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The heuristic is: Don’t fight the Fed.
On November 3, 2010 Federal Reserve Chairman Ben Bernanke made it official that the Fed would increase the money supply by $600 billion and buy Treasuries in an attempt to (his objectives):
1, Lower interest rates to help with home purchases, business loans, etc.
2. Lower the dollar to help exports by making U.S. exports cheaper
3. Increase commodity and equity prices giving a nudge to inflation
To date:
1. The ten year Treasury has moved up to 3.53 percent vs. 2.62 on November 3, (principal amount is down)
2. The dollar has been trending higher rather than lower
3. Commodity and stock prices are up (S&P500 up about 4%, gold is about the same price)
Not exactly what Chairman Bernanke had in mind, but it is early in this spending cycle. The data is certainly conflicting and with bonds selling off, we have to ask the question, Why?
1. Is it because people are beginning to fear coming inflation,
2. Is it because new money is driving up GDP and there is a growth scare (out of bonds and into stocks)
3. Is it end-of-year profit taking (bond prices peaked in October)?
I suspect we will see some clarification soon. What do you think?
Thursday, December 16, 2010
Thursday, December 2, 2010
Do We Really, Really Want To Pay Off Our Debts?
November 30, 2010
Last year America spent $3.5 trillion, collected $ 2.3 in taxes, giving us a deficit of $1.1 trillion for the year. We are currently projected to have another $1.2 trillion dollar budget deficit in 2011 and for many years to come.
Our current “public” debt (amount the Treasury owes through note and bond sales) is $13.7 trillion (with a vote to raise this amount coming in the next few months.)
To pay off our debts, we would have to balance the budget (cut spending to the amount we receive in taxes) which would require cutting the current budget by $1.2 trillion or 31%; plus, $1 billion more to begin to make payments on the debt of $1 billion per year.
At a repayment rate of $1 billion per year (and maintain a balanced budget), we could pay off $1 trillion of the debt in only 1,000 years and the entire debt in only 14,000 years. (with a budget surplus of $1 billion per year)
I know this is simple math and doesn’t take into account the drop in GDP that would result from a drop in government spending or any reductions in taxes, or new wars or?
If we chose to pay off the debts by raising taxes, we would have to move all tax rates up by 48% if we adhered to budget projections. For example, the lowest tax rate, 10%, (income up to $16,750) would go to 58% and the top tax rate, 35% (income over $373,650) would have to move up to 83%. Assuming everyone paid, that would cover the deficit.
Here are three other possible choices we have:
1.Default (government reduces value of dollar significantly)
2.Inflate our way out of our debt (keep printing dollars, like we are doing now) until we can pay back the debt in near worthless dollars
3.Grow our way out of this problem by rapid GDP growth (but we would have to go back to a capitalist economy to get entrepreneurs, technology and productivity going again.)
Which choice do you think we will end up taking? Which choice are you preparing for?
Last year America spent $3.5 trillion, collected $ 2.3 in taxes, giving us a deficit of $1.1 trillion for the year. We are currently projected to have another $1.2 trillion dollar budget deficit in 2011 and for many years to come.
Our current “public” debt (amount the Treasury owes through note and bond sales) is $13.7 trillion (with a vote to raise this amount coming in the next few months.)
To pay off our debts, we would have to balance the budget (cut spending to the amount we receive in taxes) which would require cutting the current budget by $1.2 trillion or 31%; plus, $1 billion more to begin to make payments on the debt of $1 billion per year.
At a repayment rate of $1 billion per year (and maintain a balanced budget), we could pay off $1 trillion of the debt in only 1,000 years and the entire debt in only 14,000 years. (with a budget surplus of $1 billion per year)
I know this is simple math and doesn’t take into account the drop in GDP that would result from a drop in government spending or any reductions in taxes, or new wars or?
If we chose to pay off the debts by raising taxes, we would have to move all tax rates up by 48% if we adhered to budget projections. For example, the lowest tax rate, 10%, (income up to $16,750) would go to 58% and the top tax rate, 35% (income over $373,650) would have to move up to 83%. Assuming everyone paid, that would cover the deficit.
Here are three other possible choices we have:
1.Default (government reduces value of dollar significantly)
2.Inflate our way out of our debt (keep printing dollars, like we are doing now) until we can pay back the debt in near worthless dollars
3.Grow our way out of this problem by rapid GDP growth (but we would have to go back to a capitalist economy to get entrepreneurs, technology and productivity going again.)
Which choice do you think we will end up taking? Which choice are you preparing for?
