, Fannie Mae and Freddie Mac are arms of the US Federal Government. And now we’re all partners in the insurance company! Now, when houses burn down WE ALL have to pay.

We’ve seen what happened when government collectivized other parts of the financial system too. You can collect Social Security whether you saved for your retirement or not. And you could get unemployment compensation whether you saved for a rainy day or not. And you can get food stamps whether you tried to find a job or not.

And now, if you’re a major Wall Street bank, you can get a bailout from Washington whether you deserve it or not.

How about that? The feds have spread the risk around so much that everybody pays for everybody else’s mistakes.

Is that a good system, or what? Government insures everybody against everything. Only the government doesn’t have any more money…

..So, then you give your money to government…

..and that’s all there is to it.

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Sunday morning, the Padre gave a mass at the little chapel next to the school. Then, he came over and blessed the new backhoe:

“Lord, we ask that this machine may help make the farm more productive and may make it a better place to live and work for all who live here.”

“Amen,” we said.

Local priests are in short supply. Ours is an intelligent man with thinning hair, who came from Spain to minister to the poor of the Andes. He and another priest take care of 22 different churches, covering a region bigger than the state of Rhode Island. Once he left on Sunday, he could not come back to bury Jorge’s father. So, blessing of the clergy was performed in Salta, before the journey to our ranch began.

Javier caught on quickly. After a few minutes of training, he could operate the backhoe better than your editor. There are some things economists can do well. At least, in theory. In practice, we’ve never found anything.

Backhoes were not designed for intellectuals. By the time we have calculated the angle of attack, a good operator has already dug two holes. Maybe most things in life are like that – better done by instinct than by calculation.

Javier turned off the motor and came down from the cab. We were giving him instructions in maintenance – ‘graselo cada dia, sin excepcion’ – then we heard the deep, full-throated noise. It was an old Chevy truck coming up the hill.

“That must be Jorge, with his father’s body,” we said to Javier.

“Mi abuelo [my grandfather],” said Javier. The cowboy’s face was as hard and immobile as the stone mountains behind him. It was not an unfriendly face. But it was not a face you’d like to see in a bar fight, either, at least not unless he was on your side.

The old truck usually ran on bottled gas. But it could only get gasoline at the station in Molinos…so it switched back to gasoline, which caused it to run poorly, occasionally coughing and sputtering.

Still, it made the trip from Molinos in an hour and a half, across the desert to our ranch, with the coffin of Jorge’s father in the back. Along with it came four other dusty pickups – each one carrying more of Jorge’s family. Brothers and sisters, nieces and nephews…all came back to the cradle of the family itself, where Agostin, father of Jorge, Evo, Rosa, Candelaria, Josephina and Fermina, was born.

The body already lay in the chapel, in front of the altar, when we got there. Candles were lit on all sides. A few people kneeled, praying in their pews. Others milled around outside.

We shook hands with the men standing outside our church. The women inclined their cheeks upward for a kiss. All were shy. Many of them had never had met a real economist; probably, they never will. Then, we went inside, took off our hat, stood before the closed casket and made the sign of the cross on our chest and went back outside to await events.

Soon after, Jorge’s wife took charge.

“In the name of the Father, the Son, and the Holy Ghost,” she began. “We are gathered here to say goodbye to Agostin… He has taken a road we all must take. Santa Maria, Mother of God, Pray for Us.”

“Santa Maria, Madre de Dios, Ruege Para Nosotros….

“Santa Maria, Madre de Dios, Ruege Para Nosotros…

“Santa Maria, Madre de Dios, Ruege Para Nosotros…”

Once the litany began, it seemed like it would never stop. Maria called upon the saints, by name…and asked for the help of the angels and Heaven itself…counting out the beads of her rosary…reaching out to the Kingdom of God and imploring its denizens to welcome her father-in- law, to take him up into their celestial hotel and make him feel like he belonged there. As for those left still alive, she asked for help for them too. Would God give them a little help…a raincheck…she asked…a reservation for the future, for the time when we too must join Agostin…and all the saints…in our eternal home.

When the litany ended, the choir assembled. Gustavo led it in a death chant…a simple tune sung over and over, with old women keening in the background. The effect was unlike any church music we had ever heard. There were no musical instruments in the chapel, but the keening filled the air, like an organ or bagpipes. It was soothing and melodic…but deeply sad…

“It’s the music the Indians sang when they came down from the mountains,” Maria explained. “It’s called a baguala.”

Each person in the church then stood in line to take communion…and touched the casket on his way back to his seat, some merely placing their hands on it for a moment, others making the sign of the cross.

When the last of the Eucharist celebrants had sat down, Jorge’s wife blew out the candles, while Jorge, his brothers and nephews moved up to the front of the church. They picked up the coffin, and put it back onto the pick-up truck. The rest of us got in our trucks too, in order to follow the procession out to the graveyard.

