Tis Only My Opinion

March 2001 - Volume 21, Number 3

Down & UP and Down Somemore!

Time to Buy or a Bear Market Trap?

That is the question that most investors who don't have their heads in the sand are asking? On Friday, February 22, the NASDAQ average went through its long-term support level of 2232 with a whoosh!

On Monday, the DJIA added over 200 points. The pundits expect that the Fed will lower interest rates another 50 basis points. Ah, such exciting times we live in.

Yet, pick up any paper and you will see announcements of job reductions, revenue and profit warnings, and suggestions that tax revenues will not reach projections at either the Fed or state levels.

President G.W. Bush's Budget

Bush will present a budget to the people and Congress that will espouse the themes of his campaign but he won't say that the budget surplus is just smoke and mirrors.

I doubt if he will talk about the crisis in the derivative markets, the gold market manipulation, the plunge protection team which apparently still is in operation as of last Friday noon, or the massive imbalance in our balance of trade deficit.

Rather he will focus upon the need for improved education, conservation of resources, a need to reduce the regulatory burden, improved efficiency in military procurement and pay rates, and changes in the federal/state relationship.

The problem that Bush's budget faces is that the revenue side (taxes) may be very illusory in an economic downturn. As a result, the cooked books of the Clinton Administration will be blamed on the new administration. Look at the significant increases in CPI, PPI, and trade numbers. The Clinton Administration made major revisions in these indices in order to present a better picture to the unknowing public. Not one major market media journalist has printed a story which calculated the numbers utilizing the schema of the previous Bush administration as compared to the former Clinton administration.

Yet, most of us know that the cost of living has increased during the past eight years at a rate far above the reported rates. It is amazing how changing the items in the bread basket can con the public. But you can't compare apples to donuts unless you are in the BLS.

The PPI 13.9% annualized inflation for January was followed by a CPI of 0.6% or 7.6% annualized. Then came a 17.4% increase in natural gas prices, which put residential gas bills over $300.00 a month. January's inflation was double what "experts" predicted. How can they consistently be so wrong? Meanwhile the trade deficit hit an all-time high, up 39.5% higher than 1999. China now is the biggest exporter to the US surpassing Japan. Energy prices were up 3.9%, the worst showing since September. Natural gas was up 17.4%, the largest one-month increase on record. Electricity was up 2.6%, the biggest monthly gain since February 1980.

Energy is considered to be the major culprit behind inflation - -

And you think it can't get worse! OPEC is expected to cut production by 1.0 million barrels a day after their March meeting. All bets are off as the Middle East is a powder keg right now. Anything is possible since the bombing of Iraq has put Saudi and Kuwait on notice that there could be some retaliations.

Gas stocks stood at 1.041 trillion CuF by the week ending 9 February, down 26% from a year earlier. It appears as if gas will reach a bottom of $5 per thousand Cuf, to possibly start a more steady march to 10 dollars by the end of 2001. Gas is being blamed for most of the PPI and CPI increases of January.

The environmentalist movement has created a lot of the problems from the domestic supply side. We have problems in drilling and refining oil products, a fear of clean nuclear plants, and a major problem with the lack of snow pack to run our hydro-electric plants this summer in the Pacific Northwest. The rolling blackouts suffered by California are only a precursor to what awaits the entire Western electricity grid this summer.

As I stated before, Confidence is such a fragile thing that it can be destroyed in an eyelash! And confidence is the only thing backing our Federal Reserve Notes today!

Debt And Taxes:

According to the Tax Foundation in Washington, Americans are paying the highest amount of Federal taxes in 50 years. Based upon the per capita income in the U.S.A., the Federal income tax is now taking 23.4% and an additional 10.4% goes towards State income taxes. This total now stands at 33.8% of what Americans earn. American consumers currently have to use 14.1% of their after-tax incomes to service their installment and mortgage debts. When home mortgage equity loans and vehicle leases are added, debts take an enormous 34.1% of the average American income.

Taxes take 33.8% and debt maintenance takes 34.1% of total incomes.

Adding The Burdens Together:

Taking Federal and State incomes taxes of 33.8% and the average total debt maintenance burden of 34.1% makes a total of 67.9% of all income. Please note that this tax calculation does not include sales taxes, property taxes, fees, fines etc., etc.. But what this basic calculation does show is that about one-third of income is ripped away by the State and that about another one-third is ripped away to service outstanding debts. That leaves only the remaining one-third for everyday living expenses and savings, if any. The new "serfdom" is composed in equal parts of tax payments and debt servicing payments.

If Americans had not been enticed into going into debt over the past decade, most of them would now stand with some cushion to weather an economic downturn. But they don't. So, Americans are stopping their borrowing and spending - hence the suddenness with which the U.S. economy is slowing down.

In both December and January, the more ominous signs were that the savings rate was actually negative for the first time in history.

Putting the Bush Tax Cut into Perspective

The Privateer, an Australian newsletter, puts the Bush Tax Cut into proper perspective in its mid-February 2001 issue

The political "kicker" comes in the fact that these tax cuts are to be phased in over TEN YEARS. The problem is that even if these tax cuts are enacted by Congress and backdated to Jan. 1, 2001, the tax cut over the first year will amount to a paltry $US 21 Billion. Allowing a scant $US 21 Billion to remain in the pockets of Americans who have earned it, in a budget that proposes federal spending of $US 1.9 TRILLION, is not a tax cut worth mentioning. Allowing an additional $US 21 Billion to remain in the private hands of those who have earned it is not a "stimulus" to
a $US 9.3 TRILLION economy.