Expect The Federal Reserve To Downgrade the Economy
November 22, 2010
On Tuesday, the Federal Reserve releases the minutes of last Federal Open Market Committee Meeting. We know they decided to begin QEII (Quantitative Easing, part two also called printing money.) Therefore, we can assume they felt the economy was either not improving enough or sliding backward. Consequently, we should expect the minutes to show that:
1.The economy will not grow at the 3.5 to 4% rate used in previous discussions
2.The unemployment rate (one of their mandates) will not improve as quickly as they thought
3.Price stability (there other mandate) or inflation will remain low for longer than they thought at the last meeting (because QEII is a lot of new money.)
Also, Bernanke recently talked about the need for more government stimulus. That’s got to give you confidence---confidence that our monetary managers intend to inflate our way out of our debts.
On Tuesday, the Federal Reserve releases the minutes of last Federal Open Market Committee Meeting. We know they decided to begin QEII (Quantitative Easing, part two also called printing money.) Therefore, we can assume they felt the economy was either not improving enough or sliding backward. Consequently, we should expect the minutes to show that:
1.The economy will not grow at the 3.5 to 4% rate used in previous discussions
2.The unemployment rate (one of their mandates) will not improve as quickly as they thought
3.Price stability (there other mandate) or inflation will remain low for longer than they thought at the last meeting (because QEII is a lot of new money.)
Also, Bernanke recently talked about the need for more government stimulus. That’s got to give you confidence---confidence that our monetary managers intend to inflate our way out of our debts.
A Potential Problem Few Are Talking About
November 11. 2010
Are you prepared for this kind of scenario?
According to a research report by Meredith Whitney1, the government, media and investors are all but ignoring the financial crisis currently being faced by the States. State deficits amounted to $200 billion in 2009 and another $200 billion in deficits are expected in 2010. Plus, estimates are that pension funds could be $1 trillion under funded.
The Federal government is currently subsidizing States (through direct money transfers, etc.) to the tune of 22% of their budgets. At the same time, local governments have become dependent on State funding (which appears to be in trouble.) Also, many of the Federal subsidy programs will run out in June 2011.
Why no concern? Everyone expects the Federal government to bail them out. Times are changing. Here is Meredith Whitney’s view:
“I expect multiple municipal defaults to trigger indiscriminate selling, which will prompt a Federal response.”
This would have a very big impact on the market. By the way, Harrisburg, PA has just hired a law firm to examine the possibility of filing bankruptcy.
1 Meredith Whitney Advisory Services,
Are you prepared for this kind of scenario?
According to a research report by Meredith Whitney1, the government, media and investors are all but ignoring the financial crisis currently being faced by the States. State deficits amounted to $200 billion in 2009 and another $200 billion in deficits are expected in 2010. Plus, estimates are that pension funds could be $1 trillion under funded.
The Federal government is currently subsidizing States (through direct money transfers, etc.) to the tune of 22% of their budgets. At the same time, local governments have become dependent on State funding (which appears to be in trouble.) Also, many of the Federal subsidy programs will run out in June 2011.
Why no concern? Everyone expects the Federal government to bail them out. Times are changing. Here is Meredith Whitney’s view:
“I expect multiple municipal defaults to trigger indiscriminate selling, which will prompt a Federal response.”
This would have a very big impact on the market. By the way, Harrisburg, PA has just hired a law firm to examine the possibility of filing bankruptcy.
1 Meredith Whitney Advisory Services,
Federal Reserve Says We Should Only Focus On The Benefits
November 3, 2010
The Federal Reserve today announced that it will create $600 billion to buy bonds over the next eight months ($75 billion of purchases per month.) Also, that we not worry about the extraneous things and focus instead on the benefits. These bond purchases will:
1, Lower interest rates to help with home purchases, business loans, etc.
2. Lower the dollar to help exports by making U.S. exports cheaper
3. Increase commodity and equity prices giving a nudge to inflation
I could give a list of reasons why this will not work, but I want to focus on two other major problems.
One, the Fed has blinders on. It is focused only on the “positives” and not the “negatives.” For example, lower interest rates could be a buying incentive if consumers wanted to spend. Evidently, a rate of 2.65% for ten years is too high. The Fed also needs to look at the people who are hurt by this policy. Savers, at these low rates, are being punished. We need savings so we can invest in growth.
Two, the Fed is only focused on short-term results. They may get some of the results they want; but long-term, the debasing of the dollar will reduce buying power and cause inflation.
The policy has been decided and will now be implemented. We have to determine how it will affect our business plans and our portfolios.
The Federal Reserve today announced that it will create $600 billion to buy bonds over the next eight months ($75 billion of purchases per month.) Also, that we not worry about the extraneous things and focus instead on the benefits. These bond purchases will:
1, Lower interest rates to help with home purchases, business loans, etc.
2. Lower the dollar to help exports by making U.S. exports cheaper
3. Increase commodity and equity prices giving a nudge to inflation
I could give a list of reasons why this will not work, but I want to focus on two other major problems.
