Why There Will Be No Recovery and Markets Will Trend Lower 24 comments
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With large continuing trade deficits, declining manufacturing and rising public debt, we cannot expect a recovery. Worse, we can expect economic conditions to deteriorate until we face the prospect of a total collapse in the United States economy. Here is why.
We all know that our trade deficits are through the roof. We import a great deal and we manufacture less and less to export. The services of our service economy are not really exportable like manufactured goods. The result of the continuing trade deficits is huge foreign debt to China and other countries. Well, so what, you might say. The answer is that until those deficits are substantially reduced, we can expect the recession to continue and actually get worse. That is, we cannot expect a recovery and we can expect the stock market to trend lower.
The problem is too many Keynesians are not paying attention to what Keynes said or indeed to what is going on. Consider this: in The General Theory of Employment Interest and Money, Keynes predicted what would happen to a country that allowed its trade deficits to persist:
[A] favorable balance, provided it is not too large, will prove extremely stimulating; whilst an unfavorable balance may soon produce a state of persistent depression.
As a young man, Keynes favored open free trade. However, from studying the real world, he came to realize that countries can gain an advantage by adopting strategies designed to develop trade surpluses. The problem is that countries that trade with such surplus countries themselves wind up running serious trade deficits. If and as those deficits continue, according to Keynes, they typically result in a persistent depression in the deficit countries. Aggregate demand is reduced because people have to finance and repay deficits related debt and eventually financial crises ensue which are caused by too much borrowing from abroad, according to Keynes. Sound familiar?
So how did we get to this point? A bit of history tells us. Keynes had a plan for what became the Bretton Woods system of institutions and trading rules after WW II. Both the IMF and the WTO were founded based upon Keynes’ advice, but not all of Keynes’ recommendations were adopted. One omission was crucial. The institutions and rules Keynes sought would have disallowed serious trade imbalances. There would have been very different requirements for trade surplus and trade deficit countries, not the one size fits all policies now applied by the IMF and WTO. Specifically, Keynes proposed institutions and trading rules that would have required trade surplus countries to take down their trade barriers, while it would let trade deficit countries use export subsidies and tariff barriers for a while to bring trade into balance.
Our big surplus trading partner, China, is doing exactly the opposite of what Keynes proposed surplus countries should be required to do, thereby seriously worsening the economic situation of the United States. China has dramatically increased large export oriented subsidies, created as many sub rosa import restrictions as it can, developed import licensing, delays for imports including much red tape, and is engaged in currency manipulation to keep the price of the renminbi down relative to the dollar. It is making our trade deficit and indebtedness to China greater and China’s trade surplus and IOUs from us larger. (Could it be that some smart Chinese Keynesians have figured out how to put China at the top of the world economic heap and have the United States sink into the sea, economically, all without firing a shot?)
In a nutshell, that is the historical backdrop to our present situation.
Others agree with the notion that until we correct our trade deficits and the growing debt attending them, the recession or an ensuing depression will persist and there is nothing we can do about it. William White, a former chief economist at the Bank for International Settlements, predicts the Great Recession won’t end because the world’s governments are not addressing the trade imbalances, which caused it.
Richard Duncan agrees and, worse, predicts the United States is likely headed for a “Fall of Rome” type of scenario, which he explained in a recent interview in Hong Kong. Before I address that, we need to consider who Richard Duncan is. He is a financial analyst and economist. Previously, he worked for both the International Monetary Fund and the World Bank in Washington DC as a Financial Sector Specialist. It is moderately rare to have a good economist also be a financial sector expert.
Duncan has an excellent track record in predicting economic events. In 1993, Duncan warned of the impending collapse of the Thai economy and the Thai stock market. That was four years before it all happened. Subsequently, in 2003, he wrote a book entitled, The Dollar Crisis: Causes, Consequences, Cures in which he argued that the persistent current account deficits of the U.S. were creating an unsustainable boom in global credit that was destined to break down and crash, resulting in a worldwide recession. He was correct there, too. Next, well before it became obvious to the rest of us and it happened, Duncan also accurately predicted the course of present day Fed policy, i.e., that the Fed would be forced to make massive loans to the banks and other financial institutions to keep them afloat and not have a major depression. One result that he foresaw from that would be a massive rise in federal debt. That is now a part of the basis for his present predictions about our future.