Across an arroyo from the chapel is an old adobe house. It was the house where Agostin lived as a child and where Javier lives now. The procession drove to the house; the casket was taken out of the back of the pickup and carried around the house. Then, it went back in the truck for the trip to its final resting place.

About a half mile from the house, out on the range by itself, is the graveyard. It is a giant square, surrounded by stone walls, about 6 feet high, so remote that life above ground is almost as peaceful as it is below it.

Here, in the high plains of Boot Hill, some 50 or so bodies lie unmolested by the living. Here, the dead are on their own…save when someone comes to join them. They enjoy their sleep without interruption – no lawnmowers and no Internet signal.

Some graves are marked by piles of rocks. Others by concrete tombstones. Still others only have a wooden cross to mark the spot. Some of the dead appear to have been forgotten completely. Other gravesites are garnished with a few faded, plastic flowers.

Off to the right, as we entered, was a pile of pick axes and a little farther was a hole, much deeper than we expected. It must have been hard work digging it.

“I guess the next one will be dug with the backhoe,” we said to Calvert.

“I don’t know. They might rather dig those graves by hand.”

Jorge’s wife spread a blanket on the bottom of the grave while Jorge and his kin attached ropes to the coffin. They then set the coffin on the top of the hole supported by a couple metal bars across the opening.

Again, mourners began their lament, while one by one the rest of the group, beginning with the closest family, approached the casket. Each one dipped a sprig of green leaves into holy water and made the sign of the cross on top of the casket.

Now that the body was closer to the grave, the keening grew louder and eyes grew redder. Some cried. Some merely looked blank and sorrowful.

When everyone had paid his last respects, a bent grey felt hat, the kind an old ranch hand might wear, was put on top of the coffin. Jorge and his brother pulled out the metal bars while other relatives held the ropes. Then, the body was lowered into the hole. When it came to rest on the bottom, they pulled up the ropes.

The wailing and keening continued. The relatives each took a hand of dirt and threw it on the coffin. Then, one of Jorge’s sisters threw on some of his clothes. Another tossed a pack of cigarettes into the grave.

When the symbolic burial was over, three of the ranch hands, Natalio, Omar, and Juan, picked up shovels and began seriously filling the hole with dirt. A cloud of dust formed around them. Juan smoked a cigarette as he worked.

Soon, the grieving friends and family were beginning to drift away. Bottles of coca cola and orange soda came out. Anna, Juan’s son, came over and offered us a cup of coke. Out of the corner of our eye, we noticed Javier, the toughest hombre in the Calchaqui Valley, wiping away a tear.

Santa Maria, Madre de Dios, Ruege Para Nosostros.

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Oh my…oh my…

Locusts…earthquakes…tornadoes… What next? Fire and Brimstone!

There’s a plague of locusts eating crops in Australia…

Earthquakes are becoming more common…after devastating quakes hit Haiti and then Chili.

“We could definitely feel it in Buenos Aires,” said our friends. “It was very unsettling. The heavy blinds we have up outside began smacking against the house as if there were a wind storm. But there wasn’t any wind.”

Then, a volcanic eruption in Iceland grounded air travelers between Europe and the US…

And now deadly tornadoes have ripped into the Southern US…and a “giant fireball” was spotted in the Midwest.

Is it the “end of time”?

Probably not.

At least, you’re probably better off betting against it. That is, 9 times out of 10, time continues. Every time people think that something totally new has come along, it turns out that it’s not so new after all.

Like all those goofballs who thought a “new paradigm” meant eternally rising stock market prices in ’99…or real estate prices that went up forever in 2006.

You’d think these people would have learned their lesson when the crash/Great Recession of ’07-’09 wiped out $30 trillion worth of nominal wealth. But they’d been exercising their optimism for so long that it’s in pretty good shape. Now, comes the rebound and they’re ready to flex their good-time muscles again.

The Los Angeles Times reports, for example, that people are “flipping houses in South LA again.”

Emerging markets have soared – almost recovering all that was lost. And consumers, who had retreated from spending money once they realized they didn’t have any, are once again on steroids – pumping up sales to give the impression of a healthy recovery.

And there’s a report that the small fry are finally getting back into the stock market. After staying on the sidelines for the last two years, they’re now getting up the confidence to tempt the fates. Good luck to them…

Of course, it’s perfectly normal for people to believe the de- leveraging is over. Who wants to cut back? Who wants to accept a lower standard of living? Who wants to admit that he’s been a fool? Instead, he’ll tell himself:

“It’ll all blow over…” “Things are back to normal…” “The feds have the situation under control…” “Now it’s safe to get back into stocks…”

Meanwhile, the key indicators are still weak or undecided.

New jobless claims went up unexpectedly last week. The Baltic Dry index is still telling us that there is no genuine pick-up in world trade. The feds’ new homeowner tax credit will expire soon – with property auctions and bank repossessions at record levels…and foreclosures taking their biggest jump in five years.

Robert Shiller warns that we should expect another dip in the housing market.

