Bull Ben! and the Helicopter Men?
The Postman is the founder and editor of the web publication, the Home Owner’s Economist. This is the Fall, 2005 newsletter.
Herein, we’ll argue why we believe that Dr. Ben Bernanke is ill-suited for the Chairmanship of the Federal Reserve System; especially for residential property and other investor’s, homeowners, the general public, both domestic and international markets; and, sadly, for his own historical legacy. By all accounts Dr. Bernanke is a “nice” guy, and some wonder why he would have placed himself in the position of coming on stage following the Maestro. We believe that as events unravel, as the true history of the unprecedented Credit Bubble is exposed, Mr. Greenspan will be appropriately discredited.
Why would Dr. Bernanke place himself in harm’s way? Hubris comes to mind. (Webster’s Online: Hubris: : 'hyü-bris, noun: exaggerated pride or self-confidence.)
Quotable:
"AG: ‘Ben, Ben, you have so much to learn. That transparency stuff is fine for academic research. In the real world, never giving the market too much information means never having to say you're sorry. Or that you were wrong.’ " Caroline Baum, Bloomberg. November, 2005. (We infer that Ms. Baum’s reference to “AG” may have been to Chairman Al “Departing Maestro” Greenspan.)
"Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up from less competent people.” Andrew W. Mellon, Secretary of the Treasury, circa 1932.
"Bulls of 1929 - like their 1990s counterparts - had their eyes glued on improving profits and stock valuations. Not a thought was given to the fact that the rising tide of money deluging the stock market came from financial leverage and not from savings." Dr. Kurt Richebächer. Circa, recent.
The final quote from a good doctor is one that we highly agree with. Substitute the word, housing, for the word, stock, and you’ll be up-to-date. Then loosely substitute the words, Bull Ben, for the words Bulls of 1929, and you’ll see our position at the outset. Actually we agree with all three quotes, and while we’re not nearly as severely austere as the former Secretary of the Treasury, Andrew W. Mellon, he does make a point. A planned debacle, an all hand’s-on-board public winding down, would be less painful to the investing public and all Americans than if it comes out of nowhere. However, a well-thought-through program would be communist-like central planning that will never and should never fly in a Capitalist Society. Unless of course the Federal Reserve System does it in secret, like so much of what they actually do. Could they be planning it now?!?!?!
”Continuity.” By many accounts, continuity was near the first word Dr. Bernanke uttered when the announcement was made official. This was what the equity market required and it heaved a sigh of relief. Meaning the stock market held very well, thank you very much. However, both the bond and dollar markets blinked. We’ll explore why below.
There is a wide debate in academic and financial circles as to whether Dr. Bernanke is a dove or a hawk on the critical matter of inflation.
Inflationism – Inflationists. A Socialistic-Like Movement comprised of individuals / entities, whose market credibility (moreover, livelihoods / professional careers), is based on an untenable belief system that everything will continue (lifestyles maintained / entities protected), through massively creating increasingly less valuable money (Fed accommodation) to float their, ahem, bets on market movements. Led by the Fed (the banking system), Wall Street and complicit academic economists, they operate though secrecy and by confusing the public. They operate under public banners such as Globalization and a New World Order. They have devalued the worth of the dollar 95% since 1933. (KK)
In other words [the Fed] continues to enable, actually create Bubbles (of which they deny exist, or cannot be named until they’re ready to blow) that Inflationists bet on (hedge, or not), while encouraging (through complicit media), less sophisticated retail players (residential investors for example), to stay the course.
Inflation. While a contentious issue, we’ve come to believe (we are guided by the excellent Steve Saville) that the word inflation is widely misunderstood by both the public and even some professional members of Structured Finance (Wall Street). As Mr. Saville instructs, inflation is the increase in liquidity, the money supply. If the money supply is increased as Mr. Greenspan has enabled for nearly eighteen years then prices rise. If the money supply is decreased then prices are apt to fall. Period. Bowing to convention, unless otherwise noted, we will accordingly use the term inflation to indicate growth of prices. No intention to confuse, moreover, a direct intention to enable, rather cause thinking below the surface, understand what is being done, and, moreover, how obfuscation is maintained as a cover for actual events and activities.
Deflation. While seemingly a great concern for oncoming Chairman Dr. Ben Bernanke, deflation is no more than a decrease in the supply of money, thus a contraction of debt, hopefully leading to savings, which might be invested for productive enterprise, rather than for the Inflationist’s continuation and perpetration of a Credit Bubble, which is evidenced in our historically unprecedented Current Account Deficit. Clearly, as the oncoming Chairman of the Fed, deflation is anathema for an extreme Inflationist, such as Dr. Bernanke because it would be the beginning of the end of Finance Hegemony.
Balance. A balance is important, and one of the Fed’s mandates is to maintain the value of money. Within that context some argue that a little inflation is a good thing. In fact, since the Fed began (1913), the money supply (inflation) has increased steadily since the mid-twenties. But, never so much as during Greenspan’s long term. Moreover, he has done this by enabling a monstrous Credit Bubble, which led directly to the late nineties’ Equity Bubble (popped to the destruction tune of nearly $7 Billion of Main Street shareholder values), to the current very dangerous Mortgage Bubble. This Fed engineered Mortgage Bubble has created the widely discussed Housing Bubble. In it’s wake, savings are zero, and the unprecedented Current Account Deficit is a very real danger to domestic and international markets and economies. In fact the consumer has moved the income based personal savings rate into negative territory. The last time that was accomplished was 1933, by all accounts a very bad year. Depressing.
Under dollar hegemony, the US dollar is arguably the world’s currency; and the Fed has become arguably the International Lender of Last Resort (with lip service to the International Monetary Fund and World Bank). Without giving a detailed historical analysis of why, and without discussing the dollar as a store of value, we submit that Dr. Bernanke has a near impossible task ahead of him, and that history cannot judge him well over time, and that also, over time (and it might be a short time from now) he may be required to preside over a forced unwinding of the enormous Credit and Mortgage Bubbles created by his predecessor and applauded by Structured Finance; who, having become flippy drunk at Al’s party will turn very aggressive on anyone who threatens to, or actually takes the punch bowl away. Addiction demands supply. Addicts will do whatever they have to do to maintain supply.
We argue that Dr. Bernanke is a Bull, not an inflation dove or hawk. The later are terms bantered about in the press, terms that merely obscure for the investing public his real role as Fed Head. He must be a bull. He must create a wide perception that everything is just fine, and that we do not stand on the brink of deep recession, if not, depression. He’s no Alan Greenspan, but, moreover, he’s no Paul Volker, just when we need him.
Need Paul Volker? Yes. We argue that in order to maintain the confidence of foreign governments and their central banks who fund our Current Account Deficit, our Government, our War, the Fed must tighten (raise interest rates) and be less accommodative (stop freely enabling the creation of massive amounts of dollars through liquidity growth) than has been the case. Not through Greenspan-like baby steps, but firmly and decisively in order to maintain the slightly diminishing flow of recycled dollars back to the US that buy our Treasuries, Mortgage Backed Securities, Asset Backed Securities, and the like. The in-flow of over $2 Billion per business day, to keep us solvent. Must let the markets know who is in charge. Must give them a taste of Shock and Awe. Only Dr. Bernanke can do this. But, and it’s a very large, BUT, can he convince the other members of the Federal Open Market Committee to fall in line, join him in being interest rate pushers, and, simultaneously hedge (only slightly) by being Slow Helicopter Men (increasing the supply of money only slightly to enable a soft landing). In recent FOMC meetings there have been dissents from Greenspan positions, though certainly not loud enough to have changed the direction of the Fed. Is this possible? Hardly. “We were knee deep in the Big Muddy, And the big fool said to push on.” Pete Seeger.
The Man. By all accounts at age 51, the relatively youthful (give him five years on the job), Dr. Bernanke is a nice guy, and that is good. However, can impeccable credentials and academic acumen confer (Wall) Street Smarts? Can, rather will, pressure from the markets and the Administration cause Dr. Bernanke to fold, to not be able to sustain his real (as we see them) duties, his deeper obligations to the American People and the US and World Economies; or, will he continue enabling Structured Finance to make large bets with nearly free money (the carry trade), continuing a policy of systemic risk to the economy. Most new Fed Chairman do not have all the appropriate credentials when they come to the position, and consequentially must (and some do) learn on the job.
Widely reputed as one of our top academic theoreticians, disposed to econometrics, Dr. B, is also known as a top inflation fighter, based on econometric approaches, models and analysis of history. The reasoning and moreover, sentiment, goes that if he possess such acumen, and he’s for “Continuity” it looks good, sounds better, a fighting chance to stave off disaster. Not so fast. The deepest aspect is that the huge external debt (Current Account Deficit) and the Mortgage Bubble (most call it the Housing Bubble) are similar to Siamese twins. Fixing one, may kill the other.
