-->Malinvestment, Thriftlessness & Speculation
The Daily Reckoning
Paris, France
Monday, 9 June 2003
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*** The bankruptcy of America...
*** Rally on Wall Street...Dow stayed above 9,000...but,
"divorced from reality"...
***"EOTWAWHKI?" - not-so-fast! Say some...the world after
hyper-inflation!...and more!
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The day of reckoning...maybe it's already here.
"Taking present values as of fiscal-year-end 2002," write
Jagadeesh Gokhale and Kent Smetters,"and interpreting the
policies in the federal budget for fiscal year 2004 as
current policies, the federal government's total fiscal
imbalance is equal to $44.2 trillion."
These guys are not fly-by-nights. At least, not yet.
Gokhale is the Senior Economic Advisor to the Federal
Reserve Bank of Cleveland, and Smetters is a full professor
at the Wharton School of the University of Pennsylvania.
Together, they penned a report under the watchful eye of
Paul O'Neill - when he was still the guardian of the U.S.
"strong dollar" policy at the Treasury.
Gokhale and Smetters had to invent a new term to measure
Uncle Sam's profligacy."Financial Imbalance" is what you
get if you take the"current federal debt held by the
public, plus the present value of all future federal non-
interest spending, minus the present value of all future
federal receipts."
Or, in other words, if you estimate how broke Uncle Sam is
when measured in constant dollars, today, then you add to
that the amount Uncle Sam will owe in the future based on
promises he's already made...you get a mean and nasty
figure much larger than the current administration of
wonks, quants and spendthrifts would like you to believe.
"Huge numbers like $44.2 trillion don't mean much to anyone
without a comparison," writes Porter Stansberry. But he
goes on to help us put the numbers into perspective -
"Consider: Uncle Sam's"Financial Imbalance" is 10 times
the size of our current national debt.
"In order to achieve current solvency, the government would
have to raise payroll taxes by 68.5%, beginning today.
Alternatively, the government could cut Social Security and
non-Medicare outlays by 54.8% immediately and forever.
"It's unlikely that either huge tax hikes or huge Social
Security cuts will occur. Most likely, nothing will happen.
And so, the government's insolvency will grow much larger.
By 2008, FI will reach $54 trillion. To reach solvency at
that point, taxes would have to increase by 73.7%."
"How do you think either policy would go over at the
polls?" asks Stansberry. [Ed note: For a more detailed
analysis of Gokhale and Smetters' figures, please see:
The Bankruptcy of America
http://www.dailyreckoning.com/body_headline.cfm?id=3232 ]
Eric, what's the word from Wall Street?
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Eric Fry in New York...
-"The lesson of the past few weeks," observes Barron's
Michael Santoli,"is that the market will do what pleases
it, without consulting even Alan Greenspan, and what it has
wanted to do lately is go up in a nearly straight line."
- Last Friday morning, for example, stocks soared
immediately after a dismal unemployment report. The stock-
buyers did not seem to care that the economy continues to
shed jobs as profusely as a Samoyed in Palm Springs sheds
hair.
- Paradoxically, investors greeted this fresh evidence of a
still-struggling economy with a fresh wave of stock-buying.
Friday morning, the Dow soared more than 170 points and the
Nasdaq more than 2% on the notion that the employment news
could have been worse. Then again, the news could also have
been a heck of a lot better, which may explain why stocks
reversed course midday. The Dow limped into the closing
bell with a meager 21-point gain, while the Nasdaq nursed a
1% loss.
- For the week, however, stocks performed admirably, with
the Dow surmounting 9,000 for the first time since July, to
end the week 2.4% higher at 9,062. The Nasdaq Composite
added 2% to 1,627. Meanwhile, the stealth bull market in
crude oil continues with little fanfare, as the black stuff
jumped $1.72 to $31.28 a barrel. $30-oil - we're just
guessing now - is probably no help to the recovering-
economy scenario.
