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by Eric Janszen
Among dozens of old magazines I bought in 1998 when I was doing research for iTulip.com, I picked up a copy of the May 1931 issue of The American Mercury. From that issue, to the left (click here to enlarge), is a scan of an ad for a book New Russia's Primer published by Houghton-Mifflin that offers to reveal the promise of “Pan-Sovietism,” a follow-up to a previous book explaining the ambitions of “Pan-Germanism.” These ideas were the seeds of Nazi and Soviet expansionism planted more than two decades before The Great Depression, were discredited during the post WWI recovery and 1920s boom but flourished in the atmosphere of bitterness, deprivation, and anti-intellectualism that accompanied the greatest global economic disaster of that century. Sophistry and demagoguery drowned out analytical argument and reasoned debate.
No one knew it at the time – the book ad refers to the "Great War" without foresight of a next world war less than ten years away – but both Pan-Sovietism and Pan-Germanism were soon to turn the power of the Soviet and Nazi states against millions within their borders and without, to horrific result. The problems started with a subtle change in the way politics and economics were discussed when the going got tough. We need to keep our eyes open and stay vigilant to protect against such developments today.
I worry about the outcome of the collapse our broken credit system and the de-evolution of a lopsided US economy that is overly dependent on debt and finance. I am even more worried about the political backlash at a time when the Internet has created the most fertile breeding ground in history for sophistry and demagoguery from left to right. A few years into the kind of downturn I expect a lot of bad and discredited ideas may well become fresh, new and promising again, with the usual dreaded outcome. Readers need to get into the habit of challenging not only the beliefs of others but their own beliefs. This is where we can all make a difference: demand precision, respect expertise but always question motives and interests, and know that the truth is a journey not a place, and always be seeking.
Lecture over. Today is rebuttal day. So much ideological economics to refute, so little time. Where to start? My two favorites are an article by professional doomer James Howard Kunstler and a “missive” by the prolific and good hearted critic of greedy Wall Street bankers Mike (Mish) Shedlock.
Mishmash
We’ll kick it off with Mish. He does not write articles or post commentaries but pens “missives,” a term he insists on using for reasons understood only to him. If I don’t pay my taxes in April I’d expect to receive a missive from the IRS, an “official letter.” These are typically the kind of communications one seeks to avoid. But Mish’s are neither official nor disagreeable, are in fact helpful as far as they steadily and reliably counter the steady stream of advertising disguised as news and assorted sales blather pouring out of the mainstream business press nozzle.
Mike is nothing if not dedicated. I am certain he has saved thousands from the ill fate of the complacent debt serf who, watching Jim Cramer during the tech stock and housing bubbles or reading Ben Stein as he continually beats the “buy stocks” and “buy homes” drum to the cadence of Wall Street’s every selling wave, will without Mish’s missives have few reliable sources for balance.
My quibble is with the made-up, mishmash economics. I understand where he’s coming from, though. Readers don’t trust professional economists. They make lousy forecasts and appear willing to sell their credibility to the highest bidder at the expense of anyone who casually lends trust to anyone speaking from a position of authority.
A favorite target among economics bloggers is economist for hire David A. Lereah, ex-chief economist for the Realtors association who during the housing bubble consistently denied its existence on every Wall Street PR outlet from CNBC to the Wall Street Journal. Last week I was on CNBC up against an economist from the University of Chicago, a school that has for decades churned out monetarists, economists whose ideology revolves around a hatred of wage inflation for the bottom 95% and taxes for the top 5% while never meeting an asset price inflation it didn’t like. Our argument was short and predictable. I say: The housing bubble rescued the US economy after the tech bubble collapsed. He says: No it didn’t. Blah, blah, blah.
Economic and political influence over economists is not the only factor undermining public respect for economics. J. K. Galbraith said, "Economics exists to make astrology look respectable." Astrology was invented to help humans make sense of random events. Maybe economics was, too. When they are not busy making forecasts no better than astrologist's, economists are busy arguing over each other’s theories. With the combination of many contradictory schools of thought, bad forecasting, and grubbing after money paid out to economists by whatever industry is dominant in an era–such as the finance, insurance, and real estate industries of the FIRE sector for the past 30 years–the dismal science is in a dismal state in the US. Mish and others on the web can be forgiven for trying to make up their own.
They use terms common to professional economists, such as inflation and deflation, but in novel ways and not the same way from one article to the next. Sometimes deflation is falling prices.