While a Harvard undergraduate Dr. Bernanke enjoyed Libertarian reasoning; as a professor and later Chairman of the Princeton Economics department, he was a casual dresser and widely noted as a rigorous thinker and who did his homework; as a Federal Reserve Governor, he would chat informally in the cafeteria with staffers (unusual for normally austere, unapproachable Governors). As the Chairman of Bush’s Council of Economic Advisors, he became a fully buttoned-down careful member of the team (though President Bush did recently chide him for wearing tan socks with a blue suit to a meeting, though Bernanke turned it into a joke the following day, showing his good humor and grace under fire). Grace over substance? Is that enough?
In some recent commentaries it’s been suggested that Dr. Bernanke simply will not be able to hold his own convincingly in the media spotlight, appearances on the Hill, etcetera. Remember, this entire house of cards is built on appearances – perception – appearances which show confidence. Previous television appearances have shown him to be the academician, not the cool-hand showman, not the obfuscating Maestro.
The inevitable Allan Abelson of Barron’s said, “The selection of Ben Bernanke has prompted a lot of mostly inane chatter by economists and press pundits…. All we really know about Dr. Bernanke is that he has degrees from Harvard and MIT was head of the economics department of Princeton, read Ayn Rand as a callow youth, … and is something of a monetarist.” Ah ha. Another callow youth Ayn Rand reader. We were one too, but we grew out of it; Greenspan never did, and we hope Dr. Bernanke will.
Similar to Al Greenspan comments, Dr. Bernanke has been quoted saying,
“I think it’s extraordinarily difficult for the central bank to know in advance or even after the fact whether or not there’s been a bubble in an asset price.” And,
“Changes in asset prices should affect monetary policy only to the extent that that they affect the central bank’s forecast of inflation.” And, also,
“A closer look reveals that the economic repercussions of a stock market crash depend less on the severity of the crash itself than on the response of economic policymakers, particularly central bankers.”
He claims not be able to see an asset (recently stating there is no housing) bubble, but, if one is there, he wishes it doesn’t burst, but, if it does (and they all do) the Fed can fix it right up by further inflating the money supply – eroding the value of purchasing power of the dollar so that Structured Finance can get out of Dodge OK, and there will be plenty of money for them to cover their shorts. The taxpayers, won’t even really know what hit them. They’ll just pay and pay like they did in the 1980s Savings and Loan debacle.
Believes the Impossible. Dr. Bernanke has asserted over time that by merely pushing the interest rate up and down (and he has espoused knowing when to take action based on modeling and strict formulas, as a good professor would likely assert), he can keep the ball in the air, the economy growing and prices stable. Would it be so simple. He’s right there with Greenspan on that one, and many market participants and commentators marvel at their naiveté. Or is it? Perhaps it’s just a show tune they trot out to keep and manage expectations – market and investor confidence. The well rehearsed rhetoric is only that, and some intelligent insiders know, really know, that it’s all they can say publicly as they actually, in fact, continue to create inflation (increasing the money supply through the growth of debt-based excessive liquidity), while claiming to control the price of things, through interest rate pushing.
In other words, a great charlatan such as Alan Greenspan, has been able to control expectations in an extremely complex world, with more data sets to observe, study, analyze and make recommendations from. But, today, we argue, there is too much input, too many changing, really changing international markets and political conditions that disallow projections based largely on historical precedent. The modeler may not be able to get his head out of the lab when they’re banging on the door. In addition never forget the impact of domestic and foreign political upheavals, irrational political context and other factors jamming in – breaking the model – chaos can rule.
Can an academic who comes to understand that it can’t be completely understood, stand up with a straight face, and say: It’s all good? The problem is exacerbated when the academic personality, and this one given to transparency, finds that the truth will hurt too much, will cause the markets to attack (through a complicit press who receives advertising revenue directly and indirectly from market participants and their couturiers) the veracity of the bad news sayer. So, as Ben “Continuity” Bernanke has indicated (to us at least), the game is suspect, the fix seems to be in, and he’ll likely play the same old tune until the music stops and the punch bowl actually runs dry because international markets will scorn our paper: Treasury, Mortgage and Asset Backed Securities. Meaning that the longer the dance continues, the longer the punch bowl is re-filled, the worse will be the carnage when the music stops. Finally here, President Bush, George’s Father, may have lost his second term as a result of Greenspan’s independence. One might think they softened Dr B up real well before they gave him the job. Yes, Sir. YES. SIR!
They’ve claimed they cannot recognize bubbles until it’s too late, and all that they can do is manage the down-side as it emerges, as it always does. Yet, Greenspan himself, has finally done his mea culpa on that misrepresentation. Implying, Well, you know, I had to say that, but, now that only history will be my judge …, how do you like me now – as a straight man? Really this time, really. I mean it this time. I’m not crying wolf. Really. Hello? Hello? They can’t hear me. I’ve virtually left the building.
Sporting conceptualizations aside, actually he said, “As with the Australian house price and household borrowing booms, the longer leverage builds up at historically high prices, the greater is the potential for costly adjustments at some point later on. As such, the earlier any corrections take place, the less likely that it is that the outcomes will be detrimental to the stability of the global economy and financial markets.” (Anyway, they made me do it, so they’d like me. I’m out. Let Ben fix it. Bye Bye.)
Even more telling, if not a shocking confirmation that he has run an international confidence game were recent remarks going past the earlier “ … some local froth” comment when he told the American Bankers Association that “widespread speculation” using current loans will give “significant losses” to both borrowers and lenders. While the bankers may not have risen and said, “Now you tell us,” one might surmise they were being explicitly warned to tighten up lending standards – now that it’s too late. Lip service, but, still, if you can breath, there is likely a home loan for you. Citing inspired competition, only five of some 50 major mortgage lending institutions recently reported they had tightened lending standards, even though banking regulators encouraged them to do so.
The Evidence. A bit of the historical record is in order. In November of 2002, newly appointed Federal Reserve Governor, Ben Bernanke, gave a historic speech, which gave him the nickname, Helicopter Ben. The speech, entitled: “Deflation: Making Sure 'It' Doesn't Happen Here” was thought by some to be much more than Dr. Bernanke’s personal opinions given to a major group of economists in Washington D.C. That, some have opined, he was speaking for and with (his boss) Mr. Greenspan’s approval. But, of course!
”As I have stressed already, prevention of deflation remains preferable to having to cure it. If we do fall into deflation, however, we can take comfort that the logic of the printing press example must assert itself, and sufficient injections of money will ultimately always reverse a deflation.”
”Like gold, US dollars have value only to the extent that they are strictly limited in supply. But the US government has a technology called a printing press (or, today its electronic equivalent), that allows it to produce as many US dollars as it wishes to at essentially no cost.”
At the bottom line, among other things, he said it would be appropriate to “shovel money from helicopters” if deflation were at hand. The currency and bond markets took him, and take him seriously, though they wonder if he will do it. If he doesn’t do it, shovel money through the growth of the Credit Bubble, as Mr. Greenspan has done, then there is the distinct possibility that it will all unravel. But, just a minute, if he continues to increase the Credit Bubble, print more money, the dollar loses value, and there will be an international dollar sell-off unless interest rates continue to rise, which if they do, the Mortgage Bubble will burst, taking down the consumer’s ability to spend, which keeps the GDP growing and Structured Finance crowing. Whew. Yet, it’s that simple.
Supporting this contention is a not widely publicized but critical fact in housing sales. In some areas, new home sales have been recently languishing (so much for the argument that we are short of housing). Some developers who previously would not take early contracts from speculative flippers, or even, pure long-term investors (they demanded that the buyer actually live in the home) will now sell to anyone who can come up with a lender, and there are still plenty of them who will still lend to nearly anyone.
Some Housing Facts. Housing Bubble, yes or no? Clearly there is one. The price of building materials has skyrocketed in the last couple of years. The Affordability index shows that most people cannot afford to buy a median priced home. In California only approximately 12% of the people can afford to purchase a median priced home today. So, in the event of a downturn where will the buyers emerge from? Since 2004, over 50% of buyers used dangerous mortgage products such as: no documentation, no-down payment, interest only, and a host of other marginal mortgage products to buy more home than they can afford. They’ve done this, caught up in the mania, because they believe that if they don’t get in, they’ll never be able to afford a home. We wonder if the buyers for the most part all already “all in.” Will the next wave of buyers be high school seniors hoping to graduate in June, get a job and buy a home with an interest only loan (like renting)? Ridiculous? Perhaps.
Real Debt. The US government is now carrying $8 Trillion in debt. Only three years ago the gross public debt was $6 Trillion. Meaning that the government increased debt over $2 Trillion in three years through borrowing and spending. This astonishing figure does not include: business, personal, state, county or local government debts, which have also increased by trillions of dollars in this short three year time frame. At the same time, actual debt in the banks for real estate loans totaled $2.8 trillion, which does not speak to the massive amounts of debt contained in Mortgage and Asset Backed Securities. The total overhang is unprecedented and some argue, cannot continue under conditions as they exist in the world today for reasons outlined above and below.
Unprecedented Debt. Lest this be considered scare tactics, often called bearish hyperbole, consider that in 1933 when FDR devalued the dollar by 40%, the Credit Market Debt as a percentage of GDP was a then historically unprecedented 287%. By early 2005, the percentage of Credit Market Debt had reached 304%, and grows daily. Period. And, yes, we could rest our case, but, there is more to be considered.
