Financial Markets

An unbalanced world economy needs a new recipe for sustainable growth.  A two-engine global growth dynamic has been pushed to excess.  The over-extended American consumer can no longer carry the demand side of the equation. And an over-heated Chinese economy can no longer power the supply side.  Nor can the world, as a whole, sustain the massive imbalances -- financial and trade -- that have arisen from this lopsided growth paradigm.  But risks are building that a rebalancing may not go smoothly. As China and the US now slow, new growth engines must fill the void. No one else, it seems, is willing or able to step up to the plate.

Since 1996, China and the U.S. have accounted for 49% of world GDP growth. The US contribution shows up mainly on the demand side. It is hardly an exaggeration to conclude that the American consumer has been the principal engine on the demand side of the global growth equation.

China has played an equally important role in driving growth on the supply side.  China now consumes a highly disproportionate share of worldwide demand for industrial commodities -- having accounted for 25-30% market shares in global consumption of aluminum, steel, iron, and coal in 2003.

Both of these engines have now shifted to lower gears. With the Chinese slowdown having only just begun, senior Chinese officials have stressed recently that their commitment to a slowdown has now reached a “critical stage.” China’s domestic investment is slowing rapidly, tempering its supply-led impetus to global growth.

For the American consumer, the recent moderation is a by-product of the tough internal dynamics of an over-extended household sector. Nowhere does this show up more vividly than in the renewed sharp decline in the personal saving rate, which plunged to just 0.6% in July -- well below the already depressed post-1995 average of 2.7%.  Lacking in job and wage income growth, consumers have drawn the bulk of their support from tax cuts and equity extraction from asset markets.  However, with future tax cuts and sharp house-price appreciation unlikely, US consumers are likely to be increasingly mindful of depleted income-based saving rates. Add in a likely back-up in interest rates that should boost the carrying costs of record debt loads, together with sharply higher energy costs, and the squeeze on discretionary purchasing power will become all the more acute. While it’s always tough to bet against the American consumer, the noose finally appears to be tightening.

My 2005 forecast calls for global growth to decelerate. Consequently, if downshifts in the US and China are not countered by improved growth prospects elsewhere in the world, there is a distinct possibility of a major global recession. 

The world is dangerously near its stall speed and, therefore, highly susceptible to a shock. Recent developments on the energy front are especially worrisome in that regard.  With oil prices closing on $50, the risks of global recession are mounting.  But whether it’s an oil shock or some other unexpected blow, the verdict is the same:  With China and the US slowing and the rest of the world unwilling or unable to pick up the slack, a partial rebalancing could well heighten the possibility of a global economic collapse in 2005.

Investing in China is currently a very precarious activity.

Right now, you should have no exposue to domestic stocks.

The Federal Govenrment recently re-classified hamburger flipping as a manufacturing job and the stats still look bad. Perhaps we can turn the entire US into a service economy where we do each others dry cleaning and serve each other hamburgers.

In all, the airlines have lost a collective $27 billion since the 9-11 attacks.

Several carriers already are racing to restructure their operations and cut costs, but questions abound as to whether it’s too little, too late. Consider:

United, the second-largest carrier behind American, has been in bankruptcy since late 2002. No one is sure when, or even if, it will emerge from its court-supervised reorganization. In the meantime, United has stopped contributing to its pension plans and indicated more jobs cuts will be needed.

US Airways, only 18 months out of bankruptcy proceedings, is listing toward another bankruptcy filing and perhaps liquidation. Its next trip to Bankruptcy Court could come any day now.

Delta also is perilously close to bankruptcy. The restructuring unveiled by the nation’s third-largest airline includes slashing up to 7,000 jobs, or 10 percent of its work force, in the next 18 months to save $5 billion a year. Yet ”there remains a material risk“ that Delta may have to file for Chapter 11 protection, possibly as soon as October.

Northwest and Continental Airlines, the No. 4 and 5 carriers, respectively, are struggling to break even. Continental, too, has stopped contributing to its pension plans for this year and expects to cut another 425 jobs as ”continued losses jeopardize our survival,“ Continental Chairman Gordon Bethune said last week.