One, the Fed has blinders on. It is focused only on the “positives” and not the “negatives.” For example, lower interest rates could be a buying incentive if consumers wanted to spend. Evidently, a rate of 2.65% for ten years is too high. The Fed also needs to look at the people who are hurt by this policy. Savers, at these low rates, are being punished. We need savings so we can invest in growth.
Two, the Fed is only focused on short-term results. They may get some of the results they want; but long-term, the debasing of the dollar will reduce buying power and cause inflation.
The policy has been decided and will now be implemented. We have to determine how it will affect our business plans and our portfolios.
Which Is More Important, Tuesday’s Election or Wednesday’s Fed Meeting?
November 1, 2010
Tuesday, Americans will decide whether we should continue spending at the current, yearly rate of $2.2 trillion of tax money plus another $1.5 trillion of borrowed money or whether we should reduce spending and shrink government. Research polls indicate the latter.
Wednesday, the Federal Reserve will meet to decide how much money they will print in an effort to keep interest rates artificially low, “re-inflate” the housing market and incentivize consumer spending. The trillions spent to date have not worked. There is no reason to believe this round of money printing will work either. However, many support it because they believe the “government” must do something.
The more important of the two days is Tuesday. Runaway fiscal policy is the more dangerous policy. The economy needs time, not more spending, to deleverage and get to equilibrium.
The markets at this point, may have priced in much of the election results (unless there is a surprise) and at least some of the expected $1 trillion in new money to be printed. Then, there will have to be a reassessment. Prepare and adjust your portfolios as required.
Tuesday, Americans will decide whether we should continue spending at the current, yearly rate of $2.2 trillion of tax money plus another $1.5 trillion of borrowed money or whether we should reduce spending and shrink government. Research polls indicate the latter.
Wednesday, the Federal Reserve will meet to decide how much money they will print in an effort to keep interest rates artificially low, “re-inflate” the housing market and incentivize consumer spending. The trillions spent to date have not worked. There is no reason to believe this round of money printing will work either. However, many support it because they believe the “government” must do something.
The more important of the two days is Tuesday. Runaway fiscal policy is the more dangerous policy. The economy needs time, not more spending, to deleverage and get to equilibrium.
The markets at this point, may have priced in much of the election results (unless there is a surprise) and at least some of the expected $1 trillion in new money to be printed. Then, there will have to be a reassessment. Prepare and adjust your portfolios as required.
Thursday, October 21, 2010
It’s Time To Look At America’s Two Economies
Today, when you open the business section of your newspaper or watch financial news on television, it is obvious that we have moved from an entrepreneurial economy toward a very centrally planned economy. Fiscal and monetary policies have become almost an obsession. Politicians and pundits have convinced most people that the government can and should solve any problems we have. And as you know, politics drives fiscal and monetary policy. Therefore, it is important that each of us have a longer-term understanding and outlook of the economy; and it must be as non-partisan as humanly possible.
Following is my view. This view may differ from yours because my assumption is that the economy and markets do not work, except on a very long-term basis, the way most people think they should.
First, we need to put the real economy (not just the political economy we read about every day) into context so we can distinguish the actual economy from the artificial, centrally planned economy. This makes it possible to see the two economies. Once you understand both, you will be in a position to develop a short-term plan for your business and your investments; and a longer-term plan for when these two economies collide.
Most people think that when the economy (GDP) grows, corporate profits grow which causes stock prices to increase. This is true if you are thinking very long-term. But what really causes the economy to grow is when the government increases the money supply (prints money.)
GDP growth, by definition, is only possible if you increase the money supply. If the money supply did not increase, you would have a fixed number of dollars in the economy. Therefore, increased spending in one area of the economy would cause a decline in another area with net, aggregate growth of zero.
If the definition of economic growth was more wealth, rather than more money, the economy could certainly grow if GDP stays at zero. Think about how technology has increased our wealth over the years at the same time that prices were are being consistently reduced.
However, the problem with increasing the money supply is:
1.It decreases the value of the dollar, reducing buying power, which then causes inflation.
2.It causes malinvestments (investments go into marginally productive ventures that cannot sustain themselves once interest rates rise or when credit or money is withdrawn from the financial system.) It can/does cause bubbles.
3.It reduces the ability of productive companies to obtain the capital they need) long-term) crowding out real productive ventures.
Current fiscal and monetary policy
The Federal Reserve Bank, using a government (Keynesian) periscope, has decided that we are not de-leveraging (bringing prices back to equilibrium); we are instead close to falling into deflation. This Keynesian definition means a chronic slowing of consumer spending or demand. It is not the original or traditional definition of deflation which is a contraction of the money supply.) Therefore, the Fed is expected to soon (maybe in November) begin the second round of quantitative easing (printing money.)
