October 19, 2004
The Party is Over ...
Throughout the last years Asia has been financing the Unites States consumers. This is now about to change. The US is not prepared for the resulting foreign policy and economic trouble.
The Problem's Start
After the stock bubble burst in 2000, the Federal Reserve Bank lowered its interest rate to stall off a recession and allowed for cheap and plenty credit availability. The government lowered taxes financed by additional debt. Cheap mortgage rates allowed real estate to be used as an ATM. This and the tax cuts put money into consumer pockets.
On the other side of the Pacific central banks were concerned with underemployed masses in their countries. To bring the people into employment and develop their economies they needed growth in production facilities and export markets.
With sinking US interest rates, the Dollar should have lowered versus all other currencies and should have allowed for more US exports and fewer imports. Asian countries could not allow their currencies to increase and stall their exports. They pegged their currencies to the US Dollar.
The US consumer carried their Dollars to Wal Mart in exchange for goods produced in China. The producers in China exchanged the Dollars through the Chinese Central Bank into freshly printed Yuan to pay their workers. With its Dollars the Chinese Central Bank then bought fresh US debt in form of Treasury Bills and Mortgage Backed Securities. This facilitated further US tax cuts and even cheaper mortgage rates. The Dollars found the way back into consumer hands.
To the astonishment of many economists this "vendor-financing" circle did work for some years. But ever increasing US debt levels and increased printing of Yuans are not sustainable. Nobody wants to finance a house to 150% of its value and nobody wants to build unprofitable Mobil-Phone-Factory-No.52 in Shanghai.
As Stephen Roach reports India is starting to use the Dollars owned by their Central Bank to finance new roads and water pumps. China starts using its Dollar reserves to bail out some of its failing banks and to build strategic commodity reserves. Roach cites an Indian official:
"We are subsidizing the American economy. These are scarce resources that can be put to better use."
As China and India slow their recycling of Dollars, the Dollar will have to decrease relative to other currencies. To finance its wars, the US will have to pay higher interest rates on renewed an additional debt and will have to increase taxes. With higher rates and taxes the consumer will no longer be able to sustain current consumption levels. Falling consumption will lead to a recession.
As consumer, financial institute and government debt are at unprecedented highs, higher interest rates and a recession will facilitate severe dislocation in financial markets. The Fanny Mae and Freddie Mac have reached the Outer Limits and will fail.
So far the US has denied these unbalances and the problems that will result. Fareed Zakaria is correct when he writes in WaPo about America's Big Challenge: Asia. The election discussions have been about foreign policy on a country with 23 million inhabitants and some minor domestic economy issues. A real foreign policy discussion would be about 3,000 million Asians and the coming economic train wreck.
Posted by b on October 19, 2004 at 01:22 PM | Permalink
BROKEN LINK AT >> Outer Limit <<
Posted by: MarcinGomulka | Oct 19, 2004 2:11:09 PM | 1
b, you are exactly right. I still don't believe taxes will be raised enough to cover repatriation of monies by China, India and Japan. I believe we will default. Any way we go we drive down the value of the dollar. It's already down say 30% this year. This translates into those higher commodity prices, like oil.
Somewhere, somehow, reality will hit. My debt compared to many is low, but still unsustainable.
We are going to need a depression just to clean up the books. Its a hard thing, but true.
Posted by: jdp | Oct 19, 2004 2:11:18 PM | 2
This WaPo article is about the same point.
Bearish on Uncle Sam?
Here are the first paragraphs for all those not wanting to register. :)
Bearish on Uncle Sam?
As Foreign Investment Shows Decline, Economists Keep Watch
By Jonathan Weisman and Ben White
Washington Post Staff Writers
Tuesday, October 19, 2004; Page E01
NEW YORK -- On Sept. 9, as it must frequently do, the U.S. government turned to Wall Street to raise a little cash, and Paul Calvetti bet that demand for $9 billion worth of long-term Treasury bonds would be "huge."
