-->The Emperor Has No Clothes
The Daily Reckoning
Baltimore, Maryland
Thursday, 6 November 2003
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*** Testing our souls... what if we're wrong?
*** Insiders selling... jobs still disappearing... gold goes
up. The Great Investors get out...
*** Tell-tale signs that the world is coming to an end...
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Our souls are being tested, dear reader.
Our convictions... our guesswork... even our sense of right
and wrong.
What if we're wrong, we ask ourselves? What if the world
doesn't work the way we think it does?
Not that we can presume to ever know how the world really
works. That is something not granted to us humans. All we
can do is to look through the glass darkly and try to make
out general patterns... the rules and principles... that help
us understand it.
When a man drinks too much, we expect him to fall down. And
frankly, we're a little disappointed when he doesn't; it is
as if he has cheated nature in some way.
When a man cheats on his wife or his business partners... we
don't know, but we suspect there is a price to be paid
somewhere... somehow... sometime. If not in this world,
perhaps in the next! And if that's not the way it
is... well, that's the way it ought to be.
And now we have before us the spectacle of millions of
people who think they can get richer - neither by the sweat
of their brows... nor the discipline of saving... but by
merely by buying a house or a stock. The price of purchase
doesn't seem to matter; the secret is just to 'be in the
market.'
And since they believe they have found the lazy man's way
to wealth... they see no need for the usual precautions. Why
not mortgage up your house... if you know the price will
rise? America's savings rate has fallen to one half of one
percent of GDP... or less than 3% of personal income. By
contrast, the Chinese typically work longer hours, under
worse conditions, for 1/10th the pay... and save 35% of
their money!
Not only do they not save money, collectively, Americans
spend a half-trillion more than they make... and borrow
another half-trillion - much of it from third-world,
communist nations - to finance their national government.
But don't worry about it, we are told: 'America is the
biggest, most dynamic economy in the world. We're growing
twice as fast as Europe. Our stock market is booming. Our
real estate is rising. We have Alan Greenspan at the Fed
and George W. Bush in the White House. What could go
wrong?'
So far, the Dow has recovered 57% of its losses from the
bear market of 2000-2002. The last quarter showed the
strongest economic growth in 19 years. Investors are more
bullish than ever. Margin buying is at its highest level
since '99. And even the dollar is going up - yesterday, it
climbed, again, against the euro.
Can it be, dear reader? Is this the real thing? A real
recovery? Will the bill never come?
We wait... and wonder...
In the meantime, here's Addison with more news:
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Addison Wiggin writing from Paris...
-"Bears, bears, bears..." begins an all-too-typical
message from a faithful reader,"the market has been going
up for 8 months - don't you think it's time you changed
your tune?"
- Even our editor at Wiley has her reservations:"We
checked with your publicist and our contacts - the media is
disinterested in your 'reckoning day' doomsday philosophy.
Especially since the market is going up. Producers [of TV
and radio programs] clearly recognized you and Bill but
feel the 'message' was off..."
- Fact is, as Jim Rogers points out in the foreword he
wrote to Financial Reckoning Day,"... artificially low
interest rates and rapid credit creation policies set by
Alan Greenspan and the Federal Reserve caused the bubble in
U.S. stocks of the late 90s... Now, policies being pursued
at the Fed are making the bubble worse. They are changing
it from a stock market bubble to a consumption and housing
bubble. When those bubbles burst, it's going to worse than
the stock market bubble...
-"No one, of course, wants to hear it," continues Rogers,
getting to the point we want to make today,"They want the
quick fix. They want to buy the stock and watch it go up
25% because that's what happened [in the last bubble] and
that's what they saw on TV."
- Indeed, the rally in the market has been remarkable.
Remarkable enough to shake the very bedrock of the
principles your editors here at the Daily Reckoning strive
in vain to follow. Yesterday, the market, showing signs of
fatigue, did take a breather. The Dow lost 18 points,
settling in for the evening at 9820. The S&P 500 lost a
couple points to 1051. The Nasdaq limped ahead two points
to close at 1959. But you've got to hand it to them... since
the rally began, the Dow is up 32% and the Nasdaq a
whopping 56%.
- And all over the news we find raving madmen (mostly
politicians or policy wonks, it seems) talking up that tart
'productivity'... cooing over the estimated 7.2% growth
rates for Q3... and whispering coyly about the 4% growth
rate for the fourth quarter...
- Even if the numbers were true - which we have our
reservations about, as the good doctor Richebächer points
out below - the 'recovery' can't last. Even our new pal
Paul Krugman is on the case. He appears to have taken a
gander at out book:"Such explosive growth in debt can't go
on forever, and it won't. Yet our current leaders and their
apologists insist that the problem will magically solve
itself. Last year's deficit came in slightly below
forecasts, and we've had one quarter of good economic
growth -- see, we'll grow out of the deficit! But we won't,
and there will eventually be a day of reckoning...