And the Fed itself tells us that it will keep its “extended period” of emergency low rates a while longer.

What is all this telling us?

That the Great Correction continues…and that there is far more danger on the downside than there is reward on the upside.

Barron’s Big Money Poll tells us that bonds are the most detested asset class. Frankly, we don’t like them either. But the Great Correction will eventually take a whack at stock prices…and real estate prices…and commodity prices…

..bonds could be the only major asset to escape!

The big money could be dead wrong…just as the small money is almost always wrong. Bonds might go up as the de-leveraging continues.

We’ll wait to see what happens…

Bill Bonner
for The Daily Reckoning Australia

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“The poor little girl saw her mother in the house, naked, with a man…”

The adobe houses that people live in up in the mountains are not very big. Usually just one or two rooms. There are not many secrets in family life.

“At least they could go outside, behind some bushes or something… You’d think this place is a paradise…”

In many ways it is paradise. The valleys are green. The sky is blue. The sun is hot. There are no traffic jams. No drug dealers. No TV. No stone-hearted tax collectors. No stone head politicians. No crackpot economists.

“But these children are not innocent…they’ve seen everything… Well, not the same things that kids in the city have seen…but they are not innocent. The problem here is that they don’t have families… Not all of them, of course. But a lot of the girls just have babies. First with one man…then with another… And sometimes they start as young as 12 years old. They see their mothers…and then they do the same thing.”

We had invited the entire local school over for an outing. Two teachers – Olivia and Lilliane – along with their 23 students. Lilliane, a slim, attractive woman in her 40s, with black hair pulled back in a bun and bright red lips, was telling us about the problems they face:

“I’ve been here for 26 years. We used to have twice as many students as we do now. But now the girls don’t have as many children. They know how to avoid getting pregnant. But they still carry on…

“And they’re bolder and naughtier than they used to be. I woke up one night and found one older boy had snuck into the school and was in bed with one of the girls. We had to make a rule…no one gets to stay in the school after they are older than 12. But even that doesn’t seem like enough. One night we found a boy of ten in bed with a girl of 11. They’re just too young for that kind of thing.

“Many of the children stay with us because they live too far up in the hills to go home at night. And some of them live so far away that they have to stay with us on the weekends too. We have 9 who stay with us on the weekends now.

“But it’s exhausting for us, because we have to keep an eye on them at night…we can’t trust the children to behave themselves.”

When the children arrived, they filed into the house quietly, timidly. Many of them had never been in a real house before.

“Have a seat…sit down,” we told them.

They sat down without a word. The house was silent. Our Spanish is not good enough to entertain a group of 23 children. In a flash of inspiration, we picked up the guitar and started singing the first song that occurred to us:

“Your cheatin’ heart…will tell on you….”

The kids giggled.

By the time we were finished the final verse, Elizabeth had brought in the pan casero (homemade, unleavened bread) with marmalade on it. They had brought their own cups, into which we poured mate cocido – a type of herb tea.

The kids seemed satisfied. When they were finished, they went out into the courtyard.

“Gimme five,” said Calvert loudly, to a group of boys. “Up high…down low…uh oh…too slow.”

The boys laughed. One by one, they tried to slap Calvert’s hand before he jerked it away. Then, Edward got out his soccer ball and the boys all played.

As for the girls, we don’t know what they were doing. But our Argentine friend, Maria, had gotten back to the house by then. She had been on a long ride on a short, uncomfortable mule. Maria plays the guitar and sings too, only people don’t laugh at her. She must have entertained the girls somehow.

Maria was the last to come back from our outing. We had left the house early in the morning to ride up to see Dona Ileena – an old woman who lives high in the mountains. Her husband, Felix, fell down a few weeks ago and hit his head. He was taken down from their lodge and driven to a hospital a couple of hours away. That left Ileena alone. No one had seen her in several days; we thought we should pay her a visit.

We don’t know how Maria ended up on the mule. But she was a good sport about it. On the way back, she switched mounts with someone else, but then went back to the mule.

The horses took up a steady trot for a couple of miles across the plain…up the valley…until they arrived at the pass. Then, they slowed to a walk to pick their way down the rocky road that led to the smaller valley below. It took 2 hours to reach the alfalfa fields. We dismounted for a few minutes, drank some water, tightened our saddle girth straps, and headed upstream. The river was dry at first. Then, a trickle of water appeared. We continued up the valley, making our way between thorn bushes, alamos trees, pampas grasses and the rock cliff wall on the side of the river. On the right, we passed two abandoned adobe houses. On the left, there were Indian ruins…the stone walls that once held small terraced fields.

After another hour and a half, Gustavo, who was leading this expedition, pointed up to the right.

“We have to go up there. That’s where Ileena lives.”

It was not obvious how we were going to get up there.

Gustavo didn’t hesitate. He found a path through the thorn bushes…that turned into a path through the rocks. The horses strained to get up the hillside. It’s amazing where they can go. Soon, they were on a green mesa, their riders still on their backs.