Alaska Airlines, saying the industry’s upheaval has ”forced us to put aside notions of how we’ve historically operated,“ said Thursday it would close its Oakland, Calif., maintenance base and other facilities, and contract out the work instead. Those moves, and a recent streamlining of its management, will eliminate about 900 of the airline’s 11,000 jobs.

With so many major carriers under severe pressure, some experts wonder how long it will be before one or more is grounded forever. I expect that three major carriers will "disappear" in 2005.

If you are still holding airline stock, I've got a bridge you might want to take a look at.

The semiconductor sector is losing whatever footing it was perched upon, and is about to tank. Sell semiconductor stocks.

On the war front

You can wave goodbye to the naïve idea that democracy would take root in Iraq and then spread like the flowers of spring throughout the Middle East. That was never going to happen.

So what is America there for, other than to establish a permanent military stronghold in the region and control the flow of Iraqi oil? The insurgency in Iraq will never end as long as the United States is occupying the country. And America's Iraqi "allies" will never fight their Iraqi brethren with the kind of intensity the United States would like, any more than the South Vietnamese would fight their fellow Vietnamese with the fury and effectiveness demanded by the hawks in the Johnson administration.

The Iraqi insurgents - whether one agrees with them or not - believe they are fighting for their homeland, their religion and their families. They are not unlike the Texicans, fighting Santa Anna at the Alamo. The Americans, unlike the Mexicans, are not at all clear what they're fighting for. Saddam is gone. There were no weapons of mass destruction. The link between Saddam and the atrocities of Sept. 11, 2001 was always in doubt and has been proven so. At some point, as in Vietnam, the American public will balk at the continued hemmoraging of resources and lives, and this tragic and dark circus will become politically unsustainable. Meanwhile, the death toll mounts.

One of the reasons the U.S. effort in Iraq is unsustainable is that the American people know very little about the Iraqi people and their culture and, in most cases, couldn't care less. We seem to be getting very tired of this altercation. The war in Iraq was sold to us as a response to 9-11. As it slowly dawns on a majority of Americans that the link was bogus, and that the motive was always the oil, the political support will all but vanish.

The troops who are fighting and dying deserve better.

Precious Metals

This week I am going to initiate a rant that you, as my readers, will be hearing about from now on. I will be forever imploring you to purchase physical gold and silver bullion. In reality, there is so little bullion available for purchase, that a concerted effort on your part could send the value of gold, and more importantly silver, to the moon.

Besides enriching ourselves through this exercise, will can passively bring about change in the only way that can really make a difference. As the price of bullion subsequently rises, more and more people will begin to recognize and appreciate precious metals for what the really are; money.

Although the monetization of gold and silver is the last thing the Central Bankers of the world want, it is the only way to defeat the fiat currency debacle, and return our country to its Constitutionally mandated money system.

If one half of one percent of Americans went out and bought ten ounces of silver apiece, that would amount to 14,000,000 ounces of silver. There is much less than 100,000,000 ounces of silver available. That much buying pressure would have an explosive effect on the price.

Consider it your moral imperative.

Buy silver.

Speaking of Energy

Crude oil surged to an all-time high of US$48.70 a barrel in mid-August, up from about US$36 in late June. It closed yesterday in New York at US$42.80 a barrel, a rise of more than 30% since the start of the year.

To be sure, oil more than doubled in price between 1979 and 1980 and almost quadrupled in 1973, meaning that today's oil shock may not rank among the most dramatic in history.

However, keep in mind that oil has surged more than 300% since 1998. More important, today's lofty price could easily prove to be the most resilient.

This year, global demand for oil — currently at more than 80 million barrels per day and climbing — has come closer than ever to exceeding the world’s known production capacity. Disruptions in oil supply — due to wars or market forces like OPEC embargoes — are nothing new. But with producers pumping as fast as they can, there is little cushion for temporary supply interruptions or heightened demand from industrializing countries like China and India.

