Saturday, December 27, 2008

Japanese America

The big talk around the news media is the comparison of the current actions of the American leaders/policy makers with the Japanese decisions of the early 1990's.

Back in the late 80's, Japan was entering the final stages of a massive bubble in both their real estate and stock markets. The bubble burst in 1990, and it has been widely reported that the actions the government took led to what has been called, "The Lost Decade." The government did not allow their banks to fail and the bad debts exit off the banks balance sheets. (Sound familiar)

This lead to a period of deflation in Japan, and is one of the primary reasons many economists believe we are now entering a period of deflation in America. However, a brief look back at history paints a very different picture between the two nations.

The Japanese public during the late 80's saved their money at an incredible rate, just like many Asian countries do to this day. The country itself was a very wealthy nation, running a huge trade surplus every year leading to an enormous amount of excess savings within their borders. The government's poor decisions at the time were very costly, however, they were paid with the countries OWN savings. Essentially, they could afford to make the mistake.

Compare that with our America today. We are the world's largest debtor nation. We run a huge trade deficit every month. Our public has no savings and is deeply in debt. We are making the same policy errors of the Japanese with one major difference. We are broke. Bankrupt. The money to pay for these mistakes is coming from an ever increasing amount of debt and printed dollars. The latter of the two is the difference between the previous Japanese deflation, and the coming American hyperinflation.

The Japanese mistakes led to a major slowdown in the economy that they are still recovering from today. Our mistakes are going to lead to the disintegration of our economy that we may never recover from.

Think of it this way. There are two businesses being run right now that sell paper:

1. The first business was inherited by a young man at the age of 23. The father built a strong business with a large cash position in reserve and every month ran at a tremendous profit. However, the young man who is new into the business world made some terrible decisions and squandered all the cash reserves the company had available. The company still runs every month at a profit, however, it is now in some debt and is still trying to recover from the early learning years.

2. The second company was also started by a young man 23 years of age. Instead of inheriting a company, he borrowed $10 million dollars from private investors to get it started. Instead of taking in a profit every month, he runs at a huge loss. In order to keep the company going every month he must continue to find new investors to borrow from to cover his losses and keep the doors open. What would happen if he now made a tremendous business error? Would he be able to recover?

The second example may sound familiar due to the recent Bernie Madoff catastrophe. It is called a Ponzi Scheme, and it is the blueprint for the American economy.

Wednesday, December 24, 2008

A Christmas Carol

I spent the past weekend down in Florida for my Uncle's Funeral. The trip started in Fort Myers and ended up in Orlando. My family and I stayed at a hotel right outside of Universal Studios, and after the services on Sunday my father and I sat down together for a drink at the bar. We got some alone time together because there was not a single other person in the entire restaurant.

The bartender told us he had been working there for 20 years and he had never seen things as slow as they've been this fall. We noticed as well. My mother and I went to the mall the next evening, and it felt like a scene from Will Smith's movie, "I Am Legend." There was no one there, no one.

We did see a few people come and go in the hotel during our stay, but surprisingly none of them spoke English. I asked the lady working at the front desk and she told me that was what was missing this year; Americans.

How did it come to this?

During the 1970's we were dealing with the previous monetary expansion and excess of the past 20 years. Our Fed chairman Paul Volcker decided to take a stand and purge the system of its excess. He raised interest rates to 18% while being spit on by every politician and member of the media. This put the economy into a severe recession in the early 1980's, conquering inflation, and putting most of the unprofitable businesses into bankruptcy. The economy recovered as it always does, stronger, with fresh management and capital ready to invest in the deals that were found at the time.

Mr. Volcker left his chairmanship in 1987 to Mr. Alan Greenspan, or the Maestro, as he was known best during his tenure. Mr. Greenspan did not believe in recessions, fighting inflation, or even slowing the economy down. As historians look back on the fall of our great country, he will be sitting at the top of the mountain as the man who was most responsible for engineering its collapse.

At every hint of a downturn during his tenure, Greenspan slashed interest rates violently and poured money into the economy. The money supply exploded during the 1990's, hidden from view by many in the stock market bubble that ensued. As that bubble popped in the year 2000, Greenspan slashed interest rates down to a ridiculous 1%, kept them there for years, and once again poured money into the system.

The inflation found a new place to hide; the homes of Americans across the country. His reckless monetary policy blew up the greatest asset bubble known to mankind, and its explosion has been deafening.

So we have now begun our visits by the ghosts of Alan Greenspan that he has left with us to deal with his mistakes. The first appeared in the summer of 2007:

1. The Financial Crisis (The Ghost of Greenspan Past)

This began back in August of 2007, and is ongoing today. It is obvious to anyone paying attention that every major investment bank in the country would no longer exist at this moment without support from our government. Bear Stearns, Merrill Lynch, Lehman Brothers, J.P. Morgan, Bank of America, Wachovia, Washington Mutual, and Goldman Sacs would be bankrupt. These failures would have led us to the second storm, which we are currently entering:

2. The Economic Crisis (The Ghost of Greenspan Present)

As mentioned before, our economy is a house of cards. We borrow money from foreign countries (or print it), and spend that money on consumer goods such as televisions, vacations, houses, cars, and furniture. We produce nothing of value to the rest of the world, which is why we have a $60 Billion trade deficit every month in spite of having a weak currency. As our spending is contracting, the house of cards is crumbling.

In a normal environment these two crisis would lead to interest rates rising, tax cuts focused toward business and production growth, increased savings and paying off debts, government spending cuts and balancing the budget, and a focus toward rebuilding the manufacturing base in our country.

That is what our country needed beginning in August of 2007 as the financial crisis began. It needed real leadership. We have done the absolute, exact opposite of what was needed, and due to the mistakes made over the previous 16 months we now have another storm approaching:

3. A Currency Crisis (The Ghost of Bernanke Future)

This is the absolute worst case scenario. I don't know if this will begin this year, or if it will start in 2010, but once it starts there will be nothing the Federal Reserve or our government can do to stop it.

I began talking about the effects of the financial crisis during the fall of 2007 on the Daily Tuna discussion boards. I talked about the effect of subprime mortgages, the CDO's, the bank failures, and the carnage that was coming. However, as it unfolded over the past few months, even I was shocked at the speed it took place. Everything that happened between September and November, I expected to take place all throughout 2009.

Why did it happen so quickly? Because investors can move money now at such an incredible pace. Once the dollar begins its final free fall, it is going to be an absolute blood bath, and I don't thing it is going to take longer than a few weeks. The Fed will panic, Washington will panic, but they will be helpless. Unlike the financial crisis and economic crisis, there will be no amount of dollars the Fed can print to revive the currency, and if they try to fix the problem it will be like dumping gasoline on the fire.

Merry Christmas to everyone. I hope that my family and friends can open their eyes and see that the world that we live in is changing very quickly around us. You still have time to protect yourself, but that window can close at any moment.