Duncan argues U.S. budget and trade deficits will continue to pile up in the next decade, eventually reaching an unsustainable level that is likely to result in a major economic collapse. The U.S. has little chance of resolving its deteriorating financial position because trade deficits and internal debt continue to grow and the US manufacturing industry continues to shrink.
The bad news is, in the next 10 years, we're still not going to have fixed these problems, and as Keynes, White, Duncan and others argue, the recession or worse will persist. Instead of fixing our problems, we are only trying to prop up aggregate demand. For example, the federal budget deficit will total $1.6 trillion this year, while the combined budgetary shortfalls are forecast to total $9.05 trillion in the next 10 years, according to projections from the nonpartisan Congressional Budget Office. The U.S. has run a current account deficit every year since 1982 except one, with a peak of $788 billion in 2006. Foreign purchases of U.S. debt has propped up the dollar and allowed a credit-fueled spending boom by the nation's consumers, according to Duncan.
U.S. workers are now likely to face more unemployment and declining wages and that may create a political backlash against free-trade policies, he said. The nation's jobless rate jumped to a 26-year high of 9.7 percent in August. As unemployment remains at or above 10 percent well into the foreseeable future and wages slip, it won't be long before Americans start voting for protectionism, Duncan said. That's going to be bad because protectionism will mean world trade will diminish and that will reduce overall global prosperity.
Once the U.S. debt burden becomes too large and the government can no longer sell the debt it needs to sell, the Federal Reserve will likely step in and monetize the debt, resulting eventually in high levels of inflation, Duncan explained in his interview.
The real problem at that point becomes the possible confluence of many adverse economic circumstances that can create the economic perfect storm. The high levels of inflation or hyperinflation, the continuing recession or worse, depression, continuing and likely growing unemployment, with ensuing protectionism, declining wages and reduced international trade, and public discontent and unrest will all likely lead the United States to great instability and to a point of “irreparable damage” and collapse -- “a kind of Fall of Rome scenario,” as Duncan and others of us see it. This prospect is too likely. Already, people at public meetings are shouting and behaving badly.
For those who don't know or recall, the fall of Rome was accompanied by high inflation, much hoarding of money (gold and coin), a fall in the velocity of circulation of money and high trade deficits with the eastern parts of the Empire and beyond. Some argue these were the real reasons Rome fell. Invading barbarians from the north simply took advantage of the economic decline and chaos they observed and helped it along by raids and stealing gold from the Roman treasury. What ensued was the Dark Ages where warring groups roamed the land stealing from each other and much more primitive forms of living arose.
We can certainly hope our situation in the United States does not come to this, but the elements are slipping slowly into place and too few seem to be noticing, much less having us do something about them.
Against this background of progressive declining economic conditions, it is not unreasonable to expect the stock market generally to drift lower steadily on a seasonally adjusted trend line, but perhaps gain a bit of a respite if the rate of inflation rises a little, the dollar slips and exports improve somewhat. Gold and precious metals, along with their mining stocks, could be expected to trend up significantly. The Dow at its present level, inching up toward 10,000, assumes a strong and quick recovery, but it is not going to happen that way and at some point a serious correction is inevitable.
It will take time for the realization of no real economic recovery to sink in and be realized in the stock market, but that realization will be aided if unemployment remains high or grows, and bad numbers on the economy and poor earnings continue to be reported. It would not surprise me, too, if there were no substantial recovery from any October or November correction. This is not a happy situation.
The question is what can be done to prevent this prospective situation. I will try to address that and a brief intellectual history of how we got here and why so many economists and others miss understanding what is happening in future articles.
Disclosure: DXD, QID, SDS, TWM
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This article has 24 comments:
I agree but there are many other reasons we won't recover. The include many yrs of unsold homes from those not wanting to take a bath on prices to the foreclosures still to come.
And the real trade deficit problem, oil!! By late next yr imported oil deficit will go from $500B to $1T because the repubs, pro oil dems won't help fix it.
If people really want to help the US they need to buy, use high mileage cars made in the US and force car companies to build them here. Next where ever possible, buy US made items.