- But, returning to the jobs report, the recovering economy
seems to be little more than a"scenario" rather than the
cold, hard truth.
- Overall, the unemployment rate edged up to 6.1% from 6%
in April, as the economy lost 17,000 jobs, give or take a
few hundred thousand. The myriad revisions to the
employment data could lead a cynical market observer to
question the integrity of the employment data. But no
matter the revision, one message comes through loud and
clear - U.S. jobs continue to disappear...including jobs in
the high-tech sector.
-"The modest dip in payrolls," Barron's Alan Abelson
notes,"doesn't square with the weekly total of new claims
for unemployment insurance, which have stubbornly held
above 400,000 and, indeed, in the latest count, hit a five-
week high of 442,000. Average workweek, hours worked and
average hourly earnings were all more or less flat, while
the jobless rate edged up to 6.1%. What we found especially
interesting was that something like 16,000 jobs were lost
last month in electronics and computers, extending an
unbroken decline that stretches back to January 2001. Even
tech companies, we have a hunch, don't lay off people when
business picks up or looks like it's about to. So why are
investors going wild over techs? No, we asked first. You
tell us."
- At the moment, most investors are not troubling
themselves with questions of this sort. They care that
stocks are going up...and that's about all they care about.
- The recent rally on Wall Street has a divorced-from-
reality feel to it. The economy is not recovering, the tech
sector is not rebounding, employment is not growing, the
dollar is not strengthening and yet...stocks are going
up...almost every day.
- In keeping with the"divorced from reality" theme, the
New York Times ran a headline Wednesday that read,
"Greenspan Is Upbeat on Economy and Stirs Hope for More
Rate Cuts."...If Greenspan is so upbeat, why bother with
the rate cuts? And why would the stock market welcome more
rate cuts?
-"To find today's share prices attractive," says Barron's,
"an investor has to believe either that stocks are worth
more than their current 19 times forecast 2003 earnings, or
that those earnings estimates are too low...There's no
denying that investors recently have begun to feel, as the
country song says, 10 feet tall and bulletproof. In trying
to reflate the economy, the monetary authorities are also
helping to reflate the market's equivalent of 'beer
muscles,' the bravado that comes with impaired faculties."
- We suspect that the beer muscles will soon give way to
"fear muscles," as a retreating stock market stimulates the
"sell" reflex.
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Addison Wiggin, back in Paris...
*** Not everyone agrees that the Gokhale and Smetters
report spells EOTWAHKI (The-End-Of-The-World-As-We-Have-
Known-It.)
"The report's new method for calculating Social Security
and Medicare liabilities isn't even all that new," writes
Donald Luskin on his weblog, The Conspiracy to Keep You
Poor and Stupid."The Trustees [Ha!] of the Social Security
Trust Fund already started using the method this year (and
in fact, Smetters says his report comes up with less
alarming number than the Trustees did!)."
"Since when has the government ever played by the rules
with money?" our own Dan Denning asks."The $44 trillion
estimate of unfunded obligations assumes that the
government will pay up. But what if they decide to means
test Social Security? Or privatize and give retroactive tax
credits for those who've been paying in but aren't likely
to get, or even need retirement payments? There's a lot of
things the government can do to break its word. The most
unlikely thing of all is that it will do what it says.
"What's more, the whole debate about taxes and spending is
a false choice. Pundits talk about how much taxes will have
to rise to meet obligations...as if we can't simply cut
spending. What a conventional way of debating the size of
government...by coming up with way to 'pay' for tax cuts.
As if we the people can't just say, 'Here's an idea...quit
making big promises you know you can't keep. Cut spending.
Not just the growth rate in spending, but spending in
absolute terms.' Radical idea, huh?"
*** The Mogambo Guru takes on the economic, psychological,
political, and moral implications of inflation below...
Enjoy,
Addison Wiggin
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The Daily Reckoning PRESENTS: Mogambo on Monday! Attempts
to explain why the course of inflation everywhere -
economically, psychologically, politically, and morally -
does in fact follow the same pattern.