What is the Fed? Simply put, the Fed is not a federal entity or agency, it is owned and operated (through a special US Charter) by a cartel of major banks, who obviously see to their own best interest first. The books – the balance sheet – of the Fed are not open for public scrutiny. We don’t know what they own, what they buy, or when they do it. Why? The American people would not stand for it! We don’t know the amounts and names of academic economists who receive generous monetary grants (taxpayer money) from the Fed for sweat-heart skewed research supporting Inflationism. Why the secrecy?
At it’s inception a function of the Fed was to maintain and control an “elastic money supply.” This is not necessarily a bad idea, unless one is a gold fundamentalist. In good times shrink the money supply, and, in bad times grow the money supply, What has happened, is that Greenspan always grew the money supply, and, moreover, created an accommodative policy which enabled easy creation of Liquidity – Debt. Thus creating the huge Credit Bubble. Structured Finance (Wall Street), which rarely over time had has such easy money, began creating exotic Securities’ products, such as Mortgage Backed Securities, Asset Backed Securities, etc.
They then began making crazy (leveraged by more credit, liquidity) bets (hedging, derivatives) on those products. This newly created debt, easy money, inflated and created a Credit Bubble, which, first, inflated the stock market (late nineties); and, now the Mortgage Bubble. (The same easy leveraged money conditions that created the Crash of 1929, and the ensuing Great Depression. The record shows that history does repeat itself occasionally, and always when self-interested central bankers call the shots.) The consequences for the American Public are indeed frightening, and again we suggest preparing yourself in advance for the possibility of another Great Depression, which may be world wide in scope.
The Wonder. Of it all. What many overlook (some call it denial, in this case it comes out of moral hazard, which is the financial markets’ belief that the Fed will always save them through accommodation, the Greenspan Put, so can they continue putting more Greenspan-enabled money at risk through hedge funds and derivatives) is the coming consequence of the huge and growing Current Account Deficit, which is financed by dollars re-cycled largely from Asia. From Asian central banks, because independent global investors have lately been eschewing ownership of Treasuries and Agency debt. The Bank for International Settlements recently released figures showing that Asian central banks financed 75% of the US Current Account Deficit in 2004. This is very significant in that it shows that important central banks create fiat money out of thin air (Globalization, the Monetization of Debt), to support our economy under duress and influence of the Fed.
The Asian central banks buy US Securities to lay off dollars, support the US consuming markets, and moreover, to maintain growth in their own economies. The foreign banks create local currency/money out of thin air to buy the dollars received by their local manufacturers that sold to Wal-Mart and Target, etc. By this process our inflation (creation of money) is exported throughout the world. This slowly increases the prices of things the Asians can’t or do not manufacture, such as gold, oil, property and high end services and goods.
Besides, what else can they do with the dollars (gained from selling to us, and simultaneously taking our good manufacturing and service jobs) goes Wall Street reasoning? Don’t we have them between the rock and the hard place? Well, China’s attempts to buy Unocal (and other US equities such as IBM’s PC business) have been bashed (and put down and some out) by a naïve and well meaning, chest-thumping protectionist Congress. In lieu of buying US equities they’re buying energy supplies around the world to insure their growth while insuring the growth of higher energy prices for all, thus higher prices at the pump, as well as in the price of all manufactured and delivered goods, which is called “inflation.” (Remember, we argue, it’s only higher prices. Inflation is the printing of money). And, we must remember that some nations will or can not always act rationally (in their own best interest) from a global perspective, if in fact they have domestic political issues, which they must serve to stay in power. (Just like in the good ol’ U.S.) At any rate the Unocal sale was quashed, and the IBM deal went through.
If these foreign central banks lose faith in a declining dollar, and simultaneously must invest heavily in commodities to sustain their growth; and, at the same time US interest rates stop rising, causing their dollar assets to lose balance sheet value, well, what would you do? What could you do? You’d well consider not buying equities and securities in the nation that had been a safe haven. You’d buy commodities. You’d go to the foreign currency market and sell dollars (at a discount, sending the dollar down and down and down) you’ve accumulated by the feverish benevolence of the American Consumer and their belief that real estate values always go up. You might follow Warren Buffet and buy a basket of foreign currencies.
Or? Gold? One must remember that gold (not regarded as anything to be considered – a mere antiquated metal according to Dr. Bernanke) is a commodity. And, where is the price of gold? See-sawing in the last few weeks, then abruptly to $492.50 with $500 in sight, at the same time that the dollar rose, as many international investors turn to the metal that has always held value against inflated currencies. (And do remember that the price of spot gold can be quietly manipulated by concentrated central bank manipulation, but not if there is a genuine movement by international investors to the metal that holds relative value, particularly during downturns.) Consequently, the recent uncoupling of gold from the vicissitudes of the dollar (both rising together when more recently and gold reacted in an inverse relationship to the dollar). This is, or should be, of considerable consequence to the alert investor. Head’s up!!!
Or Oil? As we have done (and recently tapped lately due to Katrina), the Chinese are building their own Strategic Petroleum Reserve to protect themselves. Naturally this increased demand forces world wide oil prices higher, contributing to the higher cost of all goods. Since we are the largest consumers of all goods, we are seeing just the beginning of higher prices, though the Fed until recently had been publicly maintaining another fantasy, that inflation was contained enough that baby-step increases would stabilize the economy. Their twisted public inflation “headline” numbers (let alone their ridiculous CPI) are not consistent with what it actually costs to survive in the US today if a family needs to consume: food, home heating, gasoline, medical services, and, oh, lest we forget – shelter.
Insult to Injury. Dr. Bernanke recently and famously chided the world financial markets for possessing a “glut of savings.” He actually blamed them for our problems: the problem of no savings; and, the problem of increased housing debt, which has led to extravagant consumption based on home equity appreciation. Our indulgence is the fault of the other. Please.
Up Against the Wall. Greenspan came to the job with a much more resilient situation than Dr. Bernanke finds. Any number of issues give Dr. Bernanke, very little wiggle room:
i) we are arguably reliant on foreign investment that is slowing and will slow further if he does not increase interest rates (is it foreign investment, or, merely dollar liquidity recycling?);
ii) the consumer draws on, relies on, home value appreciation (wages and salaries have fallen below price increases) to spend, and worse, saves no money, which would be a cushion if things go terribly wrong; and,
iii) if the good Doctor lowers interest rates as a stop-gap to avoid an oncoming recession, the cost of foreign disinvestment will be more than we can pay.
The Right Stuff. Does Dr. Bernanke have it? Or, is it merely a claim based on formidable academic credentials – the time-tested, Appeal to Higher Authority. Can the new guy in town, the oncoming new sheriff convince the markets, the investing public, moreover, the America People that a recession is necessary – to safeguard the economy – from a depression. This is not deflation, this is the big one. He claims credentials as a foremost student of the Great Depression. But, are his analyses correct? Does he correctly understand what happened, and thereby know how to avoid a seventy-five year old trap? He may, or may not. One thing is certain. There is such a thing as an election in November 2006.
In the Deep. Notably, the formidable annalist, Doug Noland, doesn’t seem to believe that the highly regarded scholar of the Great Depression, Dr. Bernanke, actually understands the history of the Depression. He has also identified what we consider a Bernanke trait. Blame foreigners. Blame other. Noland wrote recently:
”There is one overriding fundamental issue I have with this whole amazing development: the view that we had fallen into a post-Bubble environment was flawed from the get-go. The technology Bubble had burst, but it was only an offshoot of the much greater Credit Bubble that was very much still Bubbling. Rather than combating deflationary forces and stabilizing some (fictitious) general price level, aggressive inflationary policies were instead poised to most intensely inflate markets already demonstrating the strongest inflationary biases (i.e. real estate, Treasuries, agencies, MBS and asset markets generally). Rather than buttressing an impaired post-Bubble Credit system, reflation stoked the Stalwart Mortgage Finance Bubble to unimaginable excess (and power). Rather than inflationary policies working to “stabilize” financial and economic conditions as the dauntless monetary theorist would ascertain, the resulting unprecedented Credit and speculative excesses guaranteed Precarious Monetary Disorder and Myriad Unwieldy Bubbles Both at Home and Abroad.”
”What our system desperately needs right now is some Reserve Bank of New Zealand determination to rein excess – pure and simple. I would be shocked to see such an approach from the new Fed Chairman. He holds special disdain for “Bubble Poppers,” and faults the post-Benjamin Strong Fed for the Great Depression. (“…it is now rather widely accepted that Federal Reserve policy turned contractionary in 1928, in an attempt to curb stock market speculation.”) At Milton Friedman’s ninetieth birthday party, he stated, ‘Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we [the Fed] did it. We’re very sorry. But thanks to you, we won’t do it again.’ These days, he continues to downplay the risk of inflation. And from Nell Henderson’s Wednesday article in the Washington Post: ‘Ben S. Bernanke does not think the national housing boom is a bubble that is about to burst,’ he indicated to Congress last week…. U.S. house prices have risen by nearly 25 percent over the past two years, noted Bernanke… But these increases, he said, ‘largely reflect strong economic fundamentals,’ such as strong growth in jobs, incomes and the number of new households.”