The pasture looked over-grazed, but we saw only one horse, tied up near the house, and two cows lying under a tree. Our horses stepped over a low stone wall, another relic of the Indian days. The place was naturally fortified. Steep cliffs guarded the access on three sides. On the other, the mountain went up rather than down. Over on the edge of the cliff was an enclosure of sticks and logs, where a herd of goats was kept; the enclosure was not meant to keep them from getting out, but to keep the puma from getting in. It must have been moved there from in front of the house, where there was about three feet of goat manure, forming a large circle.

The house was made of adobe, with a low, mud roof and a few openings to let out the smoke. Off to the side was another low building, also of adobe, probably used for tools and storage.

No one came out.

“Ileena…” Gustavo yelled, urging his horse closer to the house. Still, no sound came from the house.

Then, a moment later, Ileena came out, dressed in a dirty, dusty, torn dress…a sweater, and a pair of cloth shoes, torn open at the toes. Her grey hair was pinned behind her head and her face was crossed by hundreds of wrinkles. She might have been 60…or 90…we couldn’t tell.

She smiled. We got down off our horses, and greeted her warmly with kisses and hugs. But we couldn’t understand what she said. Gustavo had to translate.

Then, when we were satisfied that all was well, we mounted up again for the long ride back.

“The Indians never left here,” Maria explained. “This place has probably been inhabited for 1,000 years. Nothing much has changed.”

This is not the first time we’ve met Ileena. She and Felix were often down in the valley when we visited. They always seemed to be in a good humor. Thin and spry, it looked like they would live forever. But now Felix is in a hospital with a head injury and no one is sure he’ll ever be completely right again.

Life goes on.

The following day, life went on some more. We rode up to the old reservoir. Uphill and down. Over rocks and streams. Among ancient Indian ruins…and saddle sores. The old reservoir is still there. Perhaps it too dates from the time of the Inca or even before the Inca – the Diaguitas – or even some more ancient group. A long time ago, after the hunter gatherers began settling down to plant corn and potatoes, people figured out that if they were going to live in this valley they had to find a way to store and direct the little water they had. Life needs water.

And there was not enough water falling from the sky to support much of anything.

We examined the old reservoir and then gave up. There is no way to get machinery to it. And it is too big to dig out by hand.

Riding back, we passed one of the adobe houses where “la gente” live. An old woman, short and fat, came running out. She had a handkerchief to her face, as though he had been crying.

“Jorge… Jorge…”

Jorge turned his horse around. He rode over to the old woman and spoke to her for a few minutes. Then, he rejoined our group…

“She told me my father died… She heard it on the radio. He lives in Salta. But they make announcements on the radio for the people in the mountains to inform them of important events.

“He was 85 years old…and sick… I’ll confirm it when we get back to the house. (We have a satellite phone for emergencies). If it is true, I’ll have to leave to go get the body…”

Life goes on…

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Poor Ol’ Goldman…

Just trying to do ‘God’s work’…

And everybody treats it like the devil.

The Washington Post yesterday carried a front-page headline, portraying the firm as though it was Satan himself:

“Cheers at Goldman as housing market fell.”

Goldman executives were in a good mood for a good reason: they had bet against the mortgage market.

Of course, that was the only reasonable thing to do. Anyone could see that the housing market was in a bubble. And everyone knew that the bubble would blow up sooner or later. Nobody knew better than Goldman because the firm helped create the bubble…selling those delicious, but teeth-rotting, mortgage-backed securities all over town.

Goldman did the right thing. It bet against the mortgage market.

Naturally, Goldman execs were happy when their bets began to pay off.

But to hear the press tell the story, Goldman executives were like a devilish cabal…cackling about the fall of the mortgage market as if they were celebrating the sacking of Rome.

“Sounds like we will make some serious money,” said one exec in an email.

Serious investors should pay no mind to the Goldman story. The Wall Street firm did the right thing – it helped separate the numbskulls from their money. And now, the numbskulls are moaning and the SEC is trying to salvage its reputation by prosecuting Goldman for betting the right way.

As usual, the pundits are on the story too – kicking the poor Goldman crew when they’re down. And as usual, they are drawing all the wrong conclusions.

Roger Lowenstein, in the New York Times:

WHILE the Securities and Exchange Commission’s allegations that Goldman Sachs defrauded clients is certainly big news, the case also raises a far broader issue that goes to the heart of how Wall Street has strayed from its intended mission.

Wall Street’s purpose, you will recall, is to raise money for industry: to finance steel mills and technology companies and, yes, even mortgages. But the collateralized debt obligations involved in the Goldman trades, like billions of dollars of similar trades sponsored by most every Wall Street firm, raised nothing for nobody. In essence, they were simply a side bet – like those in a casino – that allowed speculators to increase society’s mortgage wager without financing a single house.

