What has Changed?

Bill Bonner - Fri 02 May, 2008

Oil is still over $100, house prices are still falling and unemployment is at a four-year high.

Writing from Ouzilly:

Here’s today’s Yesterday, the Dow rose a big 189 points. Gold fell a big $14.

Readers will note that these trends are opposite to the way we think things ought to be going. For the entire decade, we’ve been long gold and short stocks. We’re going to stay in that position for the rest of the decade too – unless we lose all our money or think of a convincing reason to change.

So far, neither has happened. The price of gold has more than tripled. Stocks have mostly gone nowhere. And nothing has happened to make us think that the fundamentals are different today than they were in 2000.

The debt bubble has been only partially deflated. Americans are still living beyond their means. And the people who run America’s central bank and its central government are still numbskulls.

What then, to make of yesterday’s price trends. Maybe the Bernanke Fed and the Bush feds have won the battle; maybe they’ve succeeded in keeping the economy growing. Maybe the dollar will strengthen. Maybe gold will continue its death march, back down to where it began the decade – under $300. Maybe we’re the numbskulls.

Yes, and remember the feds “rebate” program? This week they began sending money they don’t have to people who didn’t earn it. It’s supposed to encourage consumers – who’ve been spending too much already – to spend more. Maybe it will work after all.

And the Fed’s latest interest rate cut – down to 2%. Maybe that will work too.

And maybe enlightened public officials really can improve the world. When people have made errors – as they inevitably do – the feds can somehow make the errors disappear. They can pass laws and jiggle policies…and abracadabra, instead of suffering a correction…the whole thing is forgotten and it’s on to bigger and better things.

Which makes us wonder what went wrong in ancient Rome and modern Japan. The Romans tried every trick – from price controls to inflation to giving away bread (similar to the ‘tax rebate’ program. Still, the economy deteriorated. From the period which Gibbon considered the happiest and most prosperous of man’s history – the age of the Antonine Caesars – the empire slipped and slid…and finally collapsed into the Dark Ages, which lasted nearly a thousand years. Of course, the Romans did not have modern central banking. But the Japanese did. Their central bankers read the same books as ours do. They believe the same theories and have the same wrenches and pliers in their tool belts. How come they couldn’t fix whatever ailed Japan Inc?

We don’t know. But yesterday, it looked like the US authorities had things in hand. The US economy is still growing, though barely. General Motors stock rose…and Citigroup found that it could raise even more money than expected.

Gold, meanwhile, continued its correction.

“What the wise man does at the beginning the fool does at the end,” says Warren Buffett. No doubt, the wise man bought gold below $300. But were they fools who bought over $900? We don’t think so. As near as we can tell, we are not at the end…we are still at the beginning of a monumental trend.

The credit bubble developed a major leak last year. Banks wobbled. Credits plunged. Hedge funds went broke. And the feds panicked. Bernanke and Co. pushed $200 billion in new cash and credits into the marketplace…and cut rates seven times. It was clear that the authorities had no interest in protecting the value of the dollar; they were desperately trying to avoid a serious correction. Naturally, gold went up.

Then, the markets calmed. It began to look as if the Bernanke & Bush team might win. Martin Feldstein, head of the National Bureau of Economic Research and a close friend of Ben Bernanke, said on television that 2% would probably mark the end of the Fed’s rate cuts. With no more rate cuts in sight…and an economy that seemed to have survived the crisis...speculators thought it was time to lighten up on gold. Silver too.

But what has changed? Oil is still over $100. The Chinese economy is still booming – with the manufacturing sector reportedly expanding at a record rate. Emerging market demand is so strong, it is holding key commodity prices up – even as demand from the US eases off. In America, people are switching to smaller cars…but in other places, they’re buying so many new cars that gasoline use is still going up.

Which puts Americans in an even tighter jam. A slowdown in the US economy used to bring a bit of relief. Americans earned less…but prices fell too. For example, when Paul Volcker put up rates in the early ‘80s, it caused a major recession. But it brought good news too – the higher rates rewarded savers. Higher rates also attracted money to the dollar; the greenback rose, which lowered prices.

Now, unemployment in the US has reached a four-year high…but prices are still going up. Oh, dear reader, what have our geniuses really wrought? Americans’ earnings and assets are going down…while their consumer prices are going up – and their leaders congratulate themselves on having saved the economy from a correction.

A correction is just what the economy most needs, in our humble opinion…and what it is still going to get.

*** The French earn more than Americans…but Europeans pay higher prices than Americans, for almost everything. And prices have been going up four times as fast as incomes. In Europe, as in America, more and more people are being squeezed out of the middle classes. They either get richer…or poorer. A study in Germany, for example, found that middle-range salaries were earned by 62% of the population in 2000, but that by 2007, only 54% of wage earners were in the middle category.

In Rome, we went out for breakfast on the Piazza di Navona. It was a beautiful spot to begin the day, with the sun on our faces…while watching the Italians open up their restaurants and set up their artwork on the piazza. The piazza preserves the shape of Domitian’s circus…an oval form, about 100 yards wide and twice as long. In the centre, artists display their paintings, jugglers entertain, and a few madmen wander and pickpockets wander around. One of the strangest characters in the square was a woman – a bag lady, carrying two large bags in each hand. She appeared early in the morning, while we were having our caffe latte, wearing a purple padded coat and a knit hat. Her hair had been coloured bright orange and stuck out on both sides of her head like a clown. Her face was painted a bright red. While we watched, she said nothing. Instead, she merely ambled around…not appearing to notice anyone in particular…and not appearing to have any particular destination. When we passed through the piazza later in the day, she was still there…doing exactly as she had been doing all day.

Meanwhile, a jogger was running around the track. He was a middle-aged man wearing a Colgate University tee-shirt. The people at the neighbouring table, French, noticed him.

“He must be an American,” one man said to the others. “Who else would run around like that at this hour of the morning?”

After a few laps…

“I think he’s speeding up. I’m going to time him…”

Then, a few laps later...

“Yes, he’s speeding up. You’d think he’d go slower. That’s a long way around the piazza. And he’s an old guy. But he’s doing each lap a little faster…”

Then, as we all began to wonder how fast he would go…he peeled off to the right down a side street.

Amid all this entertainment, the waiter brought the bill for breakfast. We had had two coffees, two croissants, and two glasses of orange juice. The bill: 35 euros…or about $52.

“This isn’t the All-you-can-eat Early Bird Special in Lubbock, Texas,” said Elizabeth.