“We really are close enough to the edge to have no excess capacity. Demand growth shows no sign of slowing and now it seems to be accelerating,” said Matt Simmons, a Houston-based investment banker. “It’s really important to know what the real story is — as bad as it may be.”

The Fed

It's becoming very apparent that at least in part, the Fed is a big part of the problem when it comes to the ills of the economy and, more especially, the price of crude oil. And under the always universal law of unintended consequences, potential further dramatic acceleration in crude may force the Fed into rather dramatic action of its own. Potential dramatic action I'm not so sure the financial markets have factored in at all..

Certainly the incredible monetary stimulus of the past few years has sparked economic growth stateside and has gone a long way in helping to foster global economic acceleration. Along with this growth has naturally come increased demand for energy resources. In absolute terms, this demand has helped pressure energy prices to the upside. But it is clear that the Fed in no way has a monopoly on liquidity creation. The Central banks in Asia are also major players in the stimulus/liquidity creation game within the context of the global marketplace. Both strength in US import markets and accelerating foreign direct investment in Asia have caused economic growth to register incredible gains over the past few years in Asian economies. Coincident demand for energy in the Asian economies, along with US economic recovery driven demand, is certainly a large part of the reason why energy commodity prices have moved higher over the past few years.

Away from the "real world", so to speak, Fed sponsored liquidity creation in the US has also been responsible for various forms of asset inflation over the recent years simply as an outlet for this excess liquidity. Whether in stocks, bonds, or housing, accelerating prices to the extent we have experienced would simply not have been possible without incredible monetary stimulus. It's no secret at all that the Fed's unspoken modus operandi in terms of kick starting the recent domestic economic recovery was in good part grounded in asset inflation and subsequent monetization, primarily as it related to residential real estate. And as we have seen over the recent past, when price acceleration in one asset class cools down, the growing pool of speculative investment related liquidity simply migrates to another asset. The very nature of excess liquidity has provided the fuel for virtually unprecedented financial speculation. And real commodities have not been exempt from this tidal wave of liquidity in the least. Certainly at least some part of the recent rise in crude is due to the act of financial speculation in real commodity markets, although I firmly believe that longer term energy prices are squarely driven by supply and demand dynamics. Thank you Fed for the cheap cost of capital and plentitude of financial ammunition with which to speculate.

Finally, it's pretty darn clear that a declining dollar over the last few years has likewise pressured all commodity prices higher, given that most commodities are denominated in US dollars in terms of global payment or trade. Is the Fed's incredible monetary largesse at least in part responsible for relative dollar value slippage over the last few years? Of course it is. Dollar slippage that the global producers of commodities can only offset with higher absolute dollar prices. Again, whether crude prices have been influenced by real global economic growth, excessive financial speculation, or as an offset to the declining dollar, the Fed's monetary machinations have in good part supported all of these factors that have in part pressured crude prices higher, and the value of the Almighty Dollar lower.

Although this may sound like far too simplistic a question, is the Fed really down to the choice of higher US domestic interest rates or higher crude (and perhaps broader global commodity prices) prices ahead? Either way, the Fed appears to have painted itself into a corner. Neither choice is pleasant and neither offers an acceptable outcome as far as the US economy is concerned. Much higher crude prices ahead risks perhaps at best a stagflationary outcome for the US. The current interplay between crude prices and the economy is beginning to look a whole lot like the 1970's. Significantly higher interest rates ahead would risk a credit contraction in the US economy. A contraction in the very same financial structural underpinning that has supported US economic growth during the current recovery period. Based on historical precedent, unless the recent spike in crude is quickly followed by a near term and very sharp sell off in price, it would seem a darn good bet that much higher short term rates lie ahead. With each tick higher in crude prices, the Fed is increasingly being forced to choose between perhaps very unacceptable outcomes.

It's not going to be pretty...

Financial Survival

Natural gas use will rise anywhere from 5 percent to as much as 15 percent in the coming winter. Prices will rise anywhere from 10 percent to 20 percent depending on your location. You can ofset these increases with added insulation and alternative fuels, but the cost of being comfortable is going up.