MALINVESTMENT, THRIFTLESSNESS & SPECULATION
The Mogambo Guru
For this week's exciting episode of the Mogambo Walk Down
Literature Lane, we thank Philip Spicer, a real nice guy
who apparently has more money than he knows what to do
with, since he reached down into his own pocketbook and
sent me a copy of the book/pamphlet entitled"Fiat Money
Inflation in France," and since there are no graphs or
artwork or pictures or illustrations or anything that I can
color in with my crayons, he knows that I will probably not
read it and will just throw it on the pile of books that I
ain't read either, because THEY ain't got no pictures
neither.
But he was wrong. I did read it, and I am glad I did, as I
was desperately searching for something about which to
write, and I did not want to resort to more long-winded
stories about how the government is out to get me, and how
when I was your age everybody and everything was better
than today, or simply begging for people to send me money
in the vain hope that somebody would actually send me a few
bucks so that I could get the professional help that I so
desperately need, or maybe some snazzy new mag wheels for
the car.
Anyway, a guy named Andrew Dickson White was a real smart
guy who was born a long time ago in 1832, got a good
education, established Cornell University, and died in
1918. In between birth and death he wrote a lot of things,
since he had a lot of time on his hands because sex, drugs,
rock and roll and downloading pornography off the Internet
were not invented yet, and one of the things he wrote was
"Fiat Money Inflation in France."
Now this is an interesting little book, although it is
referred to as a"short essay," and at 120 pages it is an
obvious indicator that they used to be a lot more long-
winded in those olden days. So interesting, in fact, that
the foreword is by Henry Hazlitt himself, and who writes
that White's essay is relevant because"...the course of
inflation everywhere - economically, psychologically,
politically, and morally - does in fact follow the same
pattern."
I will now provide my executive-summary version, provided
to you here and at no extra cost to you because I know how
busy and important you are. Here it is: the French stormed
the Bastille on July 14, 1789, and then they began to issue
more and more money, and by 1797 all the money became
worthless because prices had climbed so high, thanks to the
massive over-issuance of currency, and the whole country
spent the whole time turning into a bigger and bigger hell-
hole, until Napoleon rose to power and turned Europe into a
killing field, and then the French resorted to merely being
rude to people who spoke English, and they have been like
that ever since.
To those who prefer the long version, well, I can only feel
pity for you, but it follows, too. Inflation comes from the
idea, both back then and right freakin' now, according to
the jackasses at the Fed, in the Congress, on Wall Street
and every damn where you turn, that monetary inflation was
a good thing, and that prosperity can be assured if there
is enough money circulating. The reason this may seem
slightly unfamiliar to you is that, today, the idea is
presented not as"inflation is a good thing," but as
"preventing deflation is a good thing." In the olden days,
they didn't say it so expressly either, and the idea was
explained as"increasing the circulating medium."
You say to-may-to, and I say to-mah-to.
To quote Henry,"The broad pattern of all inflations,
historical and modern, is the same. The first result is
commonly the 'recovery' that the inflationists, like
others, are seeking. It is not until later that its
disappointing and poisonous effects become apparent."
And what are these poisonous effects? I thought you'd never
ask! And the reason I am so delighted that you did ask is
that I do not have to rack my little pea-brain to come up
with something either original, cogent or thoughtful, even
assuming that I could do such a thing even if I wanted to,
and there is a growing body of evidence that I can't, and
like the lazy bastard I am I will merely quote Mr. Hazlitt
extensively, yet again:"This is because the kind of
production stimulated by inflation even at the beginning is
an unbalanced production (owing to the money illusions that
inflation creates) and because inflation finally encourages
merely malinvestment, thriftlessness, speculation, and
gambling at the expense of production itself."