And we need to make China raise there currency to their correct levels or put taffifs on them. This low value hurts not only us but many other countries. Take it to the WTO if nothing else.
On the national debt front, US hedge fund advisor Hennessee Group produced a startling table of debt to GDP this year. Note that Ireland, UK, France, Germany, Netherlands, Switzerland and Iceland all have ratios significantly higher than the US. Iceland and Ireland have debt to GDP ratios 9 times that of the US. Switzerland and the UK have debt to GDP ratios 4 times that of the US.
www.hennesseegroup.com...
China's population has a savings rate of 40%. Good luck turning that into a consumption society when there are thus far no social program safety nets. In China the consumer provides for their own health care, retirement etc. Those consumers aren't about to go wild in the shops at any point in the near future, creating a sustainable domestic Chinese economy. The world's exporting countries who have relied on the US consumer are potentially at greater risk than has been discussed in the media thus far.
Our situation in the US is a mess. We have to save, cut costs and innovate like heck to produce growth. However, I look around at a lot of the rest of the developed world, and they have their own equally significant financial mess.
However, way too many people believe the fairy tale that the government will solve the mess we're in and that the stimulus packages will actually work. Or they'll just keep watching Jerry Springer and Oprah on their big screen TVs while the situation worsens day by day.
Wait till the extended unemployment compensation runs out for many jobless in the first and second quarter of 2010. That's when the **** will really hit the fan!
On Sep 29 07:08 AM bluesky123 wrote:
> I'm optimistic the US will reduce its trade deficit by transitioning
> commercial vehicles to run on US natural gas and reduce oil imports.
> Oil is one of the largest components of US imports. Some US power
> plants are also transitioning to natural gas. We will be producing
> more power domestically as alt energy ramps up. Indeed US electricity
> consumption is declining, not increasing.
>
> On the national debt front, US hedge fund advisor Hennessee Group
> produced a startling table of debt to GDP this year. Note that Ireland,
> UK, France, Germany, Netherlands, Switzerland and Iceland all have
> ratios significantly higher than the US. Iceland and Ireland have
> debt to GDP ratios 9 times that of the US. Switzerland and the UK
> have debt to GDP ratios 4 times that of the US.
>
> www.hennesseegroup.com...
>
> China's population has a savings rate of 40%. Good luck turning that
> into a consumption society when there are thus far no social program
> safety nets. In China the consumer provides for their own health
> care, retirement etc. Those consumers aren't about to go wild in
> the shops at any point in the near future, creating a sustainable
> domestic Chinese economy. The world's exporting countries who have
> relied on the US consumer are potentially at greater risk than has
> been discussed in the media thus far.
>
> Our situation in the US is a mess. We have to save, cut costs and
> innovate like heck to produce growth. However, I look around at a
> lot of the rest of the developed world, and they have their own equally
> significant financial mess.
China has used our markets to achieve its economic growth. If it can grow its internal markets, it can rely on the U.S. less and assert itself more in emerging markets without U.S. interference.
The Cash for Clunkers program morphed into "Bucks for Trucks". When you look at the final results on Edmunds.com, the consumer opted more for new F-150s and Chevy Silverados and not 50-mpg hybrids. See my article at :
carliniscomments.com/a...
(I should put this one into my Instablog)
Those that are quoting 19th and 20th century economists - wake up. This is a whole new day - AND century. Some of the rules have changed and culturally - those in China do not necessarily follow our economists and their strategies.
China is key to our economy simply because of the Golden Rule - He who has the gold, makes the rules.
While certainly not a fan of that program ( I wrote an article on it, and why I felt it was a mistake), the statement made by Mr. Carlin is at odds with reports that 3 of the top 5 vehicles sold under the program were imports. As I recall, the 2 domestics that made the list were the Ford Focus, and the Ford Escape hybrid.
People sit with their head in their hands saying there is no solution to our crisis. But there is one - a lower dollar.
Personally, I would never put everything in to anything, because I believe in reducing risk through diversification. But, in my long term portfolio, I am overweight foreign equities (especially emerging markets), precious metals, international bonds and US TIPs. This is because I expect emerging market growth, US inflation and a fall in the dollar. I am underweight other domestic bonds for the same reasons.