- Krugman continues:"As Bill Gross of Pimco, the giant
bond manager, says, 'Sooner, perhaps later, our Asian
creditors will wake up and smell the coffee.' (Yes, the
federal budget and the value of the dollar now depend on
huge purchases of Treasury bills by the governments of
Japan and China.) When they do, he predicts 'higher import
costs, a cutback in spending on cheap foreign goods, rising
inflation, perhaps chaotic financial markets, a lower
standard of living.' Something to look forward to... [and]
the day of reckoning seems closer..."
- We're sure the NY Times editorialist, and fellow best-
selling author, has some crazy policy proposal for stopping
the Day of Reckoning from wreaking its righteous havoc.
- Your Parisian editors don't even pretend to know enough
to construct such a policy. We simply sit down to write
with a smile... like a fatigued mother who has finally
gotten the kids to bed might sit down with a good mystery,
trying like the dickens to enjoy the read. We also try to
pinpoint the clues... and see if we can't guess the ending
before we reach the final chapters.
- What types of clues have we spotted today? Well, a
headline in the NY Post reads"Grim News: NYC loses 47,000
jobs." Ouch. The jobs picture received negative reviews
across the country in October.
-"The easiest way to gain an understanding of the U.S.
economy," writes our friend and colleague Jim Puplava,"is
to think in terms of four words: debt, consumption,
speculation and illusion. When looking at the U.S. economy
from the perspective of these four words, it becomes easier
to understand why the recovery isn't shaping up like
cyclical recoveries of the past.
-"It has become a start and stop economy for the last two
years," Puplava continues."The economy picks up steam
after stimulus is applied, then it begins to fizzle once
the stimulus has been exhausted. Without the constant input
of new stimulus - either through interest rates or tax cuts
or deficit spending - the economy rolls over. It is a
bubble economy where real economic growth has been anemic,
job growth has been nonexistent, and business fixed
investment has been absent."
- And what's this? Another clue comes over the wire as we
write. The BBC reports that the Bank of England voted this
morning to raise rates to 3.75%. The BoE has been the
faithful hand-servant of the Federal Reserve, cutting rates
in England at an equally rapid pace on this side of the
pond. Now, apparently, they've voted to bite the bullet and
begin the hard work of digging at the wound...
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Bill Bonner, back in Baltimore...
*** Against all the bullish news are the tell-tale signs
that the end of the world is coming.
While investors have never been more bullish, the investors
who know what they are doing - the insiders - are pulling
out. The latest research shows them selling 34 shares for
every one they buy.
*** The greatest investors, too, are warning investors. In
recent weeks, the big three - Buffett, Soros, and Templeton
- have all told investors to watch out.
*** While the Dow has recovered so much that almost all
investors are sure this is the real thing - a real bull
market, Richard Russell reminds us that the stocks market
recovered almost as much following the '29 crash. While the
Dow has bounced back 57% - following the greatest jolt of
stimulus ever administered - the Dow bounced back 52% in
the early '30s, even with little stimulation.
*** Darn. Gold went back up. It had fallen sharply at the
beginning of the week. We hoped that it would drop to our
current buying target - $370 - so we could buy more. Alas,
the real money slipped to $377 and then
recovered... marching back to $382 yesterday.
*** When the real recovery comes, we will know it. People
will find real jobs paying real money. So far, that hasn't
happened. This from the Prudent Bear:
"Layoff tracker John Challenger was quoted as saying, 'We
put so much stimulus into the economy in the third quarter
that the economy grew at its fastest pace since 1984... And
yet there was a net job loss of 50,000 jobs in the third
quarter.'"
***"How's Edward doing," your editor asked his wife,
trying to keep up with the family by phone.
His father had spoken to him in grave tones. He confessed
his crime... and now the poor little boy regrets ever having
laid eyes on the b-b pistol or the friend who sold it to
him.
"I talked to his teacher yesterday. She said he was being
very well behaved, which is so unusual... it is very
noticeable, she pointed out."
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The Daily Reckoning PRESENTS: Four strong reasons why the
recovery is bogus and cannot last.
THE EMPEROR HAS NO CLOTHES
by Kurt Richebächer
"The deficit country is absorbing more, taking consumption
and investment together, than its own production; in this
sense, it is drawing upon savings made abroad. Whether this
is a good bargain or not depends upon the nature of the use
to which the funds are put. If they merely permit an excess
of consumption over production, the economy is on the road
to ruin. If they permit an excess of investment over home
savings, the result depends on the nature of the
investment."