”Take and hour or so and carefully read his April 2005 speech, “The Global Savings Glut and the U.S. Current Account Deficit.” I can honestly say – with a conscious effort to avoid hyperbole – that it is one of the most flawed and suspect pieces of analysis I have ever read by a respected economist. And the subject matter is one of the most pressing issues that must be confronted by our policymakers. It actually does seem like he is oblivious to the fact that our intractable Current Account Deficit is foremost a reflection of unrelenting Credit excess, inflated asset prices, over-consumption and economic distortions. He is similarly oblivious to the reality that this “global savings glut,” being accumulating by our trading partners, is largely IOU’s we created in the process of mortgage and asset-based borrowings. Yet, this line of reasoning is consistent with his analytical framework. From the preface of his book: “I believe that there is now overwhelming evidence that the main factor depressing aggregate demand [during the Great Depression] was a worldwide contraction in world money supplies. This monetary collapse was itself the result of poorly managed and technically flawed international monetary system (the gold standard, as reconstituted after World War I).” Dr. Bernanke has a troubling (Friedman-like) penchant for looking outside the U.S. Credit apparatus, financial system and markets when it comes to identifying the true source of instability.”
”I do agree with the notion that ‘ideas are critical.’ Unfortunately, our new Fed chief has some very flawed and dangerous ideas of how to deal with critical events that could very well develop early in his term. He should be talking restraint and the risks associated with attempting a “soft-landing.” But he and his fellow Inflationists will have none of that. And while the stock market has already demonstrated its stamp of approval, the bond market and dollar could not quite shield their grimaces. There remains this dogged hope that a housing cool-down will damp inflationary pressures – allowing Dr. Bernanke to cut rates early next year. At this point, I wouldn’t bet that a moderation in mortgage Credit growth will significantly alter the inflationary backdrop. Inflationary pressures are becoming only increasingly pronounced and oblivious to little baby-step rate increases. The system beckons for an actual tightening of monetary conditions, a development certainly not accomplished by a little restraint employed at the fringe of mortgage lending excesses.”
Doug Noland’s penetrating and historically-based analysis, presented above, appropriately points to linkage between Dr. Bernanke and Dr. Milton “Monetarist” Friedman.
More Events and Comments. Since Dr B’s 2002 speech, the inflation rate has nearly doubled and the dollar has plummeted. Worse is that the bond market began falling directly after the recent announcement.
In a 2004 speech, Dr. Bernanke said, “We believe that our findings go some way to refute the strong hypothesis that nonstandard policy actions including quantitative easing and targeted asset purchases, cannot be successful in a modern industrial economy.” Translation: “targeted asset purchases” means that he is saying that in the event of crisis, the Fed could and should nationalize assets before they fall. We’d bet five cents that the Board at General Motors might like that, particularly, if Bernanke privately indicates a sell back (for pennies on the dollar) when the coast is clear. The taxpayers can take the hit, which is the history of the Savings and Loan Debacle.
Actually the Fed could buy up all the General Motors shares available on the market through a private intermediary. Could they already be doing so to prop the stock? It is alleged that there is such a thing as the Plunge Protection Team, which utilizes major investment banks and other entities that allegedly step into the market anonymously under the name of “private clients,” following the Fed’s orders to buy (with “on our honor” repurchase agreements in place) indexes, to show that investor confidence (coming from who knows where) is bouncing back. Allegedly, it’s been effective when used. But, it’s a secret so that the American People won’t understand that the market is rigged. What a blow that would be. Is Everything We Know – Really Wrong? That would be silly, and we’re very serious here. But … still.
Take Down. Prescient we’re not, but, if history is a guide, we fear a terrible scenario likely to unfold. Even a modest glance at the facts presented above indicate we’re in uncharted waters. It’s never been done before? Maybe it has. This previous creditor nation now owes trillions of dollars. Might it be that we repudiate the debt by devaluing the dollar 40% as FDR did in 1933?
[We’re Rome. Actually these debts are your tribute to us for keeping the world largely at peace, for enabling your economies to get up and roaring. Thank you very much.
[From time to time as the case may be, we go from nation to nation to show the rest of you the Mercy of our Terrible Swift Sword. Think of Shock and Awe. You’re not following the logic? Think of Iraq? Everyone knows now we lied to our own people to go to war. What do the frightened people do about it? Shake their heads? So listen carefully. Everything will go on as before. We continue to inflate the currency. We’ll say it’s worth less, devalue the dollar, which brings the real price of paying these massive debts way down. And, then, of course we must continue inflating. You do want those jobs for your people don’t you? We certainly want to keep our jobs, but, well, manufacturing and service employees are on their own.
[Our houses? Well, that’s up to us, but since we’re off the record here … we’re going to liquidate 25-30% of the owners, the ones with the sub-prime, no-money down, interest only loans. The ones who bought more house than they could afford, the ones who couldn’t believe they could buy a house, or another residential house investment, the ones who really ought to have known better – that it really was too good to be true – the ones who bought into the mania. They believed it was true, in part, because our Greenspan told them all on February 23, 2004, to use Adjustable Rate Mortgages (ARMs). He definitely knew how to keep the party going, and personally filled up the punch bowl on that date. Over a year later he pulled the switch, said that people who had used ARMs could/would lose money. But, it was late, way too late. Over a third of all homes sold after his 2004 speech went to investors. He really pulled them in. As rates continue to rise, the ARM people will be severely affected, and many with underwater mortgages will fall out, walk away from their homes and their debt; and owners (institutional investors, domestic and international) of that debt, fixed-asset Mortgage Backed Securities may also be hit strongly.
Blame the appraisers. Nothing new here. It was done before in the Savings & Loan debacle. It’s tough stuff, but, It’s worked before, it’ll work again. Yes, think on the Great Depression. Too much money loaned out for stock market speculation, an earlier Equity Bubble, like our current housing speculation, Mortgage Bubble. In the 1980s the appraisers were coerced by lenders to inflate the actual value of commercial property, to hit those numbers, make those deals. Today (as a Realtor) we hear of wide-spread complaints (that are rarely reported in the main-stream press) by appraisers that they have been under extreme pressure by lenders to hit the high numbers, make the deals happen. The lenders don’t care about the quality of the mortgage loans, the ability of the borrower to pay, they immediately package the loans, securitize them as bonds, and sell them to Inflationists such as: Fannie or Freddie or Asian Central banks or institutional investors, because they have had a good enough yield against risk (are perceived safe by dreamers who ought to know better, but, many have bought into the mania as have homeowners who plant very expensive tulips in their yards).
The Smart Ones. For residential investors, it’s a been good ride – if you’re out early enough. Out when it seems to hurt. When greed says, couple more months, we’ll do even better. When do you get out of investment houses? Right now. Clearly the market is changing. The smart ones, prudent investors, not just greedy amateur flippers, got out at or before the July top (at least in Marin County). Here we are in November and houses are staying on the market longer, and original listing prices (dreaming of Spring 2005) are being lowered. Got the Clue?
Deflation coming? We’ve provided some arguments above that support that we believe that at the very least [major?] change is coming. Exact timing is impossible to predict. Notably we’ve seen lower consumer goods prices at a result of wage arbitrage, though this is changing (factor in energy costs). China and India pay less in wages to produce products and services we love to consume. A slowing economy will put enormous pressure on prices, theoretically driving them down. And, if interest rates increase, home values will continue down – towards what some consider realistic pricing. Realistic pricing? When the national affordability rate is over the top, when for instance in California only 13% of the people can afford to purchase a median priced home (limiting the pool of buyers); and, when the sky-rocketing cost of building materials is factored in, it’s not inappropriate to suggest that current home values are inflated. Yet, as long as interest rates stay reasonable, and the Fed does not restrict the money supply, then this dance party will continue until some, we believe, GeoPolitical events will force change.
Or Stagflation? Which occurs when economic growth is slowing and unemployment is growing. At the same time prices may rise contributing to what they call inflation, but, which you understand is only that, rising prices. Inflation, to repeat is the creation of money, which directly creates higher prices.
Pensions, Bankruptcy, Credit Card Debt and New Tax Laws. Pensions are coming under withering attack, and many corporations have not adequately funded them. A formulaic bankruptcy filing under Chapter 11 may enable them to dump their obligations to current and oncoming retirees. Think of the airlines and automobile companies. Ironically, rising health care costs are seriously hurting US corporations. Yet, a communist system that would share equally and lower costs cannot be seriously considered. The Japanese national health plan, includes everyone, and is run at half the cost of our private system. Our system seems to work for drug and health suppliers and providers; yet seems bad for the people and employers. Is this rigidity, or insanity. We’ll lighten up. We’ll call it old school, and hope Washington D.C. wakes up.
The new bankruptcy laws have been engineered to tighten the noose around all debtors, and is particularly onerous for home owners. Debt will not go away. Will a new category of low wage indentured servant be created, from the former middle-class, who can and is willing to work smart – but is forced to work at Wal-Mart.