My grandfather would have said it slightly differently, "the tax cuts are a dollar short and a year late."

The Japanese economic problems are of great concern

The Japanese public is currently saving at a rate substantially greater than in the U.S. The savings of every man, woman and child in Japan are now $90,000 per head. If you think of the equivalent figure in the U.S.A. it seems incredible that consumer demand can be so low. How does the Japanese Government remove the slump-induced pessimism and create the confidence that encourages people to do more spending?

The problem is that the Japanese hold about 38% of the foreign owned debt of the U.S. If they decide to move that money into other instruments, the dollar will become worthless almost overnight. The political situation in Japan almost makes it a certainty that the current prime minister will be resign shortly. Their economy and stock market still have not recovered since the great shock of the early 1990's and continue to languish at or near their lows.

Yet, a substantial portion of the Japanese economy is dependent upon exports to the U.S. and Europe. Japan is in for a rough ride as the US economy slows. They account for 14.5% of the world economy. The US represents 31.5% and the EU 25% of their exports.

Ron Linam once said that he was not concerned about the Balance of Payments problem. Why, I asked? "Because they are sending us their material wealth in exchange for a few pieces of paper that must eventually become worthless." Perhaps, he was right.

But if he is correct, the implications for a global depression and collapse are frightening.

The fate of fiat money?

Money is often considered as a storehouse of value. It is used as a medium of exchange. But let us look for a moment at the situation in Turkey where the demand for gold has become an obsession. On February 22, 2001, Turkey abandoned its currency controls. So what happened?

The lira dropped 27 percent against the dollar Thursday after the government abandoned exchange-rate controls. Bankers said that in early trading with the Central Bank the exchange rate was 950,000 lira to $1, compared with 688,000 lira on Wednesday. Analysts also said Thursday's move would lead to a short-term rise in inflation. The inflation rate stands at about 30 percent, down from 70 percent in 1999.

Since Turkey began its anti-inflation program backed by $11 billion in loans from the International Monetary Fund, it had set daily currency rates for the lira against the dollar and euro. Overnight lending rates reached an annualized 7,500 percent Wednesday, helping roil markets already fueled by fears of a major political crisis.

The demand for gold in lieu of the Turkish lira went through the roof according the local gold merchants.

Remember the German mark of the early 1920's?

In the first part of the 1920's, the German mark suffered a hyper-inflation of a magnitude unseen prior to that event. Largely, the result of a demand for reparations by the winning side in WWI and an economy that was unable to produce, the D-mark spiraled out of sight. My father-in-law stayed with his uncle in Heidelberg who owned a large apartment block across from the University free and clear in 1919. In 1922, with the politicians imposing rent controls, the government foreclosed on the property for non-payment of taxes. The uncle then sold cigarettes from a wheel barrow and changed the prices twice each day when he bought the merchandise from the wholesale outlet.

The German D-mark was just so much paper. When my father-in-law left to return to the US in 1922, he had $200 U.S. Gold coins left and he gave them to his uncle who used them to buy 80 hectares across the river from Heidelberg which enabled that family to survive.

The same scenario is taking place in Turkey today.

The Federal Reserve's Options

Most of the informed public views the Fed as being able to effect the economy by lowering interest rates or by changing the requirements for banks in maintaining their reserves. However, these are not the most important.

The following passage, taken from Bob Woodward's book "Maestro", discusses the tactics contemplated by Greenspan and the Fed in the immediate aftermath of the 1987 stock market crash and highlights the extraordinary power of the US central bank.

"They [the Fed] had the legal power to buy up the entire national and private debt, theoretically infusing the system with billions, even trillions, of dollars, more than would ever be necessary to restore liquidity and credit. Of course, the result of that would be Latin American-style inflation.

In addition, there was an ambiguous provision in Section 13 of the Federal Reserve Act, the lawyers told Greenspan, that could allow the Fed, with the agreement of five out of seven members of its board, to loan to institutions - brokerage houses and the like - other than banks. Greenspan was prepared to go further over the line.
The Fed might loan money, but only if those institutions agreed to do what the Fed wanted them to do. He was prepared to make deals. It wasn't legal, but he was willing to do it, if necessary. There was that much at stake. At that moment, his job was to do almost anything to keep the system righted, even the previously inconceivable." [emphasis added]

When the US credit bubble eventually unravels, the major risk faced by the US will not be deflation - it will be hyper-inflation.

The real question is what happens when the Gold Market Manipulation stops?

Now please don't characterize the writer as a Gold Bug. However, the only way out of the trap for the U.S. Government, if and when, overseas investors decide to cash in their holdings of U.S. dollar instruments and hyper-inflation takes hold is to monetize the U.S. debt with gold. If that happens, the gold stock in Fort Knox will have a value of approximately $7,500 per oz. according to some writers.

Perhaps, one ought to look at gold as a possible investment alternative as the stock market continues to tank.

But then - 'Tis Only My Opinion!

Fred Richards
March 2001

Corruptisima republica plurimae leges. [The more corrupt a republic, the more laws.] -- Tacitus, Annals III 27

This issue of 'Tis Only My Opinion was copyrighted by Adrich Corporation in March 2001.
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Tis Only My Opinion is intended to provoke thinking, then dialogue among our readers.

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