Yes Marshie, saw this week's JM piece - I usually find his insights very helpful in trying to unravel the mysteries of economics, and I trust his perspectives. That being said, I found my brain starting to glaze over on this one, maybe because there is so much conflicting information being circulated in regards to Europe that I wonder if we'll ever find out the truth, or maybe because this whole war thing has me fried. I think I've reached information overload! This Doug Noland piece posted on Tom's site is what started my head spinning this weekend -
Recently I have written that it is my view that a great deal is riding on the outcome of the War. The Administration chose a path fraught with immeasurable risks. Moreover, this enormous bet was placed while holding an unappreciated weak hand. Still, at this time last week it looked to me as if they may have actually pulled it off. Saddam appeared to have been taken out, his regime on the brink of collapse, and surrender appearing imminent. I wanted to believe a miraculous military victory was at hand without the ugliness of war. Thoughts of jubilant Iraqis dancing in the Streets of Baghdad as U.S. Marines arrived was imaginable.
It may only be seven days later but it’s such a different world. The ugliness of war is being beamed 24 hours a day to audiences domestic and international. The message internationally is of Americans as aggressors and invaders, and it’s absolutely heartbreaking. Iraq’s Tariq Aziz commented that, yes, Americans would be welcome in Baghdad, although not with the anticipated flowers and music but with bullets. This view is today conspicuously credible. And with a wall of death and destruction destined to fall on these people, our President’s continued call for “liberation” sounds unconvincing at best domestically. At this point, a terrible humanitarian disaster appears quite possible.
It is my view that our Administration has gambled big and lost. It now becomes only a matter of the size, scope, and timing of losses. The loss of life is so tragic, with the risk of catastrophe not remote. Here at home, away from the chaotic desert battlefield, the much hoped for Desert Storm-type thrust of financial market, dollar, and economic confidence is missing in action. Yes, we will surely win the war, but the cost will be enormous – let us all hope it’s not the ultimate Pyrrhic victory. The determination for decisive victory, while advantageous for domestic political purposes, will entail greater destruction of life and property that will appear absolutely senseless and terribly unjust elsewhere in the world. Furthermore, and quite importantly, it is today difficult to see how we, after winning the war, do not decisively lose the peace. Again, the price will be enormous, much beyond anything apparently contemplated in Washington. The Administration today may try to blame the media for portraying war developments in a negative light, but sensible Americans are today asking “was this the plan and what was expected from its execution?.” Spin control will not change the fact that the American people were not aware of nor informed of the potential costs and risks to this conflict.
Only an immediate victory would have placed some semblance of a cap on escalating losses (human, economic, political, and international goodwill/standing). These costs are today both unknowable and uncontrollable. Throughout the world, we are making only more enemies and losing friends. But it seems obvious to me that in a world of increasingly dangerous enemies, one needs to safeguard and nurture friendships. We shouldn’t so haphazardly go about destroying important relationships, albeit with individual countries or the United Nations. What a discomforting contrast to a “kinder and gentler nation.” We are an overconfident military power introvert, although our financial and economic vulnerabilities leave us today an insecure loner. Indeed, this Washington mindset that we are a self-sufficient superpower becomes only more dangerous by the week. We are only a superpower, and regrettably THE superpower in an unstable world with many desperate for a scapegoat.
It has always been my objective to keep the Bulletin “close to home,” attempting a disciplined focus on the U.S. Credit system, financial markets, economic theory, and the American economy. I have a quite narrow “expertise,” and I will not attempt to fool myself or our readers. But it is these days difficult to avoid the tangled mess of geopolitical analysis, so please excuse my taking liberties this week. I’ll be back On Topic next week.
First of all, we have these days a serious dollar problem - the unfolding bursting of the dollar Bubble. Secondly, we have an exceedingly vulnerable Credit system and Bubble economy, sustained by gigantic household mortgage borrowings and unprecedented financial leveraging and speculation. Both the faltering dollar and Mortgage Finance Bubble are today acutely vulnerable to waning confidence. As I have averred many times, Confidence Games are Risky Business.
A quick and “clean” resolution to the war was crucial for bolstering flagging dollar confidence. Today’s open-ended “resolution” is a loss from financial perspective. So at this point we are left to contemplate the distinct possibility that the growing prospect for a protracted and ugly war could be a catalyst for the looming dollar crisis. After all, over the past five years, Rest of World (from the Fed “Flow of Funds” report) has increased holdings of U.S. financial assets by a staggering $2.7 Trillion, or 56%, to $6.3 Trillion. My heightened concern today is that these massive positions were accumulated under the perception of a world almost unrecognizable to what is now unfolding; a vastly different American economy; an alarmingly deteriorating global economic and political backdrop; and an altered view of the United State’s international role and standing.
