Although it is standard procedure for governments to soothe their citizenry with placebo politics in order to avoid panic and uprising, there is a line after which such a campaign is counterproductive. In fact, misleading statements about financial security are potentially dangerous to the country’s long-term economic wellbeing, and potentially toxic to investors.

Economic and financial statistics are the battleground over which the war of perception is fought. But as the saying goes: “Figures lie, and liars figure.”Politicians are masters of the selected use of statistics to lend credibility to their statements. In reality, the numbers often mask the truth.

A year ago, financial markets hovered near nominal highs, retail sales appeared to be growing and real estate prices were near historic highs. Wall Street and Washington made the most of these “over-the-top” numbers to foster a sense of economic invincibility. With the national gaze lifted towards sunny skies, few noticed the danger of the mortgage crisis, which lay below like a tiger trap.

But like watching a poorly dubbed martial arts film, the average American is beginning to notice that the dialogue does not match the on-screen action. As a result, many people are developing a deep suspicion of statistics, which over time will greatly diminish the government’s credibility. In the coming economic crisis, this loss of credibility may have severe consequences.

One vital statistic in the perception battle is gross domestic product (GDP), which is the total of all spending on goods and services within our economy, and is used as the key measure of national wealth generation and economic growth. It may be surprising to some, but GDP includes money spent on clearing up natural disasters such as hurricane relief and pollution control. How such expenditures – that really only replace what has been lost – increase national wealth, is beyond me.

Unemployment figures are another worry. Government adjustments for seasonal and population changes are acceptable. But excluding from the unemployment rolls those who are neither actively seeking jobs nor the “long-term” unemployed is not.

Perhaps, the greatest area of concern about statistical manipulation is the measurement of inflation, or Consumer Price Index (CPI). By manipulating this single statistic the government can miraculously transform rising prices into economic growth.

The Department of Labor has set so-called “core” inflation, excluding food and energy, at 2.2%. Even “headline” inflation, including food and energy, is published officially at only some 4%. The problem is that these figures bear very little relation to the reality of price increases experienced on Main Street, which some estimate to be in excess of 10%.

Statisticians assign different weights to the elements comprising the CPI that are often not reflective of the spending habits of ordinary citizens. For example, housing maintenance (including heating oil), a major expenditure, is given only a small part in the Index’s makeup. In addition, the re-pricing of items such as automobiles to allow for added “hedonistic” features such as enhanced “value for money” is wide open to varying judgments. How these statistical decisions are made is really anyone’s guess. But it is absurd to assume that the government’s overwhelming interest in reporting low inflation does not influence the final numbers.

The financial consequences for investors can be severe. For example, the Dow Jones Industrial Average Index, against which many investment returns are measured, closed at a nominal high of 14,093 on Oct. 12, 2007. The media reported it as a sign of good things to come. On May 23, 2008, the Dow closed at 12,480 – off a bit, but apparently not too bad. But if that day’s close is adjusted for the official CPI, then it’s not worth 12,480, but only 9,856 when compared with its previous market cycle high, of 11,723, in the year 2000.

Worse still, if adjusted for the more likely but still conservative inflation rate of 8%, the recent close of 12,480 becomes the equivalent of only 6,742 in the year 2000. What looks like a nominal gain of some 757 points or 6.4% is, in fact, a real loss of 4,981 points or some 42% over those eight years!

One set of statistics that is impossible to distort are currency exchange rates, which have provided a somber report card on America’s economic fortunes. Not able to manipulate these numbers, the authorities instead distort their meaning, and have attempted to convince Americans that a weak dollar is in the national interest.

Those wise enough to ignore the spin, and see the falling dollar for what it is, namely a loss of wealth, have invested in good companies listed on the stock exchanges of producer nations, such as Australia, Canada and Switzerland – all countries with appreciating currencies. Such moves have greatly enhanced wealth and protected those investors against further dollar erosion.
[Editor’s Note: John Browne is the senior market advisor for Euro Pacific Capital Inc. For a more-detailed analysis of the nation’s financial problems, and the inherent dangers that these problems pose for both the U.S. economy and for dollar-denominated investments, click here to download Euro Pacific’s new financial-research report, “The Collapsing Dollar: The Powerful Case for Investing in Foreign Securities.” The report is free of charge. Peter D. Schiff, Euro Pacific’s president and chief global strategist, is a regular contributor to Money Morning, and most recently wrote about the oil crisis and China’s growing consumer class in his most recent Money Morning column.]