New credit card laws enable the companies to extract more from pressured debtors through the doubling of the minimum payment. There is more and none of it good news for the beleaguered consumer. Yet, for the most part while (confidence is slowing, then growing, then slowing) many believe that everything will be OK, their real earnings will grow and the increase in value of their home will enable them to pay their mortgage, their enhanced lifestyles and heat their homes this winter when they get home from an expensive drive to and from work. There may be many chilly evenings.
While we have not thoroughly digested newly recommended tax laws, we do note that the National Association of Realtors has come out strongly against them because they will hurt the home owner significantly. These proposals may be dead in the water on reaching Capital Hill; but make no mistake about it, the Administration’s intent is to raise more taxes from the middle-class (liquidate the middle class?), while continuing to maintain tax cuts for the wealthy.
In sum. Best not to be a debtor with any type of adjustable rate product; or, in need of health care or retirement. While we’re not financial advisors, and recommend you get one that understands what’s argued above, it might not be a bad idea to liquidate property while the market is sort of holding, and gasp, yes, pay cap gains, invest safely in short-term Treasuries, commodities (how about that gold over $490??? amazing) until the housing market goes through its changes. Come back to real estate when the market has been wrenchingly cleansed (liquidate real estate?). Don’t be in it when the wrenching comes, unless, you have a fixed rate mortgage. If so, well, that might be all right for investors because rents may go up, and maybe you can safely ride it out over the long-term. But, residential investors might be much better off to get out, watch and wait, and then: “Buy when blood is running in the streets.” Baron Nathan Mayer Rothschild. (1777-1836)
"AG: ‘Ben, Ben, you have so much to learn. That transparency stuff is fine for academic research. In the real world, never giving the market too much information means never having to say you're sorry. Or that you were wrong.’ " Caroline Baum, Bloomberg. November, 2005. (We infer that Ms. Baum’s reference to “AG” may have been to Chairman Al “Departing Maestro” Greenspan.)
"Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. It will purge the rottenness out of the system. High costs of living and high living will come down. People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up from less competent people.” Andrew W. Mellon, Secretary of the Treasury, circa 1932.
"Bulls of 1929 - like their 1990s counterparts - had their eyes glued on improving profits and stock valuations. Not a thought was given to the fact that the rising tide of money deluging the stock market came from financial leverage and not from savings." Dr. Kurt Richebächer. Circa, recent.
The final quote from a good doctor is one that we highly agree with. Substitute the word, housing, for the word, stock, and you’ll be up-to-date. Then loosely substitute the words, Bull Ben, for the words Bulls of 1929, and you’ll see our position at the outset. Actually we agree with all three quotes, and while we’re not nearly as severely austere as the former Secretary of the Treasury, Andrew W. Mellon, he does make a point. A planned debacle, an all hand’s-on-board public winding down, would be less painful to the investing public and all Americans than if it comes out of nowhere. However, a well-thought-through program would be communist-like central planning that will never and should never fly in a Capitalist Society. Unless of course the Federal Reserve System does it in secret, like so much of what they actually do. Could they be planning it now?!?!?!
”Continuity.” By many accounts, continuity was near the first word Dr. Bernanke uttered when the announcement was made official. This was what the equity market required and it heaved a sigh of relief. Meaning the stock market held very well, thank you very much. However, both the bond and dollar markets blinked. We’ll explore why below.
There is a wide debate in academic and financial circles as to whether Dr. Bernanke is a dove or a hawk on the critical matter of inflation.
Inflationism – Inflationists. A Socialistic-Like Movement comprised of individuals / entities whose market credibility (moreover, livelihoods / professional careers), is based on an untenable belief system that everything will continue (their lifestyles maintained) if the Fed continues accommodation, massively creating increasingly less valuable money to float their, ahem, bets on market movements. (KK)
In other words [the Fed] continues to enable, actually create Bubbles (of which they deny exist, or cannot be named until they’re ready to blow) that Inflationists bet on (hedge, or not), while encouraging (through complicit media), less sophisticated retail players (residential investors for example), to stay the course.
Inflation. While a contentious issue we’ve come to believe (we are guided by the excellent Steve Saville), that the word inflation is widely misunderstood by both the public and even some professional members of Structured Finance (Wall Street). As Mr. Saville instructs, inflation is the increase in liquidity, the money supply. If the money supply is increased as Mr. Greenspan has done for nearly eighteen years then prices rise. If the money supply is decreased then prices are apt to fall. Period. Bowing to convention, unless otherwise noted, we will accordingly use the term inflation to indicate growth of prices. No intention to confuse, moreover, a direct intention to enable, rather cause thinking below the surface, understand what is being done, and, moreover, how obfuscation is maintained as a cover for actual events and activities.
A balance is important, and one of the Fed’s mandates is to maintain the value of money. Within that context some argue that a little inflation is a good thing. In fact, since the Fed began (1913), the money supply (inflation) has increased steadily since 1935. But, never so much as during Greenspan’s long term. Moreover, he has done this by creating a monstrous Credit Bubble, which led directly to the late nineties’ Equity Bubble (popped to the destruction tune of nearly $7 Billion of Main Street shareholder values), to the current very dangerous Mortgage Bubble. This Fed engineered Mortgage Bubble has created the widely discussed Housing Bubble. In it’s wake, savings are zero, and the unprecedented Current Account Deficit is a very real danger to domestic and international markets and economies. In fact the consumer has moved the income based personal savings rate into negative territory. The last time that was accomplished was 1933, by all accounts a very bad year. Depressing.
Under dollar hegemony, the US dollar is arguably the world’s currency; and the Fed has become arguably the International Lender of Last Resort (with lip service to the International Monetary Fund and World Bank). Without giving a detailed historical analysis of why, and without discussing the dollar as a store of value, we submit that Dr. Bernanke has a near impossible task ahead of him, and that history cannot judge him well over time, and that also, over time (and it might be a short time from now) he may be required to preside over a forced unwinding of the enormous Credit and Mortgage Bubbles created by his predecessor and applauded by Structured Finance; who, having become flippy drunk at Al’s party will turn very aggressive on anyone who threatens to, or actually takes the punch bowl away. Tough love.
We argue that Dr. Bernanke is a Bull, not an inflation dove or hawk. The later are terms bantered about in the press about him, terms that merely obscure for the investing public his real role as Fed Head. He must be a bull. He must create a wide perception that everything is just fine, and that we do not stand on the brink of deep recession, if not, depression. He’s no Alan Greenspan, but, moreover, he’s no Paul Volker, just when we need him.
Need Paul Volker? Yes. We argue that in order to maintain the confidence of foreign governments and their central banks, the Fed must tighten (raise interest rates) and be less accommodative (stop freely creating such massive amounts of dollars through liquidity growth) than has been the case. Not through Greenspan-like baby steps, but firmly and decisively in order to maintain the slightly diminishing flow of recycled dollars back to the US to buy our Treasuries, Mortgage Backed Securities, Asset Backed Securities, and the like. The in-flow of over $2 Billion per business day, to keep us solvent. Must let the markets know who is in charge. Must give them a taste of Shock and Awe. Only Dr. Bernanke can do this. But, and it’s a very large, BUT, can he convince the other members of the Federal Open Market Committee to fall in line, join him in being interest rate pushers, and, simultaneously hedge (only slightly) by being Slow Helicopter Men (increasing the supply of money only slightly to enable a soft landing). In recent FOMC meetings there have been dissents from Greenspan positions, though certainly not loud enough to have changed the direction of the Fed. Is this possible? Hardly. “We were knee deep in the Big Muddy, And the big fool said to push on.” Pete Seeger.
The Man. By all accounts at age 51, the relatively youthful (give him five years on the job), Dr. Bernanke is a nice guy, and that is good. However, can impeccable credentials and academic acumen confer (Wall) Street Smarts? Can, rather will, pressure from the markets and the Administration cause Dr. Bernanke to fold, to not be able to sustain his real (as we see them) duties, his deeper obligations to the American People and the US and World Economies; or, will he continue enabling Structured Finance to make large bets with nearly free money (the carry trade), continuing a policy of systemic risk to the economy. Most new Fed Chairman do not have all the appropriate credentials when they come to the position, and consequentially must (and some do) learn on the job.
Widely reputed as one of our top academic theoreticians, disposed to econometrics, Dr. B, is also known as a top inflation fighter, based on econometric approaches, models and analysis of history. The reasoning and moreover, sentiment, goes that if he possess such acumen, and he’s for “Continuity” it looks good, sounds better, a fighting chance to stave off disaster. Not so fast. The deepest aspect is that the huge external debt (Current Account Deficit) and the Mortgage Bubble (most call it the Housing Bubble) are similar to Siamese twins. Fixing one, may kill the other.