But at 1 p.m., as the auction opened and the numbers began streaming across his flat-panel screens, the head of Treasury trading at Barclays Capital Inc. slumped in his chair. Foreign investors, who had been voraciously buying Treasury bonds, failed to show up. Bond prices cascaded downward, interest rates rose, and in five minutes, Calvetti, 38, who makes money by bidding on bonds at one price and hoping market demand lets him quickly resell them at a profit, had lost $1.5 million.
"It's amazing," he gasped, after the Treasury Department announced that Wall Street traders, not foreigners, had been left to buy virtually the entire auction. "I don't think I've ever seen this before."
The most recent auction of 10-year Treasury notes may have been a fluke, a momentary downturn in one aspect of the massive world market for U.S. government and private-sector bonds, stocks and other securities -- a market so large and diverse that it has long been the world's safe haven. But a rash of new data, including Treasury Department figures released yesterday showing a net sell-off by foreigners of U.S. bonds in August, has stoked debate over whether overseas investors -- private individuals, institutions and government central banks -- are growing dangerously bearish on the U.S. economy.
It is a portentous issue. Foreign governments and individuals hold about half of the $3.7 trillion in outstanding U.S. Treasury bonds, for example, and the government has been heavily dependent on continued overseas bond purchases to finance the roughly $1 billion a day it has to borrow to pay its bills. Foreign lending and investment are also needed to finance the country's roughly $50 billion monthly trade deficit, while foreign capital has been a key prop to U.S. stock prices.
A turn in overseas attitudes toward the United States could ripple deeply through the economy, depressing the market, raising interest rates and pushing down the value of the dollar.
Posted by: Detlef | Oct 19, 2004 2:20:31 PM | 3
So this headline and thought about retrackting the above piece Greenspan: consumer debts OK
But then I did read the text:
WASHINGTON (Reuters) - Fed Chairman Alan Greenspan said Tuesday that American consumers seemed to have their hefty debt burdens in control, provided that incomes and home prices did not tumble.
"A significant decline in consumer incomes or house prices could quickly alter the outlook," Greenspan said in prepared remarks for delivery to America's Community Bankers, adding: "Nonetheless, both scenarios appear unlikely in the quarters ahead."
The Federal Reserve chief noted there were "pockets of distress" among U.S. households, indicated by high bankruptcy rates, but on balance Americans' finances "appear to be in reasonably good shape."
Posted by: b | Oct 19, 2004 2:21:15 PM | 4
@MG - Link corrected - thx
Posted by: b | Oct 19, 2004 2:28:39 PM | 5
Here is part of Al Martin's piece of 18 Oct.
It seems that Stanley Sporkin, an old member of the gang, a fixer, is being brought in to sort out problems with Fannie and Freddie. He is a coverup artist extrordinaire.
I will try and edit this down to fit, and not run into copyright problems.
:--start quote--This guy, Stanley Sporkin, in his entire career has been put in charge of an investigation of a coverup, or in his capacity as a judge has overseen a case that, were the entire truth to be told, it would open up a Pandora’s Box. What this guy Sporkin specifically does as a cover-up guy is to make sure that lids on old and deep Pandora Boxes stay shut.
Sporkin’s participation in the Fannie/ Freddie debacle is like, in the old days, the Chicago mob family sending one of their top guys to Vegas to scope it out.
It’s big, because it would be a real problem if somebody ever looks at Fannie Mae and Freddie Mac within the context of the entire GSE complex. You know what it really is? It’s adding up the numbers that nobody has ever done. Not even a GAO has ever done that. No one has ever actually bothered to do an audit to actually determine what the actual, not supposed, value, but what the actual value of these GSE assets are.
The trillions of dollars in mortgage paper, in some cases, to properties that never existed, that were completely fictitious, properties that have been in foreclosure for decades or burned down or wiped out by a flood. It reminds me of the joke Jeb Bush used to tell me. HUD had more apartment buildings on empty lots than all of the realtors in the nation combined. People must understand today the enormity of the fraud.