We have been in the throes of monetary inflation by the
Federal Reserve for decades, so let's take a look, and see
if we can find any evidence of these things. Do we have,
umm, looking at the list, malinvestment? Yep, and in
spades! There is excess capacity everywhere, and a huge,
strangling system of government, too, which is
malinvestment writ large! Do we have thriftlessness? Yep!
The savings rate is roughly, checking the dipstick which is
showing we are much more than a quart low, effectively
zero. Do we have speculation? Yep! Guys are right this
minute buying stocks that have P/E ratios at multiples seen
only in at market tops and in the wildest dreams of brokers
and issuing corporations on the idea that they will be able
to flip those stocks to some other sucker and make a
fortune in the process!
Well, then, how about gambling? Do we have gambling? Yep,
as you can hardly walk down any street in the nation and
not bump into a lottery machine or some pathetic guy
stumbling out of a casino with his pockets turned inside-
out and empty.
White writes that even back in the eighteenth century,
"They knew too well...the difficulties and dangers of a
currency not well based and controlled. They had then
learned how easy it is to issue it; how difficult it is to
check its over-issue; how seductively it leads to the
absorption of the means of the workingmen and men of small
fortunes; how heavily it falls on all those living on fixed
incomes, salaries or wages; how securely it creates on the
ruins of the prosperity of all men of meager means a class
a debauched speculators, the most injurious class that a
nation can harbor; how it stimulates overproduction at
first and leaves every industry flaccid afterwards; how it
breaks down thrift and develops political and social
immorality."
Now, being the big-hearted and truly wonderful person you
are, you are obviously horrified that such things could
happen on your watch. Especially that part about being
flaccid afterward, an attention-grabbing word that I think
he used on purpose because flaccid and wasted is usually
what happens after you get the royal screw-job.
And if there is one thing in economics that can
legitimately be called The Royal Screw-Job, it is
inflation.
In one of the tiresome paragraphs above, I don't know which
one, and I don't want to go back and look because I am as
tired of reading this scary stuff as you are, I'm sure, we
were looking for evidence of malinvestment, thriftlessness,
speculation, and gambling. And we found them. Now, let's
you and me, since we seem to have a lot of time on our
hands, see if we can find examples of these other things
that White mentions, too.
First off, do we find evidence of"how easy it is to issue
it; how difficult it is to check its over-issue"? Well, my
curious little grasshopper, let's take a look at the
monetary base, and debt growth, all of which came from
credit growth, and for that we look to the Fed. With the
greatest of ease we can find an almost infinite number of
statistics, and they all say that, yes, it appears that it
IS easy to issue, because they keep issuing exponentially
more and more of it every day, and I have yet to read in
any newspaper how the employees of the Fed are complaining
about how difficult their jobs are.
Thus, we conclude that it is also not only"difficult to
check its over-issue," but it appears to be impossible!
Next, let's see if we can find examples of how inflation
"leads to the absorption of the means of the workingmen."
For that, we simply note that there are now tax credits,
especially the Earned Income Tax Credit, for those who work
full-time but are STILL so poor that they are living in
stark poverty! And why are they living in stark poverty?
Because, obviously, inflation has raised prices so high
compared to wages, you dummy!
Jeez, pay attention, will you? Prices are now so high that
somebody who works full time cannot escape living in
poverty, a poverty so dire that the government is taking
tax revenues to give to that poor, pathetic person as a
salary supplement to keep them from starving to death in
the street! And there is also a freaking tax credit for
people to pay for baby-sitters, so that they can afford to
even go to work, to earn the damn EITC!
Therefore, I would definitely say that inflation"leads to
the absorption of the means of the workingmen." And for the
same reason, the exact same damned reason,"how heavily it
falls on all those living on fixed incomes, salaries or
wages."
Well, how about"it creates on the ruins of the prosperity
of all men of meager means a class a debauched
speculators"?
Raise your hand if you are buying the S&P 500 at the
current P/E of 35. Raise your hand if you are loaning your
money at yields that are the lowest in more than forty
years, and on the idea that yields will keep going lower
and lower. Raise your hand if you are buying houses at
these outrageously high prices on the idea that you can
sell it in the future and make a handsome profit.