The mortgage investment that is the focus of the S.E.C.’s civil lawsuit against Goldman, Abacus 2007-AC1, didn’t contain any actual mortgage bonds. Rather, it was made up of credit default swaps that “referenced” such bonds. Thus the investors weren’t truly “investing” – they were gambling on the success or failure of the bonds that actually did own mortgages. Some parties bet that the mortgage bonds would pay off; others (notably the hedge fund manager John Paulson) bet that they would fail. But no actual bonds – and no actual mortgages – were created or owned by the parties involved.

Lowenstein’s point is that Wall Street has lost its way. It is no longer providing a useful service. Instead, it has turned itself into a casino.

So far, so good.

But his solution? More regulation!

Of course, the regulators were on the case the whole time. But, according to the news reports last week, while the biggest scams of all time were going on the SEC team was busy watching porn on its office computers! It missed Madoff. It missed Sanford. It missed the greatest bubble in financial history.

More regulation? Forget it!

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A short message after a long day…

Anything happen while we were away?

Not that we can see. We checked the news reports yesterday afternoon, after we drove in to Salta. Stocks seem to have edged up. Gold has slipped a little. Bonds still look like they’ve entered a bear market.

Nothing really new.

Apparently, more people still believe in ‘recovery’ than in the virgin birth… We’ll come back to that in a minute. First, we want to tell you about our trip. We just came back from the ranch yesterday. Dusty, tired…but glad we went.

The ranch is a long way from anywhere. It is cut off from modern civilization. You might say it is cut off from civilization of any sort.

On Monday, we rode 4 hours to see Ileena, a woman of about 75 who lives alone on a remote plateau up in the mountains. She grows corn and milks goats. She dries fruit. No electricity. No indoor plumbing. No central heating. As near as we can tell she lives the same way people have lived there for hundreds of years.

It must be lonely, though.

Then, on Tuesday, we met the teachers at the local school. One of them has been at her post for 26 years…only leaving the ranch about once every three months. Last weekend, she was so desperate for a change of company that she walked 6 hours to the ranch next door.

Then, on Wednesday, the casket arrived. The old Chevy truck made a deep, rumbling noise as it came up the driveway…like death himself, just outside the door, clearing his throat before knocking.

Yes, dear reader, we have some stories to tell. Life, death, sex…loneliness, desperation… there are no TVs in the high valley. But they don’t need them. You can find all the drama you want…just open your eyes.

Stay tuned…

In the meantime, last week, we went to a bootmaker in Salta. The old man showed us a pair of red boots.

“Here, try these on. I made them for a big norte-americano like you.”

We put them on. But they were a tad too large. Then, we saw the initials on the order form.

“Who are you making these for?” we asked.

“A fellow named Casey. Dooglas Casey.”

Ah, now we know for sure. We could never fill Doug Casey’s boots.

We had dinner with our old friend before leaving for the ranch.

“The situation is worse than even I thought it was,” said Doug.

But Doug didn’t seem any more worried about it than we are.

This is the strange bifurcation in today’s financial world. Those of us who bother to think about it (both of us) believe there’s trouble coming. You can’t de-leverage a 60-year credit expansion in just a few months. You can’t correct a debt problem by adding more debt. And you can’t fix the private sector by beefing up the public sector.

Still, the ‘recovery’ has gone on for so long we’ve forgot what the crisis felt like. Remember in the fall of ’08…when stocks were crashing and Lehman went bust? Fear…and loathing. Deep down. Dreadful. Terrifying. That’s what people felt back then. It was the ‘end of the world.’ The day of reckoning had come…

Fear makes you do things you don’t want to do. It makes you cut expenses…cut projects…cancel vacations…trim…tighten… All the things you knew you should do but really don’t want to do.

But as soon as the fear subsides, you’re able to shelve those plans and get back to doing what you were doing before. Even if the causes for the fear are still there…and even if you understand them and see them clearly.

Probing our own feelings the other day, we realized that we were no longer afraid. As near as we can tell, the Great Correction is developing as it should. But the rebound has lasted longer and gone further than we expected. It’s taken the edge off fear. The Dow is over 11,100…bond yields are still near record lows…and more people believe the feds have mastered the art of crisis control than believe in the virgin birth.

But the risks are still there. Sooner or later they will express themselves.

Again, stay tuned.

Regards,

Bill Bonner
for The Daily Reckoning Australia

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We recalled Elizabeth’s words:

“You can be successful by accident. You can have a family by accident. But you can’t have a successful family by accident.”

The blue lights of police cars lit up the street in front of where we are staying in Buenos Aires. Your editor had summoned them after his youngest son, Edward, 16, had failed to come home. It was 2 AM.

“He’s tall, dressed in a blue shirt and jeans…” we explained.

“Is it normal for him to stay out without calling you?” asked the federale.

“No…he’s usually a good boy.”

“Maybe he is just out with his friends.”

“But we just got here. He doesn’t have any friends here.”

“Looks like he has some now.”

