In What will the economic recovery build upon?, the Economic Populist has posted a very thorough piece with charts showing why we don’t have a real recovery – just data clouded by expiring government programs. Many of the programs, like Cash for clunkers and the $8000 for first time home buyers, will soon represent more debts which are past due. Well worth the read.
In a related piece over at Commodity Bull Market, the parallels between what the markets, the FED and the president said in 1930 and what has recently been said is provided. The similarities are scary.
John Maldin at Investor Insight has Niels C. Jensen’s letter this week. Here are some clips:
The problems are not over yet. Not by a long stretch. It will take longer than 18 months to unwind the excesses of the past 25 years. Analysts at Morgan Stanley reckon that the 15 largest banks which between them have shrunk their balance sheets by about $3,600 billion so far in this crisis, will shed another $2,000 billion in 20091. If you do not share my pessimism, please take a quick look at chart 3 below. The US financial sector debt load (as a % of GDP) is now 117%. In the early days of the great bull market in 1982, the same number was 22%. Households are not much better off with total household debt now at 96% of GDP vs. 47% in 1982.
Reinhart and Rogoff offer a more realistic approach (see chart 8 ) [to estimating the cost of crisis]. Using their least costly case study (Malaysia 1997) as our best case scenario, the true cost comes to $15 trillion. If one uses the average of 86% instead, the cost jumps to a whopping $33 trillion. I didn’t even bother to produce a worst case scenario – it all got too depressing!
Obviously, governments may buy a portion of these bonds themselves, but they cannot afford more than a fraction of the total unless they want to challenge Mugabe as the ultimate master of illusion. Neither should investors hold out for sovereign wealth funds to do the dirty work. As is clear from chart 9, the total amount of wealth accumulated in these funds is pocket money when compared to the projected bond issuance over the next few years.
Hence it comes down to the price at which governments can attract sufficient demand from people like you and me. One of two things may happen. Either this crisis will ignite such a bout of deflation that investors will happily own government bonds yielding 2-3% or the deflation scare goes away ultimately, the global economy recovers and bond investors demand much higher yields for taking sovereign risk. I am not yet sure which scenario will prevail, but I do know that both are quite bad for equities longer term. Take your profits!
For a while, Swamp Report thought we were the only ones who thought it possible that the government might need to actually engineer a crisis as a way to sell all the Treasury bonds it needs to sell. No we find several others of the same opinion. For example, in another related post to Jensen’s, Clive Maund argues just that:
“The storm that is threatening to break is the combined collapse of the bond market and the dollar, which are joined at the hip. Late in April the bond market crashed important support and it dropped significantly again late last week. The dollar finally succumbed this past Friday, crashing important support. They both look set to plunge together – a scenario that will require immediate and drastic action to avert. What is the best way to rescue them? – why, to create another vicious cycle of deleveraging of course. The idea is to get the rabbits to flee out of commodities and the stock market and into the perceived safety of the Treasury market, just like last year, which will require them to buy dollars with which to buy Treasuries.”
It’s a wild world we live in…
We rarely agree with Dr. Reich’s policy prescriptions, but we gotta give him this: his current assessment is reasonable:
“But we’re not at the beginning of the end. I’m not even sure we’re at the end of the beginning. All of these pieces of upbeat news are connected by one fact: the flood of money the Fed has been releasing into the economy…The real question is whether this means an economic turnaround. The answer is it doesn’t.
Cheap money, you may remember, got us into this mess.
Some of the big banks will claim to be profitable, but don’t bank on it. Neither they nor anyone else knows what their assets are really worth. Besides, the big banks are sitting on over $500 billion over taxpayer equity and loans. Who knows how they’re calculating profits? Most importantly, there’s still a yawning gap between the economy’s productive capacity and what it’s now producing, and absolutely nothing will turn the economy around until that gap begins to close.”
Dr. Reich is right on, “don’t bank on it“.
The Baltic Dry index is a little manipulated number which measures the cost of world shipping. There is little to indicate a recovery in economic activity in the chart below:
