Hello DJ, I think I understand why CB does not care for www.prudentbear.com and Noland. Too much doom and gloom, seemingly unending. I am not as familiar with Noland because I just started reading him since I turned cautious, starting in November of 1999, and do not know if Noland is or is not a perma-bear.
<<”there's people and, again, there's, you know, other kind of people">> perhaps try Marc Faber, a current year Barron’s Round Table panelist, with an office down the road from me, but residing mainly in Thailand, my new bolt paradise …
Message 16824454
… seeing how the Philippines is the next battlefield after all carefully selected cold-weather Afghanis are invited to live on the tropical tip of Cuba.
On an unrelated matter, I think the relevant tropical-weather Abusayaf scoundrels, when similarly handpicked, should be sent to a camp in the Alaskan tundra, for having made impossible my return diving excursion to www.elnidoresorts.com this coming Lunar New Year.
Anyway, the pony-tailed and hog riding Marc is very learned, funny, always contrary, and publishes the Doom, Gloom, and Boom Report, not to be confused with the name of this thread:0)
dailyreckoning.com
THE MONETISATION OF THE AMERICAN ECONOMY
by Dr. Marc Faber
Although there are a number of different "business cycle" theories, it has always been my view that economic expansion and contraction phases are caused by a number of different factors, and that their durations can vary considerably, depending, again, on many different social, economic, and political conditions.
That said, I'll try to explain what I believe is happening today in the U.S. Economy.
In the 19th-century, the U.S. economy was still a predominantly agrarian economy. In 1900, despite America's rapid industrialization, agriculture still employed twice as many people as did manufacturing, with farm workers making up close to 40% of the U.S. labor force, down from 70% in 1840. Today, farm workers account for less than 3% of the labor force.
The relative importance of agriculture versus manufacturing in the 19th century is also evident from American export figures, which show that in 1850 over 83%, and in 1890, 75%, of exports were agriculture-based. It is thus easy to see that, in the 19th century, agriculture was by far the most important sector of the U.S. economy and that, therefore, movements in agricultural prices were the dominant factor for the entire economy. When, for whatever reason, farm prices rose (poor harvests, droughts, wars, etc), the agricultural sector thrived because farmers' incomes would rise.
When agricultural prices fell, farm incomes would decline. Declining farm incomes would then reduce the purchasing power of farmers and lead to less demand for manufactured goods. Periods of weak growth or recessions followed. But to explain 19th-century American business cycles purely as a function of agricultural price movements is an oversimplification.
During times of rapidly rising agrarian prices, what was the incentive for farmers to innovate and to lower costs by producing more efficiently with new production methods?
In periods of falling commodity prices we find all the great waves of innovations in periods. The reason? During such times the only way to increase one's income was to produce more cost-effectively through the application of new inventions and innovations. The canal boom in the 1830s, the railroad boom of the 1870s, and the 1920s' electricity, chemistry, and motor booms all occurred during times in which commodity prices fell.
All these periods of great innovations were, however, driven not only by the desire to cut costs and improve productivity in order to boost profits, but also by a favorable environment for financial assets.
Declining commodity prices led to falling interest rates and, therefore, rising bond and stock prices. In turn, the combination of declining interest rates and rising equity prices lowered the cost of capital and improved the profits of the manufacturing sector. Hence, all major financial manias, such as the canal and railroad booms, and the 1920s' and 1990s' U.S. stock market manias, also occurred in a weak pricing environment! But at the same time, each innovation and stock market boom period preceded financial busts, which led to recessions or depressions. Why?
During periods of weak prices, monetary conditions remain very accommodative, since there is no inflation. Moreover, the combination of new inventions, rising corporate profits, vibrant financial markets, and easy money is a powerful tonic for capital spending. Both rising stock prices and declining interest rates are obviously reducing the cost of capital and, by themselves, lead to more capital investments.
Easy-money monetary policies bring about, through a combination of a wave of innovations and booming financial markets, massive over-investments and a gross misallocation of capital because the profit opportunity expected to arise from the innovation is so great that it leads to excessive borrowings by consumers as well as businesses. The downturn or bust is ushered in when the over-investments lead to excess capacity and a collapse in prices, which in turn drive down profits and, along with them, stock prices, which then weaken the economy even more. Thus, you have negative wealth effect and cutbacks in capital spending due to rising capital costs.
This is where we stand today. The weak pricing and easy money environment of the 1990s led to a huge stock market and capital-spending boom, which was largely financed by debt and foreigners who bought U.S. real assets, equities, and bonds.
However, today the situation is more complex because we are faced with a fundamentally totally different set of economic and financial, and now suddenly also geopolitical, conditions than ever before in economic history. Why? Every economy has a dominant driving force. I explained above that in the U.S. economy of the 19th century, agriculture was the dominant sector, which would largely drive economic activity according to rising or falling prices for agricultural commodities.