Two hours later, we called off the manhunt. Edward came home. Not a care in the world.

“What’s the matter? Why are you still up, Dad?” he wanted to know.

“Answer one of my questions first.”

“What?”

“Where were you until 4 AM?”

“I was just out at a club, dancing…”

It is useless to argue with a teenager. Especially at 4 AM.

“Go to bed. We’ll talk about it in the morning…”

“Okay…sorry…”

“When you told the police that your son had disappeared…did you say ‘desaparecido?’” asked a friend. “They’re sensitive about that. Because they rounded up thousands of young people they didn’t like and ‘disappeared them’ in the ’80s.

“You should have said: ‘My son has disappeared. No, I’m not blaming you. I just want to find him.’”

Regards,

Bill Bonner
for The Daily Reckoning Australia

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When will the de-leveraging bust resume?

When we stop worrying about it.

This afternoon, we realized that deep down, our feelings had changed: we had stopped worrying about a resumption of the bear market.

Not that we’ve stopped thinking about it. We think about it every day. And we’re sure it’s coming. But we have stopped worrying. No matter what we think, we feel that somehow this will work out okay…we’ll be all right. We’ll stumble along…

Thinking and worrying are two very different things.

Thinking is purely superficial. It’s the worrying that counts. When you’re worried about a financial crisis, you sell out your risky positions and hunker down with cash. When you’re not worried, you’re happy to float along… You’ll change course when the danger becomes more imminent, you tell yourself.

But don’t forget:

This is a Great Correction. It began almost exactly three years ago, when New Century Financial – the second largest subprime mortgage company in the US – filed for bankruptcy. It will continue until debt levels in the private sector have worked themselves down to more reasonable levels.

How long will that take? Maybe 5 years. Maybe 20.

Meanwhile, you can’t expect much from this economy. Businesses are not going to add jobs. Consumers are not going to shop.

Is that all there is to it? No, there’s a lot more. That’s why it’s a Great Correction and not just an ordinary run-of-the-mill correction.

..there’s the correction of the huge the expansion of credit

..there’s also the correction of the stock market

..and the correction of the real estate bubble

..and the correction of the world economy and its dollar-based monetary system

Here’s what to expect:

..US stocks will begin falling again

..foreclosures, already running at twice their normal level, will increase

..bankruptcies, now at record levels, will go up too

..bonds will eventually collapse (but may turn out to be decent investments for a while longer…as the de-leveraging continues)

..the dollar too could go up when the crisis feeling returns; over the longer run it will be dangerous to hold it

..China will go through a financial crisis (potentially ‘Dubai times 1,000.’ As Jim Chanos puts it)

..states, cities, and entire countries will declare bankruptcy…

Those things don’t seem like threats to you? Well, they don’t feel like threats to us either. But that’s what makes them so dangerous…

..we’ve stopped worrying about them.

And more thoughts…

– We’re headed up into the mountains today to check on our high altitude beef. We’ll write when we can.

– “I came here because I felt that my children would have a better future here than in Britain,” said a colleague at lunch yesterday.

“It’s very hard to live well in Britain; the country is too crowded. And things are too expensive. If you want a decent house at a decent price, you have to go way out of London. Even then, they’re not easy to find. And then, you spend half your life traveling back and forth to work.

“But there’s something else. I think Britain’s glory days are past. The economy might grow in absolute terms. I hope so. But it is unlikely to grow as fast as Argentina or Brazil or any one of dozens of overseas economies.

“That’s true for America too. I don’t think the US is finished, by any means. But if you want to give your children the best combination of lifestyle and economic opportunity, there are better places to live.”

Few people would bet on Argentina’s financial future. The country is a serial inflator…prone to self-inflicted financial wounds. It has shot itself in the foot so often, it hardly has any feet left!

Most people would say that investing in Argentina is ‘too risky.’

But that just goes to show that people don’t understand risk. They look at the past and use it to measure the future. What they don’t realize is that risk in financial markets is not like rainfall or earthquakes.

Earthquakes are completely indifferent to what we think about them. But the financial markets are more sensitive than a poet. People who’ve lived through financial crises don’t want to see another one. Or, to put it more specifically, if you’ve just been through a bear market you’re not likely to pay too much for stocks. You’ll think it’s “too risky” to buy expensive stocks. So, stocks will not become expensive. The risk of another crash will be low.

Germans lived through a period of hyperinflation in the ’20s. To this day, they are deathly afraid of rising consumer prices.

People who are accustomed to stable prices…and a rising stock market…have a different attitude. Analysts look at their history and pronounce the market “safe.” But it’s actually very risky…because prices are high and investors are complacent.

The riskiest markets are probably those judged safest by the analysts. The safest are those thought to be risky.

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What a great town! Buenos Aires. We love it here.

Why?

Because it shows how you can completely foul up a major economy…and still enjoy a great steak dinner with a good bottle of wine.