While a Harvard undergraduate Dr. Bernanke enjoyed Libertarian reasoning; as a professor and later Chairman of the Princeton Economics department, he was a casual dresser and widely noted as a rigorous thinker and who did his homework; as a Federal Reserve Governor, he would chat informally in the cafeteria with staffers (unusual for normally austere, unapproachable Governors). As the Chairman of Bush’s Council of Economic Advisors, he became a fully buttoned-down careful member of the team (though President Bush did recently chide him for wearing tan socks with a blue suit to a meeting, though Bernanke turned it into a joke the following day, showing his good humor and grace under fire). Grace over substance? Is that enough?
In some recent commentaries it’s been suggested that Dr. Bernanke simply will not be able to hold his own convincingly in the media spotlight, appearances on the Hill, etcetera. Remember, this entire house of cards is built on appearances – perception – appearances which show confidence. Previous television appearances have shown him to be the academician, not the cool-hand showman, not the obfuscating Maestro.
The inevitable Allan Abelson of Barron’s said, “The selection of Ben Bernanke has prompted a lot of mostly inane chatter by economists and press pundits…. All we really know about Dr. Bernanke is that he has degrees from Harvard and MIT was head of the economics department of Princeton, read Ayn Rand as a callow youth, … and is something of a monetarist.” Ah ha. Another callow youth Ayn Rand reader. We were one too, but we grew out of it; Greenspan never did, and we hope Dr. Bernanke will.
Similar to Al Greenspan comments, Dr. Bernanke has been quoted saying,
“I think it’s extraordinarily difficult for the central bank to know in advance or even after the fact whether or not there’s been a bubble in an asset price.” And,
“Changes in asset prices should affect monetary policy only to the extent that that they affect the central bank’s forecast of inflation.” And, also,
“A closer look reveals that the economic repercussions of a stock market crash depend less on the severity of the crash itself than on the response of economic policymakers, particularly central bankers.”
He claims not be able to see an asset (recently stating there is no housing) bubble, but, if one is there, he wishes it doesn’t burst, but, if it does (and they all do) the Fed can fix it right up by further inflating the money supply – eroding the value of purchasing power of the dollar so that Structured Finance can get out of Dodge OK, and there will be plenty of money for them to cover their shorts. The taxpayers, won’t even really know what hit them. They’ll just pay and pay like they did in the 1980s Savings and Loan debacle.
Believes the Impossible. Dr. Bernanke has asserted over time that by merely pushing the interest rate up and down (and he has espoused knowing when to take action based on modeling and strict formulas, as a good professor would likely assert), he can keep the ball in the air, the economy growing and prices stable, thus controlling the price of things. Would it be so simple. He’s right there with Greenspan on that one, and many market participants and commentators marvel at their naiveté. Or is it? Perhaps it’s just a show tune they trot out to keep and manage expectations – market and investor confidence. The well rehearsed rhetoric is only that, and some intelligent insiders know, really know, that it’s all they can say publicly as they actually, in fact, continue to create inflation (increasing the money supply through the growth of debt-based excessive liquidity), while claiming to control the price of things, through interest rate pushing.
In other words, a great charlatan such as Alan Greenspan, has been able to control expectations in an extremely complex world, with more data sets to observe, study, analyze and make recommendations from. But, today, we argue, there is too much input, too many changing, really changing international markets and conditions that disallow projections based largely on historical precedent. The modeler may not be able to get his head out of the lab when they’re banging on the door. In addition never forget the impact of domestic and foreign political upheavals, irrational political context and other factors jamming in – breaking the model – chaos can rule.
Can an academic who comes to understand that it can’t be completely understood, stand up with a straight face, and say: It’s all good? The problem is exacerbated when the academic personality, and this one given to transparency, finds that the truth will hurt too much, will cause the markets to attack (through a complicit press who receives advertising revenue directly and indirectly from market participants and their couturiers) the veracity of the bad news sayer. So, as Ben “Continuity” Bernanke has indicated (to us at least), the game is suspect, the fix seems to be in, and he’ll likely play the same old tune until the music stops and the punch bowl runs dry. Meaning that the longer the dance continues, the longer the punch bowl is re-filled, the worse will be the carnage when the music stops. Finally here, President Bush, George’s Father, may have lost his second term as a result of Greenspan’s independence. One might think they softened Dr B up real well before they gave him the job. Yes, Sir. YES. SIR!
They’ve claimed they cannot recognize bubbles until it’s too late, and all that they can do is manage the down-side as it emerges, as it always does. Yet, Greenspan himself, has finally done his mea culpa on that misrepresentation. Implying, Well, you know, I had to say that, but, now that only history will be my judge …, how do you like me now – as a straight man? Really this time, really. I mean it this time. I’m not crying wolf. Really. Hello? Hello? They can’t hear me. I’ve virtually left the building.
Sporting conceptualizations aside, actually he said, “As with the Australian house price and household borrowing booms, the longer leverage builds up at historically high prices, the greater is the potential for costly adjustments at some point later on. As such, the earlier any corrections take place, the less likely that it is that the outcomes will be detrimental to the stability of the global economy and financial markets.” (Anyway, they made me do it, so they’d like me. I’m out. Let Ben fix it. Bye Bye.)
Even more telling, if not a shocking confirmation that he has run an international confidence game were recent remarks going past the earlier “ … some local froth” comment when he told the American Bankers Association that “widespread speculation” using current loans will give “significant losses” to both borrowers and lenders. While the bankers may not have risen and said, “Now you tell us,” one might surmise they were being explicitly warned to tighten up lending standards – now that it’s too late. Lip service, but, still, if you can breath, there is likely a home loan for you.
The Evidence. A bit of the historical record is in order. In November of 2002, newly appointed Federal Reserve Governor, Ben Bernanke, gave a historic speech, which gave him the nickname, Helicopter Ben. The speech, entitled: “Deflation: Making Sure 'It' Doesn't Happen Here” was thought by some to be much more than Dr. Bernanke’s personal opinions given to a major group of economists in Washington D.C. That, some have opined, he was speaking for and with (his boss) Mr. Greenspan’s approval.
”As I have stressed already, prevention of deflation remains preferable to having to cure it. If we do fall into deflation, however, we can take comfort that the logic of the printing press example must assert itself, and sufficient injections of money will ultimately always reverse a deflation.”
”Like gold, US dollars have value only to the extent that they are strictly limited in supply. But the US government has a technology called a printing press (or, today its electronic equivalent), that allows it to produce as many US dollars as it wishes to at essentially no cost.”
At the bottom line, among other things, he said it would be appropriate to “shovel money from helicopters” if deflation were at hand. The currency and bond markets took him, and take him seriously, though they wonder if he will do it. If he doesn’t do it, shovel money through the growth of the Credit Bubble, as Mr. Greenspan has done, then there is the distinct possibility that it will all unravel. But, just a minute, if he continues to increase the Credit Bubble, print more money, the dollar loses value, and there will be an international dollar sell-off unless interest rates continue to rise, which if they do, the Mortgage Bubble will burst, taking down the consumer’s ability to spend, which keeps the GDP growing and Structured Finance crowing. Whew. Yet, it’s that simple.
Supporting this contention is a not widely publicized but critical fact in housing sales. In some areas, new home sales have been recently languishing (so much for the argument that we are short of housing). Some developers who previously would not take early contracts from speculative flippers, or even, pure long-term investors (they demanded that the buyer actually live in the home) will now sell to anyone who can come up with a lender, and there are still plenty of them who will still lend to nearly anyone.
Some Housing Facts. Housing Bubble, yes or no. Clearly there is one. The price of building materials has skyrocketed in the last couple of years. The Affordability index shows that most people cannot afford to buy a median priced home. In California only approximately 12% of the people can afford to purchase a home today. So, in the event of a downturn where will the buyers emerge from? Since 2004, over 50% of buyers used dangerous mortgage products such as: no-down payment, interest only, and a host of other marginal mortgage products to buy more home than they can afford. They’ve done this, caught up in the mania, because they believe that if they don’t get in, they’ll never be able to afford a home. We wonder if the buyers for the most part all already “all in.” Will the next wave of buyers be high school seniors hoping to graduate in June, get a job and buy a home with an interest only loan (like renting)? Ridiculous? Perhaps.
Real Debt. The US government is now carrying $8 Trillion in debt. Only three years ago the gross public debt was $6 Trillion. Meaning that the government increased debt over $2 Trillion in three years through borrowing and spending. This astonishing figure does not include: business, personal, state, county or local government debts, which have also increased by trillions of dollars in this short three year time frame. At the same time, actual debt in the banks for real estate loans totaled $2.8 trillion, which does not speak to the massive amounts of debt contained in Mortgage and Asset Backed Securities. The total overhang is unprecedented and some argue, cannot continue under conditions as they exist in the world today for reasons outlined above and below.
Unprecedented Debt. Lest this be considered scare tactics, often called bearish hyperbole, consider that in 1933 when FDR devalued the dollar by 40%, the Credit Market Debt as a percentage of GDP was a then historically unprecedented 287%. By early 2005, the percentage of Credit Market Debt had reached 304%, and grows daily. Period. And, yes, we could rest our case, but, there is more to be considered.