Holdings of U.S. financial assets were not accumulated with the expectation of massive federal deficits and a wartime economy. The perception of a vibrant, productivity and technology-driven juggernaut is quickly giving way to the reality of a stagnant U.S. economy with enormous expenditures for defense, both international and domestic (not to mention a mortgage finance Bubble!). Keeping in mind our thesis of the exponential growth in non-productive Credit – escalating inflation of U.S. financial claims – foreign holders of U.S. financial assets are now faced with steadfast devaluation of their share of the underlying wealth producing assets of our economy. It’s an accident in wait.
It is both shocking and sobering to observe the rage of anti-Americanism running rampant throughout the world. I see nothing good coming from this development, and it has been a mistake for our policymakers to be so dismissive of its relevance. Only the quick and clean war scenario would have not (perhaps) thrown gas on this inferno. Now the genie is out of the bottle, and it is difficult today to imagine the rosy scenario with the Middle East as a safer, more stable region anytime soon. On the other hand, the risk of things spiraling out of control is increasing – regional political instability, an escalating region conflict (Syria, Iran, Turkey?), and perhaps even an oil embargo at some point in the future. At the minimum, the quagmire scenario of a large American military presence in a devastated, unstable, violent, ethnically divided Iraq seems quite likely. Here again, the gamble to be perceived throughout the region as the benevolent liberator has surely failed and backfired. The war strategy may be “on plan,” but surely this is not the scenario envisioned.
It is not conceivable that intensifying global animosity towards American hegemony is a positive for the dollar as the world’s reserve currency. Sure, global central bankers appear today determined to support the dollar and the dollar reserve system. But with things seemingly moving quickly, unpredictably, and uncontrollably, we are on a course where foreign politicians and citizens may decide at some point down the road that dollar hegemony is not in their best interest. And it is disturbing on many levels to watch our relations with France and Russia, in particular, degenerate so rapidly and dramatically. Even our good neighbors Mexico and Canada are looking askance.
And while we may satisfy our anger by abstaining from French wine, there is the unfortunate reality that we are in no position to pick a “trade” fight. Indeed, it is now likely that anti-American sentiment will be something akin to a tariff on our products, with intensifying animosities the impetus for a serious blow to global trade. Clearly, any slackening of demand for U.S. goods will only aggravate a vulnerable dollar weighed down by our dependence on foreign-made goods (and, of course, oil and other commodities), massive foreign liabilities and faltering confidence. Sadly, we are the world’s debtor economy, and our house is not in order for a long conflict.
All the same, we remain in a curious market environment where dollar weakness puts no upward pressure on U.S. interest rates. Should the markets take this for granted? It certainly hasn’t always been like this, and it’s not this way for other countries. But, then again, there has never been an environment where a central bank enjoyed the luxury of governing the world’s fiat reserve currency, allowing authorities to guarantee marketplace liquidity. Deteriorating fundamentals – escalating deficits (as far as the eye can see) and the risk of heightened inflationary pressures – would traditionally dictate higher market rates. Yet the Fed, especially in the face of war worries, is more determined than ever to keep rates low and the ultra-easy money flowing. In fact there is added talk this week of the Fed pegging long-term Treasury rates if necessary.
I just can’t shake the unease that the Federal Reserve and Administration have individually set course on very risky strategies. And I worry that President Bush and Chairman Greenspan share absolute steadfast resolve in their respective endeavors. I fear that, for both, there is absolutely no turning back, whether things develop favorably or spiral disastrously out of control. There is no backup plan, with setbacks met with only greater risk taking. The President sees no option but decisive victory; Chairman Greenspan no alternative than to buttress the U.S. financial and economic Bubbles.
From a financial markets standpoint, I am troubled that things are diverging dramatically from previous sanguine expectations. Companies didn’t anticipate this type of environment when they over-borrowed and bought back so much stock. Politicians had a distorted view of reality when they spent so lavishly. The financial sector has ballooned with the expectation that it commanded the position at the very center of the Universe and its faithful partner, the Federal Reserve, was right there to resolve any potential issue. Debt-crazed households, having been convinced of blue skies forever, could not today be more vulnerable. And we have these massive retirement liabilities that will be coming due soon. Somehow we’ve wasted unthinkable resources and failed to invest sufficiently to support our retirees or pay back our foreign creditors. Our authorities are resolute in their determination to inflate our way out of this mess. Like the war, the Fed gambled and lost, and its only a matter of the scope of the losses.
This is not the environment envisioned by either investors or the aggressive speculators. I fear that excessive liquidity and speculation are widening the gap between perceptions and reality. As the week came to its conclusion, the weak link was showing signs of vulnerability - the dollar was again under considerable pressure. We also contemplate to what extent gold and other commodities were caught up in speculative trading dynamics, with players on the wrong side of losing bets forced to unwind and clean up portfolios for quarter-end.
This is not the world we bargained for. We need a lot of things to go right to avoid a mess. For our brave troops, I hope this somehow can be resolved swiftly with minimal loss of life. |