Not only that, the weather is nice and the women are pretty. Who cares about GDP, debt, monetary policy and good governance?

Argentina is probably the best place in the world from which to contemplate the world’s financial future. Huge errors now being made by the US and most other governments are bound to lead to huge trouble. In other words, they’re bound to lead to the pampas, where the gauchos have been there, and seen that…more than once!

On Friday, US stocks rose. The Dow went up 70 points. Gold rose too – up 9 dollars. It looks to us as though the bull market in gold has resumed. The yellow metal could soon scale the $1,200 mark…and challenge its all-time high.

Why is gold moving up? Gold is usually what you buy when you suspect that financial policymakers are making mistakes. But what mistake are they making? The ‘recovery’ is a huge success; everybody says so. On Monday, the papers reported Larry Summers’ remark; he said the recovery had reached “escape velocity.” And on Thursday Ben Bernanke congratulated himself publicly for having saved the world from a deep, dark depression. The central bankers and finance ministers know what they are doing, don’t they?

Apparently, gold doesn’t think so.

And last week, the Bank of International Settlements agreed.

“The Bank for International Settlements does not mince words,” says a report in The Telegraph. “Sovereign debt is already starting to cross the danger threshold in the United States, Japan, Britain, and most of Western Europe, threatening to set off a bond crisis…”

The problem is coming to the “boiling point,’ said the report.

Ambrose Evans-Pritchard:

The risk is an “abrupt rise in government bond yields” as investors choke on a surfeit of public debt. “Bond traders are notoriously short- sighted, assuming they can get out before the storm hits: their time horizons are days or weeks, not years or decade. We take a longer and less benign view of current developments,” said the study, entitled “The Future of Public Debt”, by the bank’s chief economist Stephen Cecchetti.

“The question is when markets will start putting pressure on governments, not if. When will investors start demanding a much higher compensation for holding increasingly large amounts of public debt? In some countries, unstable debt dynamics – in which higher debt levels lead to higher interest rates, which then lead to even higher debt levels – are already clearly on the horizon.”

The BIS, in charge of monitoring global capital flows, said public debt has risen by 20pc to 30pc of GDP across the advanced economies over the last three years. Semi-permanent structural deficits have taken root. “Current fiscal policy is unsustainable in every country (in its study). Drastic improvements in the structural primary balance will be necessary to prevent debt ratios from exploding.”

Historical data shows that once public debts near 100pc of GDP they act as a ball and chain on wealth creation.

If countries do not retrench quickly, they will create a market fear of “monetization” that becomes self-fulfilling. “Monetary policy may ultimately become impotent to control inflation, regardless of the fighting credentials of the central bank”, it said.

Some states may be tempted to carry out a creeping default by stoking inflation. “The payoff to do this rises the bigger the debt, the longer its average maturity, the bigger the fraction held by foreigners.” The BIS said the danger that any government would consciously take this path is “not insignificant” in the longer run.

And more thoughts…

– Argentina is for economists with a sense of humor, if there are any left. It’s for anyone who likes a good drink and a good laugh. And for anyone who wants a peek at the future.

What do defaults look like? Look at Argentina. The Argentines pulled off the biggest default on sovereign debt in history. In 2001, they defaulted on $132 billion in loans. Later, they negotiated a settlement that left lenders with their worst haircut ever.

But at least the lenders must have had fun. They came down to Buenos Aires on rich expense accounts. They stayed at the Four Seasons. They ate steaks that were thicker than glaciers…and washed them down with a whole rio of malbec. They probably went to a few tango shows too. The visit may have cost them billions…but heck…

..it wasn’t their money.

How about inflation? Want to see that? Argentina has had plenty. Even hyperinflation. In 1989 alone, prices rose 5,000%. By 1992, it took about 100 billion 1982 pesos to equal one single new peso. And who remembers the austral? That was a currency introduced in ’85. It was worthless by ’92.

Don’t think you have to worry about inflation? Take another look at the BIS report (above). The lure of a little inflation will be irresistible. The arrival of a lot of inflation will be irreversible.

Ask the Argentines; they’re the experts.

So what kind of crisis will the US have? No one knows. But our bet is that it will have them all. Inflation…deflation…default…hyperinflation… Get ready; they’re probably all on the way.

– “Foreclosures hit the rich and famous,” says a headline in The Wall Street Journal. Hey, rich people sometimes can’t pay their bills either. And sometimes, it doesn’t make sense for them to pay.

Say you owe $500,000 on a house that is now worth $400,000. You could continue to pay $3,500 a month to hold onto the house and protect your credit rating. Or you could be $100,000 richer simply by sending the keys back to the lender. Which would you do?

And now mortgage rates are going up! The auction of 30-year Treasury debt didn’t go well last week. Mortgage rates – which are tied to long bond rate – rose. So, imagine you have to refinance your underwater house!

Coming soon: even higher foreclosure rates.