Economists don't have a standard definition for the "middle class." But the percentage of households having a pretax income of between $25,000 and $75,000 - a group occupying roughly the middle half of Census income tables - has declined by 1.2 percentage points since President Bush took office, after adjusting for inflation.

In the same 2000-2003 period, those making less than $25,000 grew by 1.5 percentage points to 29 percent of households. Those making more than $75,000 declined by 0.4 percent to 26 percent of all households. These numbers were crunched by FactCheck.org, a project of the University of Pennsylvania's Annenberg Public Policy Center to examine campaign statements for accuracy.

The middle class is under attack. Prepare yourselves.

Have you ever heard of hyperinflation? In January 1919, one ounce of silver cost 12 German marks. Four short years later, on November 7, the day that Hitler jumped on a table in a beer hall in Munich and shouted "The revolution has begun," the same ounce of silver cost a whopping 543 billion marks!

Think it can't happen here?

Check out Sterling Mining (SRLM.PK)

For those of you who are in a quandary over your portfolios, I have repeatedly suggested that you get out of general equities and into commodities, like energy and precious metals. I can add to your choices by suggesting that you take whatever cash you have and convert it to Yen. Over the next twelve months I believe that the Yen will appreciate substantially against the dollar. Remember, the sun does not go down, the horizon moves up. Prices are not going up, the dollar is going down.

What else can you do?

First of all, wake up! Either you support freedom with laissez-faire capitalism,
an economic doctrine that opposes governmental regulation of or interference in commerce beyond the minimum necessary for a free-enterprise system to operate according to its own economic laws, or you support a statist/collectivist ideology that believes in taking the production of a person and placing it out of their control. Your choice is regain your freedoms or or suffer encroaching slavery.

There is a huge difference between the ideologies that support liberty and democracy. The ideology of Liberty suggests and implies that people should choose to be benevolent and productive, as part of God's moral code. That society will create for itself non-governmental organizations to deal with social needs, that government is established by society to sustain and defend the unalienable (God given) rights of the individual, and limited only to this function. Political power was to remain within the individual and his society.

Then why do so many of our politicians and teachers keep trying to shove this concept of democracy down our throats, as if freedom naturally followed? Maybe it's because majority rule sounds legitimate and moral on its face. Consequently, the majority of Americans have shown their willingness to give up their liberties in exchange for a handout.

As long as foreigners continue to accept our dollars in exchange for their finished goods and let them pile up in their central banks as "reserves" then we will be able to maintain some semblance of our "American way of life." But on the day that the foreigners decide they have enough dollar reserves and start to spend our IOU's, life in America will be unaterably changed for the worse.

Trade your dollars for precious metals while your dollars are still worth something. When all those dollars finally do come home flooding the US economy they will certainly be worth less. If we are ever to become a powerhouse economy again we must PRESERVE and accrue capital to reinvest at the right time in the future. No matter how little or how great your income, save something every month and live below your means.

Understand what is happening and "Spread the Word".

Higher oil prices should stimulate people to add insulation to their houses...or to buy a more energy-efficient automobile. It may also cause a lot of folks to become desperados. You might consider getting into the burglar bar business

Keep you eyes open about any news that has to do with the delivery of fresh water. If you don't already have control over some fresh water, get some. Go out into the country about sixty miles from the city you live in and buy five or ten acres of property with the water rights. Dig a well. You will be amazed at the peace of mind you will gain by this action.

If you are depending on Social Security, stop.

Get out of debt. Figure out ways to conserve. Take up gardening. Sell everything you don't need.

Follow the course opposite to custom and you will almost always do well...

Its not what you don't know that will screw you up, it's what you know that is wrong. The spin you hear from the mainstream media is intended to mislead you. Open your eyes and face the future. If you leave your head in the sand and ignore it, you are only leaving your butt exposed for the world to kick. This all may sound like gloom and doom, but when you get a handle on what is going to happen, you will have a future filled with opportunity. Fortune favors the Informed.