Mish: “No one (well just a few of us deflationists) expected to see price drops. Well here they are, first in housing and now in restaurants. What's next? I expect we will see all kinds of drops in the price of goods and services. Someone emailed me just a few days ago about a price drop at the nail salon from $10 to $9. Hmmm. Is that a 10% drop? Why yes it is.”
The Psychology of Deflation
Other times inflation and deflation are solely monetary phenomena and prices are irrelevant.The Psychology of Deflation
Mish: “Caroline Baum seems to grasp what far too few others do: "the inflation process is always and everywhere a monetary phenomenon.”
Caroline Baum on Inflation
Professional economists may argue about which way inflation or deflation are going but there is general agreement on the meaning of the terms. This definition is as good as any, the first I picked off the web.Caroline Baum on Inflation
deflation: A decline in general price levels, often caused by a reduction in the supply of money or credit. Deflation can also be brought about by direct contractions in spending, either in the form of a reduction in government spending, personal spending or investment spending. Deflation has often had the side effect of increasing unemployment in an economy, since the process often leads to a lower level of demand in the economy. opposite of inflation.
In an article Mish writes today he asserts:Mish: Two Viewpoints
* Gold is money.
* Money is going to do well in deflation.
Bubble Economy Endgame
If one is going to make up one’s own school of economics, it needs to at least be self-consistent. Forecasting a future “deflation” in a world of floating exchange rates and without a gold standard and in the same breath recommending gold investment to readers is like forecasting a blizzard in the Bahamas and telling readers pack a bathing suit, sun tan lotion and an electric fan for the trip. * Gold is money.
* Money is going to do well in deflation.
Bubble Economy Endgame
Deflation is not bullish for gold. In a deflation, no one has any money. How are they going to buy gold? In the current instance, unlike in the 1970s inflation when the personal savings rate was over 10%, today the savings rate among the bottom 90% of wealth holders has been under 2% for nearly 10 years so the majority have few savings to protect from inflation by buying gold. As gold prices have been rising over the past year and a half and the economy slowing, they are selling gold, silver and jewelry to raise cash to fund household cash flow. At the same time, the top 5% are buying gold hand over fist to protect their wealth from domestic inflation fueled by dollar depreciation. They are also investing in Asian currencies and other non-dollar assets. Some day, should the fashion for diversification by US wealth holders into non-dollar assets turn urgent, the less polite term "capital flight" may apply.
If you are expecting monetary deflation and a deflationary spiral accompanied by an appreciating dollar, then sell your gold, stuff the cash into a safe, and wait for the fire sale. If a visit to the nail salon costs $9 now after “deflation” then delight when more "deflation" pushes the price down to $5. Buy the same new car for $10,000 that used to cost $40,000. If on the other hand you're expecting the dollar to keep falling and inflation to therefore continue rising, as in truth it has, hang onto your gold so you may afford to pay $20 for the nail salon visit later, and $80,000 for a car with like value as the $40,000 one today.
Yet, in spite of repeated assertions of belonging to the “deflationist camp” there is reason to believe Mish in reality believes the post credit bubble recession will start off cold with disinflation (negative rate of inflation growth) then get warm, then hot – monetarily speaking – inflation.
Mish: “Perhaps we get a deflation scare first (people over-leveraged in gold for the wrong reasons are forced out) but the long term beauty of gold is that Bernanke does not have to succeed, he merely has to try.”
The Fed's Tight Monetary Policy
We’ve called this Ka-Poom Theory since 1999. If so, then Mish needs to recommend to his readers they go to cash during the cooling off periods when the Fed is either not targeting or succeeding at producing negative real interest rates as they are today and later switch to gold and other assets that respond to central bank liquidity at the start of the warm. The Fed's Tight Monetary Policy
We recommended gold at $265 in 2001 and haven’t recommended selling since. We’re anxious, of course, with prices so high and are keeping our eyes open for signs of disinflation. My observation is that every time the Fed in concert with global central banks tries to withdraw liquidity from the global credit system to cool inflation the entire complex of asset markets crashes. Today is looking like one of those days, with both the DJIA and gold off more than 2%. With so much debt leverage in the system, the central banks have little choice but to stop the process before it gets out of hand. This is not exactly a secret among the hedge fund community and is behind a lot of long bets on more central bank liquidity winding up in asset prices, despite occasional resets. I don’t think global central banks have the slightest idea what to do to end this stand-off – yet. While they try to work out a solution, the fall-back policy of depreciating the world’s primary currencies–US dollar, euro, and yen–to manage the ongoing debt deflation will continue to elevate gold as a Fourth Currency.