Source: The Statistical Battleground

GE is one of the best-diversified and well managed companies on earth, and is seen as a barometer of both the U.S. and the world economies. Its latest earnings report was affected by the expected fall in financial services and a continued strength in overseas earnings. But it also showed a largely unexpected fall in the sales of U.S. medical devises as public and not-for-profit hospitals, suffering massive increases in their borrowing costs, cut back on spending.

The fall in GE’s earnings suggests that recession in America is taking hold across a wider spectrum and is not restricted to sub-prime real estate. As this idea reality finally began to dawn on Wall Street, the Dow Jones Industrials and other broad market indices lost some 2 percent on the day.

As investors lick their wounds, they should also realize that nominal losses in U.S. stocks are really just half the story. So far this year, the American dollar has lost some 7 percent against the Euro and some 10 percent against the Japanese Yen. As more GE-like earnings reports loom on the horizon, and as the dollar continues to slip, holding even blue chip American stocks will remain a risky proposition.

False rally

Not long ago, before the sub-prime debacle (of which Peter Schiff and I had warned of repeatedly) really began to take its toll, the majority of economists foresaw little widespread difficulties in the American economy. However, when Bear Stearns became completely unraveled almost overnight, most of these formerly optimistic observers now belatedly recognized real problems. Their fears have been largely assuaged by the magnitude of the Government’s response.

Using methods that the legendary former Fed Chairman, Paul Volcker, said, “stretched the very limits of its legal powers,” the Fed dramatically rescued Bear Stearns on March 17th. Such was the sanguine sense of relief that investors felt our national economic problem had been largely cured, at a single stroke, by the Fed.

In the four weeks since March 17th, stock markets appeared to rally, on the back of what can best be described as the ‘euphoria of blindness’ to the realty of the systemic economic problem we face in the ‘real’ world.

Credit contamination

Renowned Yale Professor Robert Shiller has shown that from 1995 to 2006 the value of U.S. real estate rose some 30 percent above its century-long value line. Today, the U.S. residential housing stock is valued at some $20.145 trillion, of which more than half is debt! Admittedly, not all this debt is sub-prime. But the sub-prime problem is, as we have long forecast, spreading both upwards and across the real estate field and the credit markets.

As the average consumers’ single most important asset is their homes, the fall in house values is now adversely affecting American consumer confidence. This bodes ill for both the American and the world economy, in general.

The Fed Chairmen, Ben Bernanke, now has an historic opportunity staring him in the face. Should he continue to back the government in disguising the natural economic recession, by debasing the U.S. dollar and so continue to rob every single American citizen of his or her hard-earned wealth? Or should he, at long last, stand up for American citizens and their money by using his ‘independence’ to force our government to adopt sound economic and financial policies?

Cosmetic patches versus radical cures

Recent pronouncements indicate that he has decided to ignore his legal ‘independence’, and instead submit to political pressures and allow the government to silently tax current and future citizens in order to bail out financial and real property. Characteristically, Wall Street appears to applaud the decision, accepting both more inflation and further debasement of our dollar to save themselves, for a time, at least.

The Fed balance sheet amounts to some $800 billion. This sounds like a lot of money and it is. But it is dwarfed by the county’s debt exposure, which includes not just the $10 trillion of residential property debt, but also trillions more in commercial property, auto loans, and credit cards and increasingly vulnerable business loans!

The key question is: Does the government have enough money to finance a bailout of several trillion dollars? The answer, of course, is no. But, although national savings are at an all time low, both the American taxpayer and many ordinary citizens still have some net worth that can be both taxed and eroded by inflation and currency debasement!

Recent pronouncements to extend the regulatory powers (read: funding ability) of the Fed to the really big gamblers, namely investment banks, derivative traders, insurance companies and even to hedge funds (the speculative vehicles of the super rich) and the increasing political talk of ‘help’, indicate that both the government and Congress are now set on a path of higher taxation, inflation and dollar erosion.

For alert Americans, investment attitudes must undergo a sea change. Instead of thinking in terms of return ‘on’ capital, investors will be well advised to think about return ‘of’ capital! Greed should give way to extreme prudence.

It is becoming increasingly clear that any investors, who wish to protect their wealth, should invest in non-dollar denominated financial assets and, where possible, hold them (legally, including paying tax) offshore, in order to avoid any risk of the future imposition of American exchange controls.

As the old song goes, ‘the times, they are a changing’. Soon unfortunately, that refrain will bring smiles only to those who have taken wise protective action with their investments.

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For a more in depth analysis of our financial problems and the inherent dangers they pose for the U.S. economy and U.S. dollar denominated investments, read my new book “Crash Proof: How to Profit from the Coming Economic Collapse.” Click here to order a copy today.