But people won’t understand. They’re not meant to. You could write a book about it if you want to. I mean you could add Sporkin in by saying that the reason an old Republican coverup guy with such stature has been brought in is that he’s the guy that’s in charge of keeping some of the ultimate Pandora Boxes shut.
Remember what Henry Kissinger used to say. George Bush used to use Kissinger language. So did George Schultz and James Baker. They used to call it -- “The domino effect of breaking lies.”
When one lie is broken, in this case, for instance, “Where are the missing trillions? Where is all this property, this underlying property, the trillions of dollars of paper that’s been written or guaranteed against? What happened to it?” When you break that lie, then suddenly the next lie: “How did it occur? How did it happen?”
What happens is that the dominoes fall backwards and successive lies fall down. Now, the last domino is the domino that can’t fall. It’s what George Bush called “the jiminy domino.” The jiminy domino is the last domino at the end that is right on the edge of the great vortex, the great abyss of the way everything works and what it’s really all about.
If the last domino falls into the abyss, then the world, as George Bush said, would collapse because then the American people would first understand the great postwar lie, that everything they’ve been told was a lie. Then you break into what’s called the second set of lies, at a next higher level. The dominoes begin to fall backwards, where the American people learn that everything they have ever been told has been a lie, all they have ever learned. Even some of what they believe to be mathematical constants are, in fact, a lie.
It would become a global event. It’s actually called “the omega effect of the lie conundrum.”
--end of insertion--credit:almartinraw
The piece goes into more detail on who is involved and that the cabal goes back 1500 years to the Byzantine Empire and is based on using religion to keep the people in line. Sound familiar?
Martin professes to agree that it is too late to tell the truth, and that it would damage the world to do so. This is of course the position of the 5000 or so members of the cabal worldwide, and they have been quite confident til now that their secrets will remain hidden.
I would advise them that it is too late, the lock is broken and there will be no getting Pandora back into the box. This would explain the desperation on the faces of some of our current players. Their time is up; they are frantically stuffing all the cash into their pockets to make a getaway. To where?
Posted by: rapt | Oct 19, 2004 2:42:00 PM | 6
What does it mean to be 'unprepared'? China can have the hegemony. Being number 1 is psychologically fatiguing.
One outcome is certain in all this. When American workers in Iowan call centers and Floridian tennis-shoe sweatshops realize they are, were forever, exploited by capital, it will be too late.
Posted by: slothrop | Oct 19, 2004 2:53:55 PM | 7
From Bernhard's link to Roach's piece for Morgan Stanley, it seems clear that a Nat'l Sales Tax will be imposed very quickly to supposedly increase savings, no matter who steals the election. (If I were a Repug Overlord, I'd fix the election to put Kerry in - let him impose the draft, I mean Nat'l Service, Nat'l Sales Tax, etc., so Repugs would be spared the consequences of their actions.)
From reading that & another Morgan Stanley link on 10/13 open thread, it seems to me that Reactionaries tax-cut for top .001% & resulting deficit was financed w/by destroying american jobs by shipping them to Asia. Is this right?
Posted by: jj | Oct 19, 2004 3:37:40 PM | 8
Just read NYT Private Investors Abroad Cut Their Investments in the U.S.
The Treasury Department reported yesterday that net monthly capital flows from the rest of the world fell for the sixth time this year, declining to $59 billion from $63 billion in July.
Private investment from abroad fell by nearly half - to $37.4 billion in August from $72.9 billion the month before. Investors appear to be concerned over cooling growth and a rising American trade deficit.
"Foreign central banks saved the dollar from disaster," said Ashraf Laidi, chief currency analyst of the MG Financial Group. "The stability of the bond market is at the mercy of Asian purchases of U.S. Treasuries."
