Marcus Cake

In October 2005, I wrote of HS Dent’s forecasts of a technology boom to 2010 and a depression in the United States from 2010 (see A technology boom through to 2010). A narrowly focussed technology boom has begun (see .NET category) and more commentators are highlighting the prospect of “severe macroeconomic repercussions” and depression in the United States. The United States has consumed more than it has earned at every level - public consumption funded by housing debt, government deficits funded by borrowings and trade deficits funded by foreign debt and sale of American financial assets. A recent US Treasury report indicated that the US is insolvent - it is unable to pay their debts.

The Annual trade deficit of the United States (US$800b) is financed by:

• rapid growth in foreign debt to 400% of GDP
• printing USD dollars - the USD money supply is growing at 18% per annum
• selling US companies
• encouraging foreigners to hold USD
• maintaining the USD as the world’s reserve currency

The decline in value of the USD
An economist will highlight that a declining dollar makes imports more expensive and consumption will decline. The decline in the value of the USD will restrict one of a few sources which allow the US to their consumption. These are typical shifts that an economist could highlight. However, there are other more substantial factors which mean that currency adjustment will occur alongside other fundamental changes.

The decline of the USD as the “world’s currency”
One billion consumers of US standards are to emerge. International buyers and sellers are beginning to use other currencies as the basis of their contracts. A European buying an Asian product, would execute the trade in USD. They would now like to use local currencies. A declining proportion of global trade will be donominated in US dollars. This reduces the ability of the US to finance domestic consumption by leveraging its role as the worlds reserve currency. The US absorbed 60% of all the global credit created last year.

The United States has enjoyed a permanent economic advantage by being the “world’s” reserve currency. The price of commodities is quoted in US dollars and sellers receive US dollars for their commodities. The recipients of US dollars usually hold US financial assets. However, the holders of these US assets have increasing needs to hold their own currencies and financial assets. They need to pay for their own retirements. They are also questioning why they would buy US assets or lend the US money, if they know that the US dollar will decline in value.

Demographic shifts are the primary driver of change
Demographic shifts are the primary force that drive fundamental change. The United States will be an important market, but not the primary consumer or financial market in the world. Fiscal mismanagement by the United States will exacerbate the decline of the United States, but it is demography that will result in a more global market. The world should evolve from unsustainable debt funded consumption for the benefit of one country to global markets which share the benefits of economic development.

The United States government may be keen to protect its position and consumption levels. The decline of the US dollar as the world’s reserve currency, the decline in its value, unserviceable debt and the pending retirement of baby boomers from 2008 will place unbearable strain on the United States. We are likely to enter an era of positive global economic development. We will, ofcourse, need to survive the transition. Although not relevant for this article, there are many opportunities for government and the community to utilise online networks to aid the transition.

The commentary below provides an insight into:

• US insolvency and the inevitable decline in living standards for US citizens
• the potential collapse of US equity and bond markets
• the continued collapse of the US dollar
• the importance to the US of ensuring the US dollar continues as the world’s reserve currency
• how consumer, government and trade deficits are financed by printing more US dollars and selling assets to foreign investors
• the probability that many negative geostrategic events in the world are caused by needs to finance an insolvent US economy
• the likelihood that the US dollar will cease to be the world’s reserve currency
• the potential for positive geostrategic events to result from the US dollar ceasing to be the world’s reserve currency

Last Warning! Three-Pronged Collapse … Stocks, Bonds and Real Estate, Market Oracle, 18 December 2006

Extract:

• Today I want to give you one final warning on the crisis I see coming. I’ve told you some of this before, but I feel it’s so important that it needs to be repeated one last time. Gold’s rally back over $600, and recently to more than $640 an ounce, is telling us — in no uncertain terms — that a financial crisis of major proportions is about to strike.
• The dollar is telling us the same thing — that the “full faith and credit” of the U.S. Government is plunging … that all is not well. Just look at how the dollar has been falling against many of the world’s currencies … The dollar used to be worth more than six British pounds; now, it’s worth about half of a pound. A greenback used to be worth three Swiss francs; today, the two are almost equal. The U.S. currency has already lost nearly 30% against the euro, which is barely six years old. And the dollar is at a nine-year low against the Thai baht, a country that recently experienced a military coup!
• Now, I don’t know exactly when the crisis will hit, or what the cause will be. It could start with derivatives, a hedge fund collapse, the bond market, or in some other over-leveraged, overly speculative area. Regardless, I see a crisis on the immediate horizon, and it won’t be pretty. If you want to uphold your financial security, you should take action now.
• ….here’s how I expect the crisis to unfold. What I envision is a three-pronged collapse …
• Prong #1: The Stock Market will plunge like there’s no tomorrow: Right now, the models are telling me that the stock market has a bit more upside in it, and that when the crisis hits, stocks will be viewed as — believe it or not — a safe place to be invested. The Dow Jones might even go as high as 13,000. But listen carefully: If stocks rally any further, as my model indicates, it will be the biggest trap since the Dow peaked in 1999. Look, even if the Dow does manage a last rally, there is no way it’s worth current valuations. It’s trading at 17 times trailing earnings when earnings growth for the current cycle has likely peaked. Its dividend yield is a lousy 2.24%.
• Plus, a falling U.S. dollar is devaluing asset prices for foreign investors heavily invested in dollar-denominated assets like U.S. stocks. Stocks in the U.S will not ignore these fundamental forces forever.
• Prong #2: U.S. Government Bond Markets Will Fall Precipitously: U.S. government bonds are poised for a major slide. There’s no other choice here. Why? Because a slowing U.S. economy will make the dollar even weaker than it already is. Washington is the most indebted government on the face of the planet, with over $44 trillion in outstanding IOUs. That alone has been sending the value of the U.S. dollar into the gutter. Slowing economic growth will only make it worse.
• Prong #3: U.S. Real Estate Markets Will Take One Final Nosedive before Rebounding: Property prices in the U.S. are still overvalued in most regions of the country. So another nosedive in real estate is likely, especially with stocks and bonds also collapsing. But mark my words: Sometime next year, after the dust settles, real estate will be one heck of a buy.

State of the Union - The United States is insolvent, Market Oracle, 24th January 2007

• The US is insolvent. There is simply no way for our national bills to be paid under current levels of taxation and promised benefits. Our federal deficits alone now total more than 400% of GDP. That is the conclusion of a recent Treasury/OMB report entitled Financial Report of the United States Government that was quietly slipped out on a Friday (12/15/06), deep in the holiday season, with little fanfare.
• Despite improvement in both the fiscal year 2006 reported net operating cost and the cash-based budget deficit, the U.S. government’s total reported liabilities, net social insurance commitments, and other fiscal exposures continue to grow and now total approximately $50 trillion , representing approximately four times the Nation’s total output (GDP) in fiscal year 2006, up from about $20 trillion , or two times GDP in fiscal year 2000.
• Despite improvement in both the fiscal year 2006 reported net operating cost and the cash-based budget deficit, the U.S. government’s total reported liabilities, net social insurance commitments, and other fiscal exposures continue to grow and now total approximately $50 trillion , representing approximately four times the Nation’s total output (GDP) in fiscal year 2006, up from about $20 trillion , or two times GDP in fiscal year 2000.
• And how about the fact that boomers begin retiring in 2008…that always seemed to be waaaay out in the future. However, beginning January 1 st we can start referring to 2008 as ‘next year’ instead of ‘some point in the future too distant to get concerned about now’. Our economic problems need to be classified as growing, imminent, and unsustainable.
• The $53 trillion shortfall is expressed as a ‘net present value’. That means that in order to make the shortfall disappear we’d have to have that amount of cash in the bank – today - earning interest (the GAO uses 5.7% & 5.8% as the assumed long-term rate of return). For the record, 5.7% on $53 trillion is a bit more than $3 trillion dollars so you can see how the math is working against us here. This means the deficit will swell by at least another $3 trillion plus whatever other shortfalls the government can rack up in the meantime.
• Officially, [UK] public sector net debt stands at £486.7bn. That’s equal to US$953.9bn and represents a little under 38% of annual GDP. Add the state’s “off balance sheet” debt, however – including its pension promises to state-paid employees – and the total shoots nearly three times higher. Research by the Centre for Policy Studies in London says it would put UK government deficits at a staggering 103% of GDP. If we perform the same calculations for the US, however, we find that the official debt stands at $8.507 trillion or 65% of (nominal) GDP but when we add in our “off balance sheet” items the national debt stands at $53 trillion or 403% of GDP .
• Now that’s horrifying. Staggering. Whatever you wish to call it. More than four hundred percent of GDP(!). And that’s just at the federal level. We could easily make this story a bit more ominous by including state, municipal and corporate shortfalls. But let’s not do that.