On Sep 29 10:12 AM Gordonimus wrote:
> As an investor, primarily in diversified Mutual Funds ( stocks and
> bonds) should I be thinking of moving in to more gold and silver
> and putting cash into Euros to protect against an impending economic
> implosion?
I'm adding Mr. Corson to my relatively short "following" list, because anyone who can explain such a frighteningly real and fairly complex situation in such a smooth flowing writing style is worth reading every time. Well done KC!
In the immediate post WW II context Keynes’s proposal might have worked well. It would have allowed each nation to take reasonable measures to protect its internal economy through tariffs, exchange controls, etc., but would have set limits on the use of such trade barriers. Thus individual countries could practice the sort of Keynesian internal programs advocated from 1936 on by Keynes but not, in doing this, imperil international freedom of trade unduly. Could the world, and particularly the US, now create this balanced system for national and international economic development to good effect?
Corporations are not the national entities that they were in 1945 and sources of supply and markets are no longer bounded by national borders. It would therefore be highly disruptive (for the US as well as others) to current production and trade patterns if the US tried unilaterally to return to a more US centric national economy circa 1945 at this time. Would it be better if the G20 collectively and at a measured pace now tried to move the world order back to Bretton Woods as Keynes would have had it (in other words reverse course from trade liberalization initiatives of the past 30+ years)?
Arguably such an initiative would offer only mixed results and would be next to impossible to achieve given current industrial, trade and other economic patterns and interests that now exist. The world is a very different place from what it was in 1945. That said, there is much that the US and other countries can each do without upsetting current free trade policies to both increase the role of the public sector intelligently and promote the service sector so that there are significant national counterbalances to the ebb and flow of the international private sector.
I agree that the next few years will not be a walk in the park but I believe that there are intelligent things that can be done to get us through without undue pain. There isn't, however, some one bold initiative that will set things right.
"China's population has a savings rate of 40%. " &
"In China the consumer provides for their own health care, retirement etc."
This is exactly what we need here. Get the government out of healthcare and retirement and our savings rate will dramatically increase.
Our government should also consider making the interest gains from CD's tax free. This would provide the savings for commercial bank lending. It's a win/win incentive.
I agree that we need to get off the oil teat - and export our own production - but we also need to import less from China, using trade barriers if necessary. Smoot and Hawley be damned, in this time and place, if we could sell to ourselves, we wouldn't need to sell to anyone else whose workers work for so much less than ours. (And the day will come when the Chinese do consume enough of their own outputs to make us superfluous as a market. Note, for example, their statement that they will be using their rare earth production domestically.)
If we put on trade barriers, a trade war is a possibility, but only a possibility. And if it results in our producing our own electronics, steel, and solar cells, it will have been worth it. Because you are right about the alternative.
www.thetruthaboutcars..../
This site explains how the government managed to screw up a simple report, and how Edmunds came up the their own numbers, which is the same way any sane person would.
I don't know the mpg's of all the vehicles, but the Jeep Patriot came in at #3, the Ford F-150 at #5, and the Chevy Silverado at #7.
On Sep 29 10:37 AM Old Trader wrote:
> "The Cash for Clunkers program morphed into "Bucks for Trucks" "
>
>
> While certainly not a fan of that program ( I wrote an article on
> it, and why I felt it was a mistake), the statement made by Mr. Carlin
> is at odds with reports that 3 of the top 5 vehicles sold under the
> program were imports. As I recall, the 2 domestics that made the
> list were the Ford Focus, and the Ford Escape hybrid.
I am amazed that GENESIS gets 2 negative votes for pointing out the truth?????
If Old Trader read MY article on comparing what the government put out (their Top 10) and what EDMUND's put out (Their Top 10 including light trucks) he would have seen that the vehicles bought were more trucks (Ford F-150s and Chevy Silverados) than 50MPG hybrids.
OLD TRADER and others - start reading more:
www.carliniscomments.c...
What does the truth hurt?? Some of you have drank too much of the KoolAid.
Would also like to hear from him about the possibility of other historical events that have occurred to lift a country out of recession/depression: wars.
PS/
from one sailor to another, fair winds and smooth sailing, Kimball.
news.yahoo.com/s/ap/20...
Better start doing some better research before you comment.