I appreciate what Mish is trying to do. The professional economics world is in a sorry state. It’s hard to believe much of what comes out of professional economists in the mainstream press. The analogy I used recently with a reporter for an independent radio station who asked me why most economists – Robert Shiller and Dean Baker among the notable exceptions – were not warning their audience about the housing bust and recession as iTulip and others did. I replied that you don't expect a mechanic who works for a dealership to tell you that the used car they’re trying to sell you has a broken transmission with no second gear. It's not in his interest to do so. You take it to an independent, professional mechanic for a checkup. You could take it to your cousin Joe “who knows a lot about cars” and offers up contradictory and nonsensical explanations about the clutch plate and the flywheel and tells you to put it in reverse to get into second gear. But if you do, don't be surprised to find yourself one day rolling backwards over a little old lady. Caveat emptor.
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James Howard Kunstler is the creator of the popular and contentious doomer blog Clusterfuck Nation. Hey, with a name like Kunstler, why not title your blog with a word that, according to Wikipedia, “is generally considered censurable and offensive in most formal circles.” Type “clusterfuck” into google and the very first link that comes up is Kunstler’s site. Bravo! Well done. Then again, enter “greenspan interview” and the first link listed is to an interview we never had with Alan Greenspan in 1999. You’d think 100 real interviews with Greenspan better fit the intent of such as search than our faux interview, or maybe a fake interview with Greenspan is more realistic than the real thing.
Yesterday James penned a entry, not a missive, Serial Bubbles? in The Clusterfuck Nation Chronicle about my article The Next Bubble that appeared in this February’s Harper’s magazine. There are a number of reviews here. Below are excerpts James’ post with my comments.
James: "Eric Janszen of iTuilip.com has made a splash in the mainstream media with his Harper's Magazine cover story on the 'The Next Bubble.' His thesis is that a new tidal wave of investment will shortly roll toward 'infrastructure and alternative energy.' By this Janszen means a revived nuclear power push, refurbishing highways, bridges, and tunnels, "high-speed rail," solar and wind power, and alternative liquid fuels. This coming boom, he says, would be driven by political fear about energy security."
My Harper’s article goes into the workings of the asset price inflation “system,” covers key historical events such as the decline of the US industrial economy between the mid 1960s and 1980, the birth of the FIRE Economy under the Volcker Fed (hat tip to Dr. Michael Hudson), and circumstances leading up to the technology and housing asset price inflations. No room to go into the structure of the Alternative Energy and Infrastructure boom, only the outlines. More details are offered in these interviews with Grist Magazine and Renewable Energy Access, the leading web site covering the industry. The elevator pitch is that the collapse of the housing bubble spells the beginning of the end of the FIRE Economy, unless all of the healthy elements of the US innovation system–entrepreneurs, VCs, PE firms, hedge funds, (some) investment banks, the business press, and government–can be redeployed but to a more fruitful purpose: to get the US out of what will be a deep Debt Deflation induced recession, now in its early stages. The goals are to reduce U.S. dependence on imported energy and lower the energy intensity (BTUs per dollar of GDP growth) of the U.S. economy to make the country more competitive, more economically and ecologically sustainable, less dependent on FIRE and borrowing, and more economically fair with less concentration of wealth and income gains in the top 5% and debt in the bottom 50% of net worth group.
High energy prices have set in motion a process of investment that is reshaping U.S. energy infrastructure. In 20 years the US will with respect to transportation and energy be nearly unrecognizable from what it is today.
It’s not just about bridges and tunnels and solar panels and wind farms. It's about revamping the entire ugly and antique transportation and communications infrastructure to lower energy intensity and lower the friction of commerce. This list of reports offered by Energy Business Reports gives you an idea of the range and scale of what is happening. It’s about nanotech paints that reflect infrared from sunlight so that electric cars don’t use up more power than necessary on air conditioning, thus extending range. It’s about LED (Light Emitting Diode) based lighting that uses 1/10th of the energy of incandescent bulbs for the same output and can run continuously for 1,000 years without replacement. If the average person understood the kinds of technologies that become economical with sustained $100 and higher oil, they’d not be so worried about Peak Oil. They’d in fact demand an import tariff on oil to keep prices high and crank them up to $300 over a few years so that rather than going into debt to buy oil the proceeds of which are used to build Dubai’s infrastructure we instead build savings and form capital to invest in our own infrastructure and economy. How about that?