"If all we have funding our current account imbalance is the good graces of foreign central banks, we are on increasingly thin ice," said Stephen S. Roach, the chief economist at Morgan Stanley. Of Washington's call for China to stop interfering in currency markets, he cautioned, "That could come back and bite us."
A disorderly situation would occur if foreign money dried up suddenly when the United States still needed it. Then, the adjustment in American savings might happen involuntarily. Interest rates would rise sharply, and the dollar could fall abruptly. This could induce a sharp economic contraction, even stagflation.
Posted by: b | Oct 19, 2004 3:58:48 PM | 9
it seems to me that Reactionaries tax-cut for top .001% & resulting deficit was financed w/by destroying american jobs by shipping them to Asia. Is this right?
It is a consequence but most probably not intended and its hard to reverse.
Usually when the Dollar would drop, US exports would pick up and imports drop.
Now China has build manufacturing capacity and the US has reduced its manufacturing. If the Dollar drops now, exports will not increase because even with 50% loss in US$ value, China will be able to produce cheaper.
Instead of an upturn in exports and less imports we may see no upturn in exports and no fall in imports, but only higher import prices. This would lead to even higher deficits and a further downturn of the Dollar.
Politics would turn to protectionism with all nasty effects one would not like to have.
Posted by: b | Oct 19, 2004 4:08:46 PM | 10
Paul Krugman in his excellent lecture says that a collapse is coming in five years due to government debt and mismanagement. The Great Unraveling: Losing Our Way When I saw the Washington Post article I thought it's coming sooner. Interest rates have to raise to sell fed bonds. These are very strange portents. Gasoline is back over $2 a gallon. Yet, Dell sold out today its production of laptop computers at half price ($750 off $1500). If I were a fiscal wizard, this would seem to indicate that there is decrease in spendable income and price cutting to keep production lines going. Will the crash come even before the January Inaugural?
On top of all this Bush doesn't see longtime presence in Iraq. ‘If free and open Iraqi elections lead to the seating of a fundamentalist Islamic government, “I will be disappointed. But democracy is democracy,"’ Bush said. "If that's what the people choose, that's what the people choose." A Islamic Republic will force the US to pull out its troops. A huge strategic defeat. Will any investor have any confidence in the US leadership? In four short years the greatest country in the world was turned into a Banana Republic.
Posted by: Jim S | Oct 19, 2004 11:34:07 PM | 11
From Bernhard's link to Roach's piece for Morgan Stanley, it seems clear that a Nat'l Sales Tax will be imposed very quickly to supposedly increase savings, no matter who steals the election.
I know Bush is toying with this idea, although it's probably more to do with getting rid of the eeeevil income tax than about increasing savings. Politicians seem clueless right now about the economic imbalances facing the American economy, and once this party's beer keg is finally emptied, the American people will have no choice but to save more of their income.
That NY Times article was pretty startling. A decline for six of eight months? Net sell-off of Treasuries by private foreign investors? Maybe I'm just being naive, getting hung up on one month's figures, but you could almost say there's a pattern developing there!
All the same, I can still hear the annoyingly loud, thumping music playing from the party, so it's not over quite yet. Maybe we're just seeing a blip on the way to a higher plane of New New Economy absurdity.
Then again, I may wake up tomorrow to Black Wednesday.
Fed Chairman Alan Greenspan said Tuesday that American consumers seemed to have their hefty debt burdens in control, provided that incomes and home prices did not tumble.
Since income growth in the last 4 years has been feeble and can't gently reduce the debt burden, this is only possible if the US never again has a recession. Looks like someone drank a bit too much.
Posted by: Harrow | Oct 20, 2004 12:32:34 AM | 12
Detlef, that Washington Post story is the sign I've been waiting for. Once Japan, China, etal stop buying our debt, the party has begun to end.
Curiously, doesn't this mean that people who have locked in low rate loans already will do well as everything (including loans) gets more expensive? Its the consequences I'm trying to figure.
Posted by: Citizen | Oct 20, 2004 2:48:19 AM | 13