- Joan Robinson,"Reconsideration of the Theory of Free
Trade," Collected Economic Papers, Volume IV, 1973
America's economic recovery and its likely strength have
been and remain the central preoccupation in economics
around the world.
In the consensus view, the U.S. economy will record in this
year's second half its strongest pace of growth since the
late 1990s. According to a monthly survey of 53 economic
forecasters conducted by the Wall Street Journal Online,
its seasonally adjusted annual growth rate during the
current quarter will be 4.7% and 4% in the fourth quarter.
While a few economists have been warning that this
recovery's actual pace may disappoint, our own view is that
the U.S. economy's higher growth rate in the second quarter
was totally deceptive. Focusing strictly on the hard
economic data, like employment, personal income,
production, business fixed investment and profits, we
completely fail to see any recovery at all in the United
States.
Ever since 2001, the United States has been running
monetary and fiscal stimulus of unprecedented largess. In
July, the government's tax cut and rebate checks turned an
income gain of $19 billion into a $120 billion gain in
disposable income.
In the bullish consensus view, the medicine is finally
working. Above all the upward revision of the second-
quarter real GDP growth rate from 2.4% to 3.1%, following
1.4% each in the two prior quarters, has caused virtual
euphoria.
Knowing these are annualized growth rates is the first
reason why we are still unable to see a sustained, let
alone a self-sustaining, economic recovery in the United
States. When American economists speak of 4% growth in the
coming quarters, they really mean 1%, and that is a far cry
from what used to rank as a cyclical recovery. Growth rates
of postwar recoveries in the United States averaged 5.4%
over the first two years after recession - and that needed
very little monetary and fiscal stimulus, as against less
than 3% growth currently.
The second reason for our disbelief is that U.S. GDP has
been heavily bolstered by government spending. In the
fourth quarter of 2002, it accounted for 24.5% of nominal
GDP growth, in the first quarter of 2003 for 40.7% and in
the second quarter for 38.2%.
A third reason is that the recovery completely fails to
show in the current-dollar data. In these dollars in which
all economic activity takes place, GDP grew 0.99%, after
0.94% in the first quarter, an acceleration hardly worth
mentioning. But measured in chained dollars, it more than
doubled from 0.35% to 0.775%. Taking the big boost from
government spending into account, it was more slowdown than
acceleration.
The fourth and most important negative point is that the
trumpeted recovery in business fixed investment, in
particular in high tech, is just another statistical
mirage. In the second quarter of 2003, overall business
fixed investment in structures, equipment and software,
measured in current dollars, amounted to $1,119.9 billion,
slightly down in comparison with $1,126.8 billion in the
first quarter of 2002.
Measured in real terms, chained dollars, it was up $64
billion, or 0.5%.
I hardly need remind you that a true economic recovery
essentially must come from a balanced rise in consumer
spending and business investment spending. But what really
happened to the two during the first half of 2003, being
generally hailed as the start of the U.S. economy's final
recovery?
Let us look at the changes in aggregate GDP. Measured in
current dollars, it grew by $99.6 billion in the first
quarter and by $105.5 billion in the second quarter, hardly
an acceleration.
Looking at the demand components, growth of consumer
spending, its biggest component, slowed between the two
quarters from $87.1 billion to $83.1 billion.
Nonresidential fixed investment dipped in the first
quarter, but recovered in the second quarter to its earlier
level. From first to second quarter, the growth of
government spending slowed from $40.7 billion to $33.6
billion, and that of residential investment from $21
billion to $6 billion. Not one single GDP component rose.
The sharply rising trade deficit subtracted $11.1 billion
from GDP growth in the first quarter and $23.8 billion in
the second.
But this dismal picture, measured in current dollars,
radically changed for the better after the statisticians
had treated the numbers with their price indexes. GDP
growth, measured in chained dollars, surged from $33.8
billion to $73.5 billion. Growth in consumer spending, down
in current dollars, went steeply up from $33 billion to
$62.4 billion, and growth in government spending even shot
up from $1.7 billion to $31.7 billion.
Yet by far the single biggest contributor to this sudden
surge in real GDP growth from the first to second quarter
came from the calculation of the price deflator for
computers. Measured in current dollars, this investment
inched up by $0.8 billion in the first quarter and by $6.3
billion in the second quarter, but the hedonic deflator
boosted the two numbers in real terms to $15.3 billion and
$38.4 billion. Hedonic pricing of computers in the first
quarter accounted for 43% of real GDP growth and for 44% in
the second.
The bullish consensus, flatly disregarding the overwhelming
hedonic component, immediately hailed the sharp rise in
computer investment as the rapid comeback of high-tech
investment. Wall Street celebrated with the NASDAQ up 56%
since March.
In its absence, nonresidential investment remained dead in
the water across the board.
Warm regards,
Kurt Richebächer,
for The Daily Reckoning
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