The Market Oracle went on to summarise what the US federal shortfall means in simplest terms:

• There is no way to ‘grow out of this problem
• The future will be defined by lowered standards of living
• Every government facing this position has opted to “print its way out of trouble”.

US recession in 2007 - The third leg of the bear market likely, Market Oracle, 5th February 2007

Extract

• One of our main arguments has been that U.S. consumers are holding unsustainable levels of debt … Much of this credit is spent or used to fuel asset bubbles. Eventually bubbles exhaust themselves and deflate assets but debt is still owed. Participants must default on their debts causing loss of faith in financial institutions and subsequent depression. As you can see debt is now 300% of GNP, much higher than in 1929.
• U.S. consumers have been withdrawing money from their houses at record levels. Simultaneously, they have been saving less. The reliance on home equity extraction (increasing mortgage debt) to fuel the economy is similar to stock market investors in the 20’s, who were borrowing money to invest in the stock market. As history has shown, once the speculation exhausts itself assets deflate, but the debt still has to be paid back. Unfortunately, the housing bubble has already started its descent.
• GDP has also started to reflect the slowdown. The GDP advance estimate for the third quarter reported on Oct 27, 2006 by the U.S. Department of Commerce was a paltry 1.6%. Shortly following the data release, Bloomberg reported that that the Department of Commerce found a “statistical fluke” and had reported a 26% increase in auto production. Subsequently, the numbers will be revised downward to a GDP advance estimate of 0.9% for the third quarter. So this year, the GDP has gone from 5.6% to 2.6% to 0.9% in the first three quarters.
• U.S. banks seem well positioned to withstand a modest decline in house prices, especially a localized decline. Still, empirical evidence from the United States and other countries indicates that declines in housing wealth can have severe macroeconomic repercussions, especially if banking system capital does become impaired.
• We believe “severe macroeconomic repercussions” are highly likely and that “banking system capital” will be impaired. Continuing from our previous article ” Credit Extreme Emotion ,” the comparison to the 1930-1933 period is striking. Stock market patterns, debt levels, interest rate cycles, sentiment levels, and banking reserves are all aligning for a credit crunch and major asset deflation. In the stock market rebound of early 1930, investors were overjoyed that they had survived the 1929 crash. There was a mild worry about recent commodity rises and inflation but the mood was still ebullient. Investors were ‘only’ down 20% off the 1929 highs (much like the S&P500 today). President Hoover told banking officials visiting the White House in June 1930, “Gentlemen, you have come 60 days too late. The depression is over.” But the mood turned down again, inflation began to cool, commodities fell, and investors realizing that the large debt they had accumulated in the last year had to eventually be paid back started selling stocks.

The US Dollar will crash during 2007 due to US$8.6 trillion deficit, Market Oracle, 7th February 2007

Extract:

• “Whatever future developments may prove to be, my best guess is that the US will continue to maintain a facade of Constitutional government and drift along until financial bankruptcy overtakes it.” Chalmers Johnson, “Empire V. Democracy: Why Nemesis is at our Door”
• Every time a US Dollar is traded, a check is issued on an account that is overdrawn by $8.6 trillion. (That is the present size of the national debt) It is, without question, the biggest swindle in history. Flimsy sheets of faded-green scrip are eagerly exchanged for costly goods and services without any regard for the real value of the currency.
• In truth, the dollar rests on the crumbling foundation of consumerism and oil. The American consumer’s gluttonous appetite for spending has kept the greenback flying high for decades. Economists marvel at America’s lust for electronic gadgetry, the latest fashions, and useless knick-knacks. They call our profligate spending “the engine for global growth”; and indeed it is. No other country in the world is nearly as addicted to binge-spending as the US consumer. As long as he can beg, borrow or steal his way into the shopping mall; the orgy of spending is bound to continue. (Consumer spending is 70% of GDP).
• The central banks around the world are now watching for any sign that the American consumer is about to give up the ghost. As soon as that happens, bank managers everywhere will swing into action, ditch their U.S.Dollars and head for the exits. When the “global engine” sputters to a halt; it’ll be curtains for the greenback.
• The dollar’s link to oil forces central banks to maintain humongous stockpiles of USD to pay the steadily rising price of oil that keeps their industries and vehicles running. Otherwise they would have chucked the flaccid greenback years ago and converted to the more steadfast euro.
• The dollar’s link to oil has helped to keep it afloat but, in truth, it’s just another dismal rip-off. More than 70% of the world’s oil is denominated in USD; a virtual monopoly for the USA. Until last year, even Russia was using dollars in its oil transactions with Germany. Imagine a comparable deal, like the US purchasing oil from Canada in rubles?!?
• It’s lunacy; and yet this is the system the US hopes to preserve so it can maintain its unique status as the world’s “reserve currency” and keep expanding its debt into perpetuity. It explains why the Federal Reserve has been able to increase the money supply by a whopping 15% for the last 6 years! Trillions of dollars are now circulating in the oil trade keeping the value of the dollar high by creating artificial demand.
• The other reason the dollar hasn’t succumbed to hyperinflation is because the current account deficit is running at roughly $800 billion per year. The Asian giants (China and Japan) and the oil exporting countries are mopping up more than $700 billion of our red ink every year!
• The dollar’s link to oil forces central banks to maintain humongous stockpiles of USD to pay the steadily rising price of oil that keeps their industries and vehicles running. Otherwise they would have chucked the flaccid greenback years ago and converted to the more steadfast euro. The so-called ‘global economic system’ has nothing to do with competition, free markets or private enterprise; that’s just public relations gobbledy gook. In practice, it is the world’s biggest extortion racket, wherein, the “Godfather”– Uncle Sam– holds a gun to the heads of his subjects and forces them to use our fiat-paper to purchase the oil that lubricates their economies.
• Bush would rather restart the Cold War than abandon the supremacy of the greenback. But, why? Is Dollar-primacy really that crucial to our economy?
• The greenback is the baling wire that keeps the global economy in the hands of the doddering old misers at the Federal Reserve. It’s the cornerstone of the whole wretched system; a system which now includes torture, extraordinary rendition, and myriad other war crimes.
• What Bush plans to do is force the foreign central banks to hold more dollar-based assets, thus, thrusting our gigantic debt onto our trading partners. According to Bob Chapman of The International Forecaster, “US debt was up 10.1% to $4.085 trillion and accounts for 58.8% OF ALL THE CREDIT ISSUED GLOBALLY LAST YEAR. The US is producing more debt than the rest of the world combined.
• Of course, if the central banks grow tired of this pyramid-scheme and dump the dollar; the world can get on with the business of addressing global warming, poverty, AIDs, Peak Oil, nuclear proliferation etc. That won’t happen as long as the dollar reigns supreme and a small cadre of unelected racketeers at the Fed continue Gerry-rig the system. Economic justice and equitable distribution of wealth begin with greater parity among the currencies. That requires “regime change” for the greenback and a loosening of its tyrannical grip on the system.
• Besides, how long will China and Japan continue to abet Washington’s war-mongering adventurism? My guess is that the daggers have already been sharpened in Beijing, Caracas, Delhi and Moscow. Everyone is just waiting for Bush to cross that invisible line in the sand before they fling their greenbacks into the jet-stream and wait for Goliath to tumble.
• The world is at a crossroads and everyone who can fog a mirror knows it. The superpower model of global governance has failed miserably. We need more responsible stewardship of the planet and its resources.
• The world needs a break from Washington’s wasteful spending and unprovoked wars. At the same time, foreign creditors are increasingly reluctant to keep financing America’s extravagant consumption. And, no one is hoodwinked by Bush’s “war on terror” scam; a conflict that was clearly concocted to assert control over the world’s remaining resources.
• The world is realigning according to mutual interests and a shared vision of the future. The rise of energy alliances in Latin America and Asia (particularly the Shanghai Cooperation Organization (SCO) which now controls most new oil deposits and output) signals the waning of western influence and the ascendancy of a new energy paradigm. Power is progressively shifting away from Washington.
• The wealth gap that has opened up like a yawning chasm between rich and poor in America originated with the class-based policies of the Fed. The massive equity bubbles which arose from artificially low interest rates and the deliberate destruction of the dollar by reckless increases in the money supply have shifted trillions of dollars from working class Americans to the predatory aristocrats at the top of the economic food chain. The gulf between rich and poor has grown so wide that it now poses a direct threat to our increasingly fragile democracy. That’s why Thomas Jefferson said: “If the American people ever allow private banks to control the issue of our currency, first by inflation, then by deflation, the banks and the corporations that will grow up will deprive the people of all property until their children wake up homeless on the continent their fathers conquered. The issuing of power should be taken from the banks and restored to the people, to whom it properly belongs.”