Something is Missing...

The Dow-Jones Stock Index dropped almost 400 points today. European stocks also dropped substantially…the FTSE 100 dropped by over 4 and one-half percent. 

European sovereign debt continues to grab headlines a the interest spreads on ten year bonds of troubled countries versus the yield on ten year German bonds remained near peaks. 

Today, the Economic Union moved to speed up the recapitalization of banks that did not show well in the recent stress tests administered to more than 90 banks.  “The move would affect mostly mid-tier banks. Seven are Spanish, two are from Germany, Greece and Portugal, and one each from Italy, Cyprus and Slovenia.” (http://www.ft.com/intl/cms/s/0/49d6240e-e527-11e0-bdb8-00144feabdc0.html#axzz1Yj4RAJ9F)  But, there is little confidence that this move will resolve things because the stress tests were such a joke!

Moody’s downgraded Bank of America, Wells Fargo, and Citigroup…and a couple of days ago a few European banks…that passed the stress tests. 

And, the top officials in the European Union continue to argue over this issue and they continue to argue over that issue and resolve little…but still hope to kick the can down the street a little further.  No one seems to be facing the real issues because their solutions appear to be so painful.   

In the United States, Ben Bernanke and the Federal Reserve attempt to grasp another straw in the wind as they continue to throw “stuff” against the wall, hoping that some of it sticks.  For three years now the Fed has thrown “stuff” against the wall but it must be too wet…for very little is sticking to the wall.  The Fed’s current monetary policy is to make sure that they throw all the “stuff” they have against the wall so that no one writing future history books can accuse them of not leaving any unused “stuff’ in the …

And, President Obama has come up with his new economic re-election platform disguised in the form of a jobs program, which includes new proposals to finance the program with various tax increases.  Since this combination is a part of the re-election campaign it must contain a little of this and a little of that to appeal to different parts of his voter base.  The problem with something like this is that it just makes the tax code more complex and provides incentives for the more heavily taxed…in the words of George Shultz, the former Secretary of the Treasury, ”the wealthy and General Electric”...to find ways to avoid bearing the burden of the tax. (See my post from Tuesday, September 20, “The Case Against the Obama Taxes”, http://maseportfolio.blogspot.com/.)   

Something is missing!

My answer has been and continues to be, that the something that is missing is leadership!

The problem is that there are no easy answers…no painless answers. 

People in Europe and the United States have been living high for fifty years.  The goals of high levels of employment and income re-distribution through the spread of home ownership have produced their consequences…excessive amounts of debt in households, businesses, national, state, and local governments. 

The economic policy of almost consistent application of credit inflation for the past fifty years has produced, in the United States, an 85 percent reduction in the purchasing power of the dollar, an under-employment rate of at least 20 percent, and the widest skewing of the income/wealth distribution in recent history.  If this is what credit inflation achieves…I don’t want it. 

Continuing to apply the policies of the past fifty years to the current situation will only exacerbate things.  We are facing an extended period of economic stagnation, at best, and a double-dip recession, at the worst.  Little or no growth in this situation will be accompanied with continued increases in the under-employment rate.  And, of course, continuing with all this stimulation with little of no economic growth will result in even more decline in the purchasing power of the dollar.

And,  as a consequence of the uncertainty related to the attempt to solve these problems, volatility continues to plague the financial markets.  Experts predict that the volatility of these markets will not subside until things settle down on the policy side and some true leadership is shown amongst our governmental officials and regulators.  That is, the volatility will continue until someone steps up to the plate and initiates a real solution to the existing situation.

The problem is that the main job of politicians is to get re-elected.  It is very clear to most politicians that resolving the debt-situation is going to be painful and many are already hearing the discontent of their constituents.  Riots in the streets of Greece and Spain are just a small indication of the disruptions that the politicians fear.  But, there is the fear that if they do too much they will not get re-elected.  The are caught in the trap of having to do something…but not too much.   

The financial markets…the economy…are getting no clear vision of what the future may look like.  They don’t know what their taxes are going to be.  They don’t know what the rate of inflation will be. 

All the financial markets…and the economy…can do is go up…and go down…

Something is missing and the problem with this is that no one in the financial markets…or the economy…can identify where the leadership is going to come from. 

Can you?

Struggling With A Great Contraction

Martin Wolf of the Financial Times recently returned from vacation.   It is interesting to see where this “top” economic commentator stands after taking off from his weekly writing for a full month. 