– “If I were a young man I’d go right to Brazil,” said on old friend on Thursday night. “The opportunities there are a hundred times greater than they are in the US.”

More to come…

– “I don’t like to say this, because people will think I mean something I don’t…”

We were on the plane down to Buenos Aires. Elizabeth was reading a book on “Family Success.”

“People think a lot about building a fortune. But who bothers to think about building a family? You can be successful financially by accident. You can get a family by accident too. But you can’t get a successful family by accident.

“That takes work. Not just on the part of the person who is making money…but on the part of the person who is building the family too.

“I don’t know how these young households do it. Women think they need a career. Men think they need a second income. So both of them work outside the home…and both share the burden of raising children.

“It may be hard for a person to earn a good living…but it’s also hard to build a good family. Trying to do both at the same time is a tough job.”

More on this too as our story continues…

Regards,

Bill Bonner
for The Daily Reckoning Australia

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Since 1946, at least in the US, the skies got a little bluer every day. Consumer spending increased nearly every year. At first, consumers spent what they earned. And then came the wonder years…when they spent more and more money they hadn’t earned yet.

Then, in the 20 years leading up to 2007, incomes scarcely rose. But standards of living went up anyway. How was it possible? Easy. Instead of saving 8% of their incomes, as they had for the previous 5 decades, they spent the money. The savings rate fell to near zero. Debt increased. Of course, you can only take a thing like that so far. In this case, the end of the credit expansion came three years ago. All of a sudden consumers were faced with a grim prospect. They could no longer spend money they didn’t have. Now they had to NOT spend money they DID have. It was pay back time…time to return the money they had borrowed during those carefree years.

Settling up was so alarming and so disagreeable that the feds swung into action to prevent it. First came the monetary stimulus – with the Federal Reserve’s key rate reduced to zero…and the Fed empowered to buy $1.7 trillion worth of toxic loans from shaky lenders. Second, the federal government itself greatly increased its spending – adding $4.11 billion of deficit spending every single day since September 2007.

And now, US Treasury Secretary Larry Summers says the recovery has reached “escape velocity.” Whether or not he correctly judges the speed of the economy, we don’t know. But we’re sure he’s wrong about gravity.

According to the official stopwatch, 163,000 people found jobs in America last month. Forty-eight thousand of them were jobs with the US census bureau. Those jobs are temporary and useless. If you could create wealth by having people count one another, perhaps we could create even more wealth by having them count the stars in the heavens or the grains of sand on Malibu beach. Take off the counters and that leaves 114,000. Now take off the statistical adjustment for births/deaths, and the statistical adjustments for bad weather, and the statistical legerdemain that disappears people who are too discouraged to continue to look for work, and you have a negative number. The economy actually lost jobs in March. According to John Williams, who keeps track of the figures, joblessness rose in March to 21.7% – just a tad lower than the worst figure from the Great Depression.

Now, we turn to savings rates. Some analysts say savings are on the rise – showing consumers’ ‘pent up’ buying power for the future. Other analysts note a recent downturn in the savings rate. That, they say, shows consumers’ willingness to spend now. Both are wrong.

It will be a cold day in Hell when Americans are not willing to spend. What is at issue is not the spirit but the flesh. The Baby Boomers were flying high during the wonder years. They looked forward to higher house prices and rising stock prices. But now, after having suffered an $11 trillion loss in stocks and real estate, what can they do? Gravity is pulling them back down to earth. Like it or not, they have retirement to think about. That’s why they have not participated in this stock market rally; inflows into mutual funds are running at only a quarter of their ’90s rate. The boomers know they can’t trust their retirement to the stock market. They’ve got to spend less.

Nor does a rising savings rate mean what analysts think it means. Savings are not simply ‘pent up’ spending for the future, not following a 63-year-old credit expansion; the money was spent years ago. Bankruptcy filings hit a record in March – at 6,900 per day. This debt elimination is registered as an increase in “savings.” But it’s not the kind of savings that you can spend at the liquor store.

Meanwhile, Alan Greenspan says rising bond yields are “the canary in the coal mine.” This week, the canary was still alive…but wheezing…with yields on the 10-year note over 4%. Why? Probably, it is because the Fed is no longer, indirectly, buying US Treasury debt. Until last week, the Fed bought the banks’ bad mortgage-backed securities. The banks returned the favor. Rather than lend to the private sector, they bought US notes and bonds.

In the private sector, bank credit is still contracting, with commercial and industrial loans falling at a 17% rate over the last 3 months. Revolving credit – auto loans and credit cards mostly – is down for the first time ever. The money supply is contracting too. M2 is declining at a 0.2% rate and MZM going down at a 5.4% speed. Consumer prices are still dropping in the US. In Europe, too, inflation is at record low levels – 1.5% annually. And Goldman Sachs economists predict further drops in the CPI – to 0.3% in the US and 0.2% in Europe.

Escape velocity? Looks more like stall speed to us.

Bill Bonner
for The Daily Reckoning Australia

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