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The extension of the ‘supervisory’ powers of the Fed to non-bank (deposit) financial houses like stock brokers), derivative dealers, insurance companies, and even to the private, high-risk investment companies of the rich, like hedge funds, is dramatic to say the least. But when it is realized that, in return for supervision, the Fed will stand behind those industries as a lender of last resort, the true revolutionary magnitude of today’s proposal becomes manifest.

Power grab

The new initiative was described persuasively as an attempt to ‘modernize’ our national financial monitoring systems and bring them in line to cope with the free-wheeling cowboy dealings that financed some $26 billion of bonuses paid to Wall Street firms alone in 2007! It all sounded so patriotically ‘good’ and deserving of massive popular support.

The truth is staggeringly different… so different that it commands a certain admiration for how the political/financial ‘pro’ Paulson was able to keep a straight face!

Reason to worry

The truth should alarm every hardworking American taxpayer who supports the improvement of our country and the handing of a working economy on to our descendants.

Treasury Secretary Hank Paulson and Fed Chairman Ben Bernanke, more than any two people on earth, were too well aware that two weeks ago, we faced a systemic collapse of our financial system that risked spreading to much of the developed world in short order.

Further, they knew that their emergency action to salvage Bear Stearns and other troubled brokerage houses would only postpone disaster, not prevent it. What was needed, to stand a chance of long-term survival, was a lender of last resort with massive resources.

When Hank Paulson soothingly mentioned “deleveraging”, he knew more than most that it meant some $12 trillion in the residential real estate market alone, excluding the excessive debt in the commercial real estate, auto loan and credit card markets!

Tax-payer insurance for Wall Street

The ‘real’ problem is far, far larger than the $800 billion balance sheet of the Fed can absorb! This fact alone should provide a salutary shock to investors who still hold U.S. dollar assets. It certainly did for our Treasury and Fed.

The Treasury and Fed realize that, over the past decade, they have pumped in so much money that has, in turn, become excessively leveraged, by banks and derivatives, that the government no longer has the funds available to avert a systemic financial disaster. That sort of mega-money could only be ‘captured’ directly from American citizens.

Behind Paulson’s responsible and pro-active sounding modernization plan is the most cynical plan to rob American citizens further, by making their government, through the Fed, the lender of last resort for Wall Street’s Billionaire speculators.

In the last resort, the Fed is financed by the Treasury, which, in turn, is financed by borrowing, taxing many Americans and robbing every single American through the debasement of their hard-earned dollars. Instead of allowing the free market to punish speculators, Paulson is now asking Congress to force the American citizen to stand as a lender of last resort, via the Fed, for the speculators on Wall Street, insurance companies, derivatives and, most amazingly, the most speculative of all rich investors – hedge funds!

The cynical arrogance of this ‘civic robbery’ is hard to accept.

The worst is yet to come

Make no mistake, the coming economic storm will be painful for us all. As if to rub salt into the wound, the hard-pressed citizen is now to be forced into bailing out Wall Street with injections not of billions, but of trillions in dollar liquidity.

To make it more politically acceptable, the Government must focus peoples’ attention on an attractive use of funds. Green, alternative energy would fit the bill handsomely. Indeed the President has already announced a massive increase in nuclear power generation as a first step.

Soon we should expect to see massive (trillions of dollars) government programs announced and the funding farmed out via the ‘needy’ on Wall Street.

In the meantime, direct financial aid will be administered via the Fed as lender of last resort.

In addition, we should expect accounting rules to be changed to allow the reality of ‘marking to market’ to be eradicated, allowing technically insolvent financial institutions to continue their vastly profitable operations.

The economic drag effect of the increased regulation is yet to be seen. But it is likely to prove insignificant when compared to the great latent damage done to the basic productive economy of America by hyperinflation.

What does all this add up to for the investor?

First, expect a continued erosion of the U.S. dollar as interest rates are lowered further to avert depression and as inflation subsequently morphs into hyperinflation.

Eventually, we should expect massive growth in the dollar earnings of green alternative energy companies as the confiscated largesse of the American citizen is pushed into that sector of the economy.

It remains to be seen whether Congress will authorize the required massive level of trillions of dollars in funding soon enough to avoid the present recession morphing into a depression.

Whatever the result, it is increasingly clear that the government intends to leave it for future generations to pay the ‘real’ bill for the reckless conduct of Wall Street and our Fed over the past decade.

In the meantime, investors keen to preserve their wealth should look abroad to the productive corporations and currencies of economies that continue to produce more than they consume