James: "On the face of it, Janszen's proposition seems more promising and intelligent than the previous engineered boom in suburban houses. But it raises a lot of questions and flags."
The last bubble was manufactured by Greenspan & Co. to save their political bacon. At least the tech bubble left some useable capital assets behind, such as fiber-optic cables for communications. Sure it cost several times more than it would have without the capital carnage, but it’s better than a bunch of half-finished casinos blighting The Strip and thousands of empty MacMansions baking in the Arizona sun, and tumbleweeds filling the driveways in Bakersfield. What future economic use can those possibly serve? James: "For one thing, the term 'bubble' suggests something more like a financial Chinese fire drill than actual productive activity. It would be an excellent thing if Americans invested in a restored passenger rail system. But if it were merely a scheme for big banks to issue innovative new securities for gigantic fees without actually getting any trains running -- well that would be in the nature of just another old-fashioned swindle, as the bundling of mortgages into securitized debt paper has proven to be."
Uh, oh. Did James read the article? A footnote in the second word of the article notes that I don’t like the word bubble because of the connotations and ambiguity. The next asset inflation will not be funded the way the housing bubble was, nor the way the tech bubble was. I don’t know for certain but I believe this boom will be funded by sovereign wealth funds (SWFs) as a way for foreign lenders to spend their treasuries before they depreciate into oblivion. These will be for-profit projects. The larger infrastructure projects will be built by yet to be formed public private partnerships (P3s). If James doesn’t know what either of these things are (SWFs and P3s), then I don’t blame him for not seeing how a Alternative Energy and Infrastructure boom can occur and where the money is going to come from.
James: "In other words, does Janszen make a distinction between a boom and a 'bubble?' He seems to understand that the previous two bubbles in dot-coms and houses were essentially frauds that generated imaginary wealth, which sooner later evaporated off the balance sheets and out of the financial system. A boom, it seems to me, is not the same as a 'bubble.' While perhaps wasteful and messy, booms at least produce something of value beyond the fees paid to bankers for arranging the deployment of capital. A boom that resulted in citizens being able to take a train from Boston to Albany would produce a substantial public good. The creation by Goldman Sachs of a company on paper that never accomplished anything would be something else. This, of course, leads to a deeper question as to whether the USA is actually a serious society or just a nation of hopeless, greedy clowns? Are we even capable anymore of distinguishing between purposeful activity and the art of the grift?"
I emphasize the last sentences of the paragraph above because it’s James at his best. Indignant. Pissed off. Funny. But he’s missing the point. There will be a boom in Alternative Energy and Infrastucture. Time will tell whether it develops into a massive asset inflation. Maybe it only develops into an oasis of growth in an otherwise moribund economy going through a transition from debt dependent FIRE Economy-based to production and savings focused through a process I call “re-industrialization.” Even during The Great Depression, certainly as broken an economy can get, certain industries boomed.James: "This leads to a further consideration of where the capital for 'the next bubble' supposedly comes from. Janszen doesn't account for the essentially bankrupt condition of the USA. The capital that was deployed and squandered in the previous two bubbles is not there anymore to be washed, rinsed, and recycled. It's gone. It was winkled out of hundreds of pension funds, millions of individual investors, and, in terms of eventual obligations, the federal government. There is a black hole of unresolved debt where that 'capital' used to be."
On the contrary, James. Read iTulip and you will see 10 years of careful documentation of just how broke we are. Start with The Big Bet; it's a rant almost worthy of your blog. My argument isn’t that old bubbles can be brought back to life; they can’t. The game must move to a new venue. Governments will again supply credit to each other to create one, big happy government managed system of global state capitalism. The U.S. becomes more like China, where the largest 30 corporations are majority government owned, faster than China becomes like the U.S. I'm not nodding in approval of this development, just calling like I see it. (How about starting a second blog called Clusterfuck Planet?)
James: "Janszen's idea seems to be that the new investment comes from simple credit reflation. I don't see how this is possible while the current bubble in housing remains only fractionally 'worked out.' It has a long way to unwind yet, and a lot of damage to do. It will bring down banks, insurance companies, hedge funds, municipal governments, and leave a lot of individuals impoverished, literally out in the cold. As long as trillions in losses remain concealed or unresolved, the basic system for deploying capital will remain paralyzed."