In the Middle East, since the 1970s, rising or falling oil prices bring about, in the absence of an important and efficient manufacturing or service sector, vibrant or sluggish economic conditions. For countries like Taiwan and South Korea, exports are the engine of economic expansions and contractions. So, what is now the driver of the U.S. economy? Certainly, it is no longer agriculture!
Moreover, whereas the manufacturing sector may have been the engine of the U.S. economy in the 1920s and probably still was in the 1950s, today it only accounts for slightly more than 20% of GDP and, therefore, it doesn't have a very meaningful impact on the economy as a whole.
Compare manufacturing to, say, the U.S. financial markets and you will realize that it is the financial markets, and financial transactions, that are the key driver of the economy.
Just think of the U.S. stock market capitalization, which at its peak in March 2000 reached a stunning 183% of GDP, more than twice the level prior to the crash in 1929 when it reached 81%, and significantly higher than the Japanese stock market capitalization as a percentage of GDP in late 1989.
Prior to the vicious bear markets that followed the speculative excesses leading to both the 1968 and early 1973 tops, stock market capitalization as a percentage of GDP stood at 78%. Compare this to major market lows, when stock market capitalization as a percentage of GDP stood at 16% in 1942, 34% in September 1974, and 34% in July 1982. Even after its decline over the last 18 months, the U.S. stock market capitalization as a percentage of GDP - at present amounting to more than 130% of GDP, compared to an average of 50% since 1926 - is still extremely high and supports my view that the equity market, along with the credit market, is the economy's largest, albeit certainly not "strongest", lever for the economy.
The rising importance of the financial sector in the U.S. economy has also been reflected in the strong performance of U.S. financial stocks. The performance of the S&P 500 Financial (Diversified) Index - which includes stocks such as American Express, American General, Fed Home Loan Mortgage, Federal National Mortgage Association, MBIA, MGIC Investment Corp, Morgan Stanley Dean Witter, DSCVR&C, and SunAmerica - reveals that their resilience in an otherwise rather weak market - at least until last fall - is striking.
On the debt side, the evidence also points to a disproportionately large debt market compared to the real economy. Total U.S. market debt which does not include loans by financial and non-financial institutions) currently amounts to about 270% of GDP, compared to an average of approximately 145% of GDP between 1950 and 1980.
At the stock market's peak in 1929, total market debt reached 160% of GDP!
If, indeed, a substantial part of economic growth over the last 20 years or so, not only in the U.S. but all over the world, was driven by an expansion of the financial markets - most notably the credit market - then it follows that this disproportionate financial expansion must go on at all costs in order to sustain further economic growth.
The almost endless supply of money available for the corporate and household sectors leads to poor investments by corporations - projects that don't make any sense - and to personal consumption growth that outpaces income growth declining savings rate.
The turning point of this financial pyramid then occurs when it becomes evident that the corporate sector over-invested. Competition then drives down prices as a result of the additional supplies, which in turn bring about the profit deflation in the corporate sector we are presently witnessing among industrialized countries. The profit deflation subsequently leads to a reduction in employment and lowers the value of equities, which brings about a deterioration of the consumers' leveraged balance sheet.
When the economy weakens, this increased leverage on the part of the consumer leads to a substantial rise in the number of personal bankruptcies, as happened recently.
Faced with these conditions, the consumer has two choices. He will either be forced to borrow even more in order to maintain his consumption, thus leveraging his already shaky balance sheet even further, or he will cut back on his spending.
The strong, and in the long term unsustainable, growth in consumer finance may sound alarming, but when you consider that in the first seven months of 2001 the credit card industry mailed out more than 2 billion solicitations, an increase of 61% over a year ago, this expansion of credit should come as no surprise. Capital One was responsible for 29% of all solicitations. (Note that for every man, woman, and child in the U.S., seven credit card solicitations were sent out in just seven months, with an average response rate of only 0.4%!)
Another disaster in waiting concerns other government-sponsored enterprises such as Fannie Mae and Freddie Mac, which are currently benefiting from a deluge of mortgage refinancing. According to the Prudent Bear's Doug Noland, over the last three years, Freddie Mac's assets grew by US$308 billion (134%), while shareholders' equity only increased by US$5.6 billion.
In the present situation, Mr. Greenspan's accommodative monetary policies will remain largely ineffective for the U.S. economy. Corporate profits will continue to slide and disappoint. Poor corporate profitability and negative cash flows will lead to further cutbacks in capital spending and to additional layoffs in the U.S.
And when it becomes obvious to everyone that further layoffs are on the cards and that the U.S. economy will fail to recover in the next six months, retail and car sales, along with the housing market, will finally cave in as well.
Marc Faber
for The Daily Reckoning |