Now look at your hand. If it is holding a candy bar, you
are fat. If you are holding somebody else's hand, you are
in love. But if it is up in the air, you are a speculator,
and thus you are the guy that White, who was a professor,
who founded a University, who is a real smart guy, thinks
is the worst person in the world.
Nyah nyah nyah!
Proceeding along, we take a gander at how inflation
"stimulates overproduction at first and leaves every
industry flaccid afterwards." Well, look around you!
Not only did we have overproduction, but we had the
attendant over-consumption, too, which you would expect
from Say's Law. At least, in eighteenth-century France,
they at least had pent-up demand, since apparently all the
common people had was filth to eat and rags to dress in,
but, on the bright side, they had plenty of both. Do you,
or anybody you know, have a garage or spare room or rental
storage unit or attic or cellar that is not filled to
bursting with stuff? So we had over-production in the
proverbial spades, over-consumption in those same spades,
and we are having flaccid industry now, and that is why the
Fed is doing what it is doing. And why France did what it
did.
Getting to the end of the list of the horrors of inflation,
we take a look at the last two,"how it breaks down
thrift," which is reflected in the savings rate of
Americans, and"political and social immorality."
I will leave it to you, as your homework assignment, to
write a two-hundred word essay about the political and
social immorality you see all around you. And remember, as
usual I will award massive amounts of extra credit if you
can find any example that is NOT characteristic of the
Democrat or Republican parties, because it would
demonstrate a depth and breadth of knowledge on the level
of"savant."
Some of these quotes of White seem to be, eerily, written
today, instead of the early nineteenth century. To wit,
"For at the great metropolitan centers grew a luxurious,
speculative stock-gambling body, which, like a malignant
tumor, absorbed into itself the strength of the nation and
sent out its cancerous fibers to the remotest hamlets." I
think the term"luxurious" is apropos when applied to the
NYSE, given that Dick Grasso, the titular head of the
corrupt NYSE, gets paid at least $10 million a year to
merely prance around looking ridiculous and officious.
But getting back to the point, I note that, sure enough, as
somebody who lives in a remote hamlet, there is no person
or thing anywhere around here that is not intimately
connected to the stock market and its"speculative stock-
gambling body," usually by virtue of having IRA's and
401(k)'s.
And what of the future? Well, White maintains that the only
thing preventing the mass starvation of laborers in France
was that they were drafted into the military and sent off
to be killed in wars. So, extrapolating, perhaps we have
starvation and getting killed in wars to look forward to.
How special.
And the French in those days, showing how some ideas are so
universally bad that they cannot be killed, also called for
higher taxes on the rich. And then finally they hit upon
the idea that there was actually no need for taxes at all!
The government could simply print up as much money as it
wished to pay for whatever it wished! And here I am
reminded of the massive amounts of debt that is being
issued by our government, and the massive amounts of money
that the Fed is creating to buy that massive amount of
debt, even as we speak.
So what can you do? Again, as remorselessly as ever, I
quote extensively, that towards the end of the relentless
expansion of money that"...the paper money was almost
exclusively in the hands of the working classes, employees
and men of small means. Financiers and men of large means
were shrewd enough to put as much of their property as
possible into objects of permanent value."
Hmmm. Objects of permanent value. What could that possibly
mean?
Of course, there were always rays of hope shining
somewhere."From time to time there was a revival of hope
caused by an apparent revival of business; but this arrival
of business was at last seen to be caused more and more by
the desire of far-seeing and cunning men of affairs to
exchange paper money for objects of permanent value." Again
with those mysterious"objects of permanent value."
The French ended up their inflationary period with
Napoleon. The Germans ended up theirs with Hitler.
Sorta makes you wonder who we will end up with, doesn't it?
Regards,
The Mogambo Guru,
for The Daily Reckoning
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