Therefore, to increase consumer demand, the Fed plans to hold interest rates artificially low and pump money into the banking system to incentivise the consumer. This, plus continuous stimulus programs and overspending tax collections have not worked to date. Some of the reasons are:
1.Banks have over $1 trillion in excess reserves but are not lending (for several reasons) so credit expansion is not occurring which is necessary to hype demand
2.We have had over $900 billion in stimulus programs plus $2.7 trillion in “additional” government spending over the past two years. GDP has risen by about $800 billion over the same two-year period.
3.A lot of this money has found its way into emerging countries in the form of investments. Two emerging countries have started to tax foreign investment funds in order to slow down their growth.
Conclusion
Government (fiscal and monetary) policy cannot continue down this same path much longer without it causing horrendous inflation. Our debt and committed future obligations already exceed 100% of current, tax collections for many decades into the future.
Plus, we still have many significant economic problems before the economy can really begin to grow including the financial system, housing, over-levered consumers, unemployment, states and municipalities in serious deficits and asking the federal government to bail them out (estimates are around $300 billion now) and many more.
Therefore, unless there is a clear change in government policy (by both political parties,) it appears that additional stimulus, low interest rates and excessive printing of money will continue. Since money supply is the initial driver of our economy, the GDP number may stay positive and above water. But, this printing and spending money plus low interest rates will require investors to make significant changes in all asset classes.
Following is my view. This view may differ from yours because my assumption is that the economy and markets do not work, except on a very long-term basis, the way most people think they should.
First, we need to put the real economy (not just the political economy we read about every day) into context so we can distinguish the actual economy from the artificial, centrally planned economy. This makes it possible to see the two economies. Once you understand both, you will be in a position to develop a short-term plan for your business and your investments; and a longer-term plan for when these two economies collide.
Most people think that when the economy (GDP) grows, corporate profits grow which causes stock prices to increase. This is true if you are thinking very long-term. But what really causes the economy to grow is when the government increases the money supply (prints money.)
GDP growth, by definition, is only possible if you increase the money supply. If the money supply did not increase, you would have a fixed number of dollars in the economy. Therefore, increased spending in one area of the economy would cause a decline in another area with net, aggregate growth of zero.
If the definition of economic growth was more wealth, rather than more money, the economy could certainly grow if GDP stays at zero. Think about how technology has increased our wealth over the years at the same time that prices were are being consistently reduced.
However, the problem with increasing the money supply is:
1.It decreases the value of the dollar, reducing buying power, which then causes inflation.
2.It causes malinvestments (investments go into marginally productive ventures that cannot sustain themselves once interest rates rise or when credit or money is withdrawn from the financial system.) It can/does cause bubbles.
3.It reduces the ability of productive companies to obtain the capital they need) long-term) crowding out real productive ventures.
Current fiscal and monetary policy
The Federal Reserve Bank, using a government (Keynesian) periscope, has decided that we are not de-leveraging (bringing prices back to equilibrium); we are instead close to falling into deflation. This Keynesian definition means a chronic slowing of consumer spending or demand. It is not the original or traditional definition of deflation which is a contraction of the money supply.) Therefore, the Fed is expected to soon (maybe in November) begin the second round of quantitative easing (printing money.)
Therefore, to increase consumer demand, the Fed plans to hold interest rates artificially low and pump money into the banking system to incentivise the consumer. This, plus continuous stimulus programs and overspending tax collections have not worked to date. Some of the reasons are:
1.Banks have over $1 trillion in excess reserves but are not lending (for several reasons) so credit expansion is not occurring which is necessary to hype demand
2.We have had over $900 billion in stimulus programs plus $2.7 trillion in “additional” government spending over the past two years. GDP has risen by about $800 billion over the same two-year period.
3.A lot of this money has found its way into emerging countries in the form of investments. Two emerging countries have started to tax foreign investment funds in order to slow down their growth.
Conclusion
Government (fiscal and monetary) policy cannot continue down this same path much longer without it causing horrendous inflation. Our debt and committed future obligations already exceed 100% of current, tax collections for many decades into the future.
Plus, we still have many significant economic problems before the economy can really begin to grow including the financial system, housing, over-levered consumers, unemployment, states and municipalities in serious deficits and asking the federal government to bail them out (estimates are around $300 billion now) and many more.
Therefore, unless there is a clear change in government policy (by both political parties,) it appears that additional stimulus, low interest rates and excessive printing of money will continue. Since money supply is the initial driver of our economy, the GDP number may stay positive and above water. But, this printing and spending money plus low interest rates will require investors to make significant changes in all asset classes.
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