His view on his return: The major economies of the world are “Struggling with a great contraction.” (http://www.ft.com/intl/cms/s/0/079ff1c6-d2f0-11e0-9aae-00144feab49a.html#axzz1Wbu6HxQ0) His concern is not with the possibility of a “double dip” recession, but with something more sustained.  He asks, “How much deeper and longer this recession or ‘contraction’ might become.  The point is that, by the second quarter of 2011, none of the six largest high-income economies had surpassed output levels reached before the crisis hit, in 2008.”  Hence, the great contraction.

The turmoil in financial markets that was seen in August, he contends, tells us, first, that “the debt-encumbered economies of the high income-countries remain extremely fragile”; second, “investors have next to no confidence in the ability of policymakers to resolve the difficulties”; and third, “in a time of high anxiety, investors prefer what are seen as the least risky assets, namely, the bonds of the most highly-rated governments, regardless of their defects, together with gold.”

A pretty succinct summary…what?

There is too much debt around which means that all the efforts that governments are making to get the economy moving again face the up-hill battle of over-coming the efforts people, businesses, and local and regional governments are making to reduce their debts. (http://seekingalpha.com/article/285172-when-debt-loads-become-too-large)

While national governments deal with their own excessive debt loads and deficits, their central banks have responded with undifferentiated policies to flood banks and financial markets with sufficient liquidity in order to provide time for banks, consumers, businesses, and local and regional governments to “work out” their positions as smoothly as possible. (http://seekingalpha.com/article/290416-quantitative-easing-theory-need-not-apply)

The hope seems to be that “time will heal all things.”

Whereas there is too much deb around, there is too little leadership.  I will quote Wolf on this: “In neither the US nor the eurozone, does the politician supposedly in charge—Barack Obama, the US president, and Angela Merkel, Germany’s chancellor—appear to be much more than a bystander of unfolding events.” (http://seekingalpha.com/article/285658-if-the-economy-is-a-football-game-we-need-new-strategies)

If there are no leaders, then policy decisions tend to be postponed as long possible, and then, when a result is finally forthcoming, the outcome is more like a camel, something that appears to be an inconsistent piecing together of incompatible parts.

And, this is supposed to produce confidence?  To quote Mr. Wolf again: “Those who fear deflation buy bonds; those that fear inflation buy gold; those who cannot decide buy both.” 

The point being that it is not a time to commit to the future, to invest in real assets or investments.  Hence, the economies of the “high-income” nations stagnate, unemployment remains excessive, and public confidence continues to be depressed.   

Such a general condition argues for a continuance of the economic malaise and not a more robust recovery any time soon.  Hence, the great contraction.

Mr. Wolf still has hope: “Yet all is not lost.  In particular the US and German governments retain substantial fiscal room for manoeuvre…the central banks have not used up their ammunition.”  

But, this hope is based on the existence that leadership in these governments will arise.  Policy makers will come to their senses: “The key, surely, is not to approach a situation as dangerous as this one within the boundaries of conventional thinking.”  

Therein lies the problem.  Mr. Wolf is looking for the hero to ride in on her/his white stallion and provide the leadership necessary to clean up the mess and get things going forward on the right path. 

He has just argued, however, that that leadership does not seem to exist.  So, where is the leadership going to come from?

With all the debt loads outstanding, just how much can be done to overcome the drag on the spending and the economy coming from the efforts of many to de-leverage. 

The Federal Reserve and the European Central Bank have flooded the world with liquidity.  Their effort here is to give banks, consumers, businesses, and governments time to work out their bad debts.  This also provides time for banks and others to fail, consolidate, and/or raise capital without causing major disruptions to the whole financial system. Banks in the United States continue to fail, banks in the US and Europe continue to consolidate, and banks in the US and Europe continue to raise capital. 

Since debt seems to be the major problem here, the only other major suggestion that has been made that could relieve the credit crisis is to relieve debtors of some of their debt burden.  This would mean that some parts of the debt would need to be written off.  Whereas many have suggested such a program, the difficulty of creating such a problem is in the details and no one seems to have come up with any acceptable details of such a program.  Some have suggested that inventing such a workable and just program of debt reduction is nearly impossible.

So, we are back to square one…there are no “good” options.  And, when there are no “good” options, potential leaders tend to disappear into the woodwork.  It is easy to “lead” when you can create credit without end and encourage everyone to own a house and attempt to guarantee people jobs for their lifetime.  But, real leaders are the ones that can stand up and lead when there are no good options.

It is just that few want to be “out front” when none of the options are nice and comfortable.