What is the Fed? Simply put, the Fed is not a federal entity or agency, it is owned and operated (through a special US Charter) by a cartel of major banks, who obviously see to their own best interest first. The books – the balance sheet – of the Fed are not open for public scrutiny. We don’t know what they own, what they buy, or when they do it. Why? The American people would not stand for it! We don’t know the amounts and names of academic economists who receive generous monetary grants (taxpayer money) from the Fed for research. Why the secrecy?
At it’s inception a function of the Fed was to maintain and control an “elastic money supply.” This is not necessarily a bad idea, unless one is a gold fundamentalist. In good times shrink the money supply, and, in bad times grow the money supply, What has happened, is that Greenspan always grew the money supply, and, moreover, created an accommodative policy which enabled easy creation of Liquidity – Debt. Thus creating the huge Credit Bubble. Structured Finance (Wall Street), which rarely over time had has such easy money, began creating exotic Securities’ products, such as Mortgage Backed Securities, Asset Backed Securities, etc.
They then began making crazy bets (hedging, derivatives) on those products. This newly created debt, easy money, inflated and created a Credit Bubble, which, first, inflated the stock market (late nineties); and, now the Mortgage Bubble. (The easy leveraged money conditions that created the Crash of 1929, and the ensuing Great Depression. The record shows that history does repeat itself occasionally, and always when self-interested central bankers call the shots.) The consequences for the American Public are indeed frightening, and again we suggest preparing yourself in advance for the possibility of another Great Depression, which may be world wide in scope.
The Wonder. Of it all. What many overlook (some call it denial, in this case it comes out of moral hazard, which is the financial markets’ belief that the Fed will always save them through accommodation, the Greenspan Put, so can they continue putting more Greenspan-enable money at risk through hedge funds and derivatives) is the coming consequence of the huge and growing Current Account Deficit, which is financed by dollars re-cycled largely from Asia. From Asian central banks, because independent global investors have lately been eschewing ownership of Treasuries and Agency debt. The Bank for International Settlements recently released figures showing that Asian central banks financed 75% of the US Current Account Deficit in 2004.
The Asian central banks buy US Securities to lay off dollars, support the US consuming markets, and moreover, to maintain growth in their own economies. The foreign banks create local currency/money out of thin air to buy the dollars received by their local manufacturers that sold to Wal-Mart and Target, etc. By this process our inflation (creation of money) is exported throughout the world. This slowly increases the prices of things the Asians can’t or do not manufacture, such as gold, oil, property and high end services and goods.
Besides what else can they do with the dollars (gained from selling to us, and simultaneously taking our good manufacturing and service jobs) goes Wall Street reasoning? Don’t we have them between the rock and the hard place? Well, China’s attempts to buy Unocal (and other US equities such as IBM’s PC business) have been bashed (and put down and some out) by a naïve and well meaning, chest-thumping protectionist Congress. In lieu of buying US equities they’re buying energy supplies around the world to insure their growth while insuring the growth of higher energy prices for all, thus higher prices at the pump, as well as in the price of all manufactured and delivered goods, which is called “inflation.” (Remember, we argue, it’s only higher prices. Inflation is the printing of money). And, we must remember that some nations will or can not always act rationally (in their own best interest) from a global perspective, if in fact they have domestic political issues, which they must serve to stay in power. At any rate the Unocal sale was quashed, and the IBM deal went through.
If these foreign central banks lose faith in a declining dollar, and simultaneously must invest heavily in commodities to sustain their growth; and, at the same time US interest rates stop rising, causing their dollar assets to lose balance sheet value, well, what would you do? What could you do? You’d well consider not buying equities and securities in the nation that had been a safe haven. You’d buy commodities. You’d go the foreign currency market and sell dollars (at a discount, sending the dollar down and down and down) you’ve accumulated by the feverish benevolence of the American Consumer and their belief that real estate values always go up. You might follow Warren Buffet and buy a basket of foreign currencies.
One must remember that gold (not regarded as anything to be considered – a mere antiquated metal according to Dr. Bernanke) is a commodity. And, where is the price of gold? See-sawing in the last few weeks, briefly sustaining an 18 year high, as many international investors turn to the metal that has always held value against inflated currencies. And do remember that the price of spot gold can be quietly manipulated by concentrated central bank manipulation.
As we have done (and recently tapped lately due to Katrina), the Chinese are building their own Strategic Petroleum Reserve to protect themselves. Naturally this increased demand forces world wide oil prices higher, contributing to the higher cost of all goods. Since we are the largest consumers of all goods, we are seeing just the beginning of higher prices, though the Fed until recently had been publicly maintaining another fantasy, that inflation was contained enough that baby-step increases would stabilize the economy. Their twisted public inflation “headline” numbers are not consistent with what it actually costs to survive in the US today if a family needs to consume: food, home heating, gasoline, medical services, and, oh yeah – shelter.
Insult to Injury. Dr. Bernanke recently and famously chided the world financial markets for possessing a “glut of savings.” He actually blamed them for our problems: the problem of no savings; and, the problem of increased housing debt, which has led to extravagant consumption based on home equity appreciation. Our indulgence is the fault of the other. Please.
Up Against the Wall. Greenspan came to the job with a much more resilient situation than Dr. Bernanke finds. Any number of issues give Dr. Bernanke, very little wiggle room:
i) we are arguably reliant on foreign investment that is slowing and will slow further if he does not increase interest rates, or, is it not foreign investment, but only dollar liquidity recycling;
ii) the consumer draws on, relies on, home value appreciation (wages and salaries have fallen below price increases) to spend, and worse, saves no money, which would be a cushion if things go terribly wrong; and,
iii) if the good Doctor lowers interest rates as a stop-gap to avoid an oncoming recession, the cost of foreign disinvestment will be more than we can pay.
The Right Stuff. Does Dr. Bernanke have it? Or, is it merely a claim based on formidable academic credentials – the time-tested, Appeal to Higher Authority. Can the new guy in town, the oncoming new sheriff convince the markets, the investing public, moreover, the America People that a recession is necessary – to safeguard the economy – from a depression. This is not deflation, this is the big one. He claims credentials as a foremost student of the Great Depression. But, are his analyses correct? Does he correctly understand what happened, and thereby know how to avoid a seventy-five year old trap? He may, or may not. One thing is certain. There is such a thing as an election in November 2006.
In the Deep. Notably, the formidable annalist, Doug Noland, doesn’t seem to believe that the highly regarded scholar of the Great Depression, Dr. Bernanke, actually understands the history of the Depression. He has also identified what we consider a Bernanke trait. Blame foreigners. Blame other. Noland wrote recently:
”There is one overriding fundamental issue I have with this whole amazing development: the view that we had fallen into a post-Bubble environment was flawed from the get-go. The technology Bubble had burst, but it was only an offshoot of the much greater Credit Bubble that was very much still Bubbling. Rather than combating deflationary forces and stabilizing some (fictitious) general price level, aggressive inflationary policies were instead poised to most intensely inflate markets already demonstrating the strongest inflationary biases (i.e. real estate, Treasuries, agencies, MBS and asset markets generally). Rather than buttressing an impaired post-Bubble Credit system, reflation stoked the Stalwart Mortgage Finance Bubble to unimaginable excess (and power). Rather than inflationary policies working to “stabilize” financial and economic conditions as the dauntless monetary theorist would ascertain, the resulting unprecedented Credit and speculative excesses guaranteed Precarious Monetary Disorder and Myriad Unwieldy Bubbles Both at Home and Abroad.”
”What our system desperately needs right now is some Reserve Bank of New Zealand determination to rein excess – pure and simple. I would be shocked to see such an approach from the new Fed Chairman. He holds special disdain for “Bubble Poppers,” and faults the post-Benjamin Strong Fed for the Great Depression. (“…it is now rather widely accepted that Federal Reserve policy turned contractionary in 1928, in an attempt to curb stock market speculation.”) At Milton Friedman’s ninetieth birthday party, he stated, ‘Let me end my talk by abusing slightly my status as an official representative of the Federal Reserve. I would like to say to Milton and Anna: Regarding the Great Depression. You’re right, we [the Fed] did it. We’re very sorry. But thanks to you, we won’t do it again.’ These days, he continues to downplay the risk of inflation. And from Nell Henderson’s Wednesday article in the Washington Post: ‘Ben S. Bernanke does not think the national housing boom is a bubble that is about to burst,’ he indicated to Congress last week…. U.S. house prices have risen by nearly 25 percent over the past two years, noted Bernanke… But these increases, he said, ‘largely reflect strong economic fundamentals,’ such as strong growth in jobs, incomes and the number of new households.”
”Take and hour or so and carefully read his April 2005 speech, “The Global Savings Glut and the U.S. Current Account Deficit.” I can honestly say – with a conscious effort to avoid hyperbole – that it is one of the most flawed and suspect pieces of analysis I have ever read by a respected economist. And the subject matter is one of the most pressing issues that must be confronted by our policymakers. It actually does seem like he is oblivious to the fact that our intractable Current Account Deficit is foremost a reflection of unrelenting Credit excess, inflated asset prices, over-consumption and economic distortions. He is similarly oblivious to the reality that this “global savings glut,” being accumulating by our trading partners, is largely IOU’s we created in the process of mortgage and asset-based borrowings. Yet, this line of reasoning is consistent with his analytical framework. From the preface of his book: “I believe that there is now overwhelming evidence that the main factor depressing aggregate demand [during the Great Depression] was a worldwide contraction in world money supplies. This monetary collapse was itself the result of poorly managed and technically flawed international monetary system (the gold standard, as reconstituted after World War I).” Dr. Bernanke has a troubling (Friedman-like) penchant for looking outside the U.S. Credit apparatus, financial system and markets when it comes to identifying the true source of instability.”