That’s more dramatic than I predict but close enough. No bread lines but a lot of angry, disoriented and disappointed voters who may look for populist solutions that will make matters worse.James: "I wonder if fixing all the infrastructure for happy motoring is not an exercise in futility and another layer of tragic misinvestment. After all, it's based on the assumption that we will still be running huge numbers of cars and trucks decades ahead, and I'm not convinced that this will be possible under any circumstances. The psychology of previous investment will exert a powerful pull to throw money at our highways. It might be more realistic to think of this as a triage process -- to ask ourselves how much of this stuff do we just let go of and which parts do we actually keep. Thousands of miles of suburban commercial strip highway six-laners may not be needed at that 'level of service.' What becomes of them? Do we run trains down the interstates? Surely, we don't want our bridges to crumble."
No, we need to continue to lower the energy intensity of our economy, lower our per capital energy footprint, and do it in a politically practical way. I say deploy a floating tariff on oil, crank the price up to $300 over five years. Watch what happens. Our system can do wonders with that “problem.” If you believe the Peak Oil doomers that’s going to happen anyway but without benefit of intent or design.James: "By the same token, I wonder if our investments in alternative energy will prove to be chimerical -- things wished and hoped for but impossible to achieve. My own hunch is that our notions of scale are not consistent with what reality will permit in this field. I don't believe that we will build more than a few giant wind farm installations. Rather, I believe we'll discover that wind power is only really practical on the household or extremely local basis. Ditto solar. I also doubt that we will continue to get all the necessary exotic metals needed to fabricate the hardware for these things. Along similar lines, I believe our expectations for ethanol and bio-diesel fuel production will prove to be not only disappointing but destructive to the food production sector."
Not giant wind farms, a kinder, gentler nuclear industry.James: "All of which is to say that an investment campaign aimed at sustaining the unsustainable by other means would end in tears. Personally, I don't think there will be a 'next bubble.' I think we're out of bubbles and that our current mode of life in this nation is running out of time. We're facing such an array of potential instabilities that even assuming we continue to live in an orderly society may be too much. Like every other activity in our lives, finance, too, may be in for an epochal downscaling."
Among us critics, who is offering constructive, plausible, practical, non-utopian, politically and operationally possible solutions? Within a year, the nation will be sick and tired of all the bad news, which I expect to come first in waves and then in torrents. No one will have any interest whatsoever in who did what to whom when or who’s fault it was, and anyway the guys who created the mess will be standing in the crowd with the victims acting and looking like victims and no one will be able to tell them apart or care. I’ve been thinking about this for 10 years, since I went to libraries around the world, poured over the microfiche images of 1930s newspapers and noted among other things that there were hardly any news during The Great Depression about The Great Depression. That’s because it wasn’t news. The Depression just was. All anyone cared about was: how do we get out of it? My suggestion to anyone running a site that complains about how screwed up things are start now thinking about constructive solutions. Believe me when I tell you that plenty of unconstructive ideas that already exist that will come up again, including the resurrection of failed populist socialistic and isolationist solutions that will plunge the U.S. into a deep hole if they carry the day.
Make no mistake. Joe Sixpack is going to be very uphappy when he realizes that the pain of rising costs and falling real income is only just beginning. That die was cast when the U.S. decided to become dependent on foreign borrowing to fund the bulk of its merchandise trade and fiscal deficits. Poor distribution of wealth will form the political battleground for solutions over the next few years.
That does not mean the end of the world. I recommend James read Are You a Doomer? and take our doomer survey to see where his psyche sits on our Mad Max Pessimist to Mary Poppins Optimist scale.
One final note. James also wrote yesterday:
February 1, 2008:
Yesterday I wrote
"Calling for a crash in the equity markets
Perhaps before the end of the week
Developments the past several days around the finace sector suggest to me that a crash in the stock indexes is imminent. . . ."
Bad call, I'd say....
The Dow then proceeded to shoot up 207 points (Nasdaq 40, S & P 23)
Tip: We haven't had any luck calling short term market moves, either. We tried it once in 1999 and failed. For the first time since April 5, 2000 when we called the start of a bear market we called the start of another Dec. 27, 2007. We told subscribers that a rare multi-year Debt Deflation Bear Market was starting (see Time, at last, to short the market). The DJIA is off more than 1,000 points since then. I expect it will decline more than 20% this year. Doomy enough for you?Yesterday I wrote
"Calling for a crash in the equity markets
Perhaps before the end of the week
Developments the past several days around the finace sector suggest to me that a crash in the stock indexes is imminent. . . ."
Bad call, I'd say....
The Dow then proceeded to shoot up 207 points (Nasdaq 40, S & P 23)
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