The King of the Hill
‘When the future surprises, history tells us, it often surprises us all we must, as a consequence, remain alert to risks that could threaten the sustainability of the expansion.’
- Alan Greenspan
Fed Chairman Greenspan went before the congress in his semi annual testimony this week. There were hints similar to his ‘Irrational Exuberance’ statement that should be taken very seriously. Although at first glance these statements make no sense we have to remember that this is green speak.
In a veiled suggestion he said that ‘history shows that pricing financial assets appropriately in real times can be extremely difficult and that even in a seemingly benign economic environment risks remain’. Does he believe that under the present market conditions stocks and bonds are in bubble mode?
Moving on to the common stock of USA Inc the US Dollar, Mr. Greenspan said that the US Dollar’ decline will eventually help contain the current account deficit. This was certainly ‘the big’ thing as till date Mr. Greenspan used to pass the currency ball into the Treasury’ court. Wasn’t Mr. Greenspan present at the G7 meeting, a coincidence?
How confident would you be in a currency when the Chairman and a Governor of the Fed Reserve remind you that they have a printing press running 24/7? Central bankers are waking up to this fact and are converting their dollar holdings into gold and euros.
In December, trade deficit rose to ($42.5bln) the second highest on record and for the year 2003 it came in at a record ($489.4bln) with the biggest chunk coming from the trade with China. China shipped goods worth $124bln in 2003. Imports in December rose 3% to $132.8bln and exports declined to $90.4bln.
The declining export numbers are pointing to weak overseas demand. Exports of both capital and consumer goods declined. Today the global economy is being pulled along only by the US engine of growth. While the US may be an engine pulling the global economy it’s a super tanker i.e. it takes time to turn around.
Mr. Greenspan gave no hints as to when interest rates will go up, but the next logical step is for interest rates to go up if ever. Mr. Greenspan further added that with low inflation and substantial slack in the economy the Fed Reserve could be ‘patient’ in removing the current accommodation. Import prices rose 1.3% i.e. 15% annually and yet we are in a low inflation environment? Is Mr. Greenspan already seeing the bursting of the bubble and onslaught of deflation?
Mr. Greenspan further added that unemployment is improving and that the economy is poised for massive growth this year. With payrolls rising an average 84,000 in the last 5 months instead of an average of 200,000 seen during most economic rebounds. The average duration of unemployment rose to 19.8 weeks in January and the percentage of those who are out of job for more than 27weeks is now 22.7%.
‘All told, our accommodative monetary stance to date does not seem to have generated excessive volumes of liquidity or credit’. If this is true then the bubble in the real estate market never happened. With debt running at record levels, who is responsible for it, ok I know its us the common man on the street who takes the debt isn’t it Mr. Chairman.
The current Federal debt outstanding stands at $6.9trln, five million have declared bankruptcy since 2000. But as Mr. Greenspan said we don’t have excess credit in the system. If the economy is really as sound as Mr. Greenspan wants us to believe then why is the Fed repeatedly saying that we will keep rates on hold for a considerable period. Is it because Mr. Greenspan realizes that to keep the wheels rolling he needs the bubble to keep on going?
The idea behind the current monetary policy stance is that by maintaining record low levels of rates, the consumers will help pull the economy long enough till growth picks up. This consumption binge has created a mountain of debt which needs to be cleared if we want the economy to grow. Debt has to be repaid.
While home owners are happy to extract home equity and buy a new SUV, what people fail to realize is that if rates go up – eventually they will have to go up unless we don’t end up in a condition similar to Japan will they be able to pay interest or what happens to those on ARM. When rates go up, the inflated homes will disappear but the debt will hang around. Debt servicing will become more painful.
If we want to see the future of housing all we have to do is take a look at the commercial real estate market. We will find record high vacancy rates and low capacity utilization. The only way forward for this market is by lowering prices.
This ‘recovery’ wouldn’t have been possible without the massive shots of low interest rates, tax cuts and the insanity observed in the Refi market. While at the end of the Roaring 90’s Mr. Greenspan had just one post bubble scenario to handle, today the stakes have gone up four times.
Although the talk of deflation has disappeared from common lexicon of late, we still believe that there is a very high chance of it happening. If the US economy slows down the effects will be felt in far off places like China and India. Businesses will have to make a choice either to lower rates or go out of business thus creating a greater problem of excess capacity further pushing down prices.
The deadly ‘D’ cycle could happen. The global economy faced with record level of excess capacity and in case of crisis goods prices are going just one way that is down. When a crisis hits the price of goods and real estate is going down.
‘When the future surprises, history tells us, it often surprises us all we must, as a consequence, remain alert to risks that could threaten the sustainability of the expansion.’ What I can’t understand is Mr. Greenspan saying that this is an indication of a surprise happening a few months down the road. What is the surprise – a housing crash, stock crash, deflation, declining M3? What is the surprise, what is coming?
With fewer hiring, slowing Refi market, record level of consumer debt and the Bush Admin running out of ideas for stimulus packs the economy is facing a real tough time today. There is mass delusion and denial of facts and talks of a correction or recession have disappeared from the face of the planet. In Harry Potter style ‘Deflation - Depression’ the one who can not be named is forgotten too, Mr. Greenspan your wish of being the Fed Chairman when the K winter hits has been granted.
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