”I do agree with the notion that ‘ideas are critical.’ Unfortunately, our new Fed chief has some very flawed and dangerous ideas of how to deal with critical events that could very well develop early in his term. He should be talking restraint and the risks associated with attempting a “soft-landing.” But he and his fellow Inflationists will have none of that. And while the stock market has already demonstrated its stamp of approval, the bond market and dollar could not quite shield their grimaces. There remains this dogged hope that a housing cool-down will damp inflationary pressures – allowing Dr. Bernanke to cut rates early next year. At this point, I wouldn’t bet that a moderation in mortgage Credit growth will significantly alter the inflationary backdrop. Inflationary pressures are becoming only increasingly pronounced and oblivious to little baby-step rate increases. The system beckons for an actual tightening of monetary conditions, a development certainly not accomplished by a little restraint employed at the fringe of mortgage lending excesses.”
Doug Noland’s penetrating and historically-based analysis, presented above, appropriately points to linkage between Dr. Bernanke and Dr. Milton “Monetarist” Friedman.
More Events and Comments. Since Dr B’s 2002 speech, the inflation rate has nearly doubled and the dollar has plummeted. Worse is that the bond market began falling directly after the recent announcement.
In a 2004 speech, Dr. Bernanke said, “We believe that our findings go some way to refute the strong hypothesis that nonstandard policy actions including quantitative easing and targeted asset purchases, cannot be successful in a modern industrial economy.” Translation: “targeted asset purchases” means that he is saying that in the event of crisis, the Fed could and should nationalize assets before they fall. We’d bet five cents that the Board at General Motors might like that, particularly, if Bernanke privately indicates a sell back (for pennies on the dollar) when the coast is clear. The taxpayers can take the hit, which is the history of the Savings and Loan Debacle.
Actually the Fed could buy up all the General Motors shares available on the market through a private intermediary. Could they already be doing so to prop the stock? It is alleged that there is such a thing as the Plunge Protection Team, which utilizes major investment banks and other entities that allegedly step into the market anonymously under the name of “private clients,” yet, following the Fed’s orders to buy indexes, to show that investor confidence (coming from who knows where) is bouncing back. Allegedly, it’s been effective when used. But, it’s a secret so that the American People won’t understand that the market is rigged. What a blow that would be. Is Everything We Know – Really Wrong? That would be silly, and we’re very serious here. But … still.
Take Down. Prescient we’re not, but, if history is a guide, we fear a terrible scenario likely to unfold. Even a modest glance at the facts presented above indicate we’re in uncharted waters. It’s never been done before? Maybe it has. This previous creditor nation now owes trillions of dollars. Might it be that we repudiate the debt by devaluing the dollar 40% as FDR did in 1933?
[We’re Rome. Actually these debts are your tribute to us for keeping the world largely at peace, for enabling your economies to get up and roaring. Thank you very much.
[From time to time as the case may be, we go from nation to nation to show the rest of you the Mercy of our Terrible Swift Sword. Think of Shock and Awe. You’re not following the logic? Think of Iraq? Everyone knows now we lied to our own people to go to war. What do the frightened people do about it? Shake their heads? So listen carefully. Everything will go on as before. We continue to inflate the currency. We’ll say it’s worth less, devalue the dollar, which brings the real price of paying these massive debts way down. And, then, of course we must continue inflating. You do want those jobs for your people don’t you?
[Our houses? Well, that’s up to us, but since we’re off the record here … we’re going to liquidate 25-30% of the owners, the ones with the sub-prime, no-money down, interest only loans. The ones who bought more house than they could afford, the ones who couldn’t believe they could buy a house, or another residential house investment, the ones who really ought to have known better – that it really was too good to be true – the ones who bought into the mania. They believed it was true, in part, because Greenspan told them all on February 23, 2004, to use Adjustable Rate Mortgages (ARMs). He definitely knew how to keep the party going, and personally filled up the punch bowl on that date. Over a year later he pulled the switch, said that people who had used ARMs could/would lose money. But, it was late, way too late. Over a third of all homes sold after his 2004 speech went to investors. He really pulled them in. As rates continue to rise, the ARM people will be severely affected, and many with underwater mortgages will fall out, walk away from their homes and their debt; and owners of fixed-asset Mortgage Backed Securities may also be hit strongly.
Blame the appraisers. Nothing new here. It was done before in the Savings & Loan debacle. It’s tough stuff, but, It’s worked before, it’ll work again. Yes, think on the Great Depression. Too much money loaned out for stock market speculation, an earlier Equity Bubble, like our current housing speculation, Mortgage Bubble. In the 1980s the appraisers were coerced by lenders to inflate the actual value of commercial property, to hit those numbers, make those deals. Today, we hear and read of wide-spread complaints (that are rarely reported in the main-stream press) by appraisers that they have been under extreme pressure by lenders to hit the high numbers, make the deals happen.
The Smart Ones. For residential investors, it’s a been good ride – if you’re out early enough. Out when it seems to hurt. When greed says, couple more months, we’ll do even better. When do you get out of investment houses? Right now. Clearly the market is changing. The smart ones, prudent investors, not just greedy amateur flippers, got out from July onward. Here we are in November and houses are staying on the market longer, and original listing prices (dreaming of Spring 2005) are being lowered. Got the Clue?
Deflation coming? We’ve provided some arguments above that support that we believe that at the very least [major?] change is coming. Exact timing is impossible to predict. Notably we’ve seen lower consumer goods prices at a result of wage arbitrage. China and India pay less in wages to produce products and services we love to consume. A slowing economy will put enormous pressure on prices, theoretically driving them down. And, if interest rates increase, home values will continue down – towards what some consider realistic pricing. Realistic pricing? When the national affordability rate is over the top, when for instance in California only 13% of the people can afford to purchase a median priced home (limiting the pool of buyers); and, when the sky-rocketing cost of building materials is factored in, it’s not inappropriate to suggest that current home values are inflated. Yet, as long as interest rates stay reasonable, and the Fed does not restrict the money supply, then this dance party will continue until some, we believe, GeoPolitical events will force change.
Or Stagflation? Which occurs when economic growth is slowing and unemployment is growing. At the same time prices may rise contributing to what they call inflation, but, which you understand is only that, rising prices. Inflation, to repeat is the creation of money, which directly creates higher prices.
Pensions, Bankruptcy, Credit Card Debt and New Tax Laws. Pensions are coming under withering attack, and many corporations have not adequately funded them. A formulaic bankruptcy filing under Chapter 11 may enable them to dump their obligations to current and oncoming retirees. Think of the airlines and automobile companies. Ironically, rising health care costs are seriously hurting US corporations. Yet, a communist system that would share equally and lower costs cannot be seriously considered. The Japanese national health plan, includes everyone, and is run at half the cost of our private system. Our system seems to work for drug and health suppliers and providers; yet seems bad for the people and employers. Is this rigidity, or insanity. We’ll lighten up. We’ll call it old school, and hope Washington D.C. wakes up.
The new bankruptcy laws have been engineered to tighten the noose around all debtors, and is particularly onerous for home owners. Debt will not go away. Will a new category of low wage indentured servant be created, from the former middle-class, who can and is willing to work smart – but is forced to work at Wal-Mart.
New credit card laws enable the companies to extract more from pressured debtors through the doubling of the minimum payment. There is more and none of it good news for the beleaguered consumer. Yet, for the most part while (confidence is slowing, then growing, then slowing) many believe that everything will be OK, their real earnings will grow and the increase in value of their home will enable them to pay their mortgage, their enhanced lifestyles and heat their homes this winter when they get home from an expensive drive to and from work. There may be many chilly evenings.
While we have not thoroughly digested newly recommended tax laws, we do note that the National Association of Realtors has come out strongly against them because they will hurt the home owner significantly. These proposals may be dead in the water on reaching Capital Hill; but make no mistake about it, the Administration’s intent is to raise more taxes from the middle-class (liquidate the middle class?), while continuing to maintain tax cuts for the wealthy.
In sum here, best not to be a debtor with any type of adjustable rate product, or in need of health care or retirement. While we’re not financial advisors, and recommend you get one, it might not be a bad idea to liquidate property while the market is sort of holding, and yes, pay those cap gains, invest in commodities until the housing market goes through its changes. Come back to real estate when the market has been wrenchingly cleansed (liquidate real estate?). Don’t be in it when the wrenching comes, unless, you have a fixed rate mortgage. If so ride it out. But, residential investors might be much better off to get out, watch and wait, and then: “Buy when blood is running in the streets.” Baron Nathan Mayer Rothschild. (1777-1836)
