When the U.S. Commerce Department on Friday said the U.S. economy contracted at a 1% annual pace in the second quarter, the report was actually seen as good news: It was a slower decline than in each of the two prior quarters, and economists had expected a contraction of 1.5%.

“This is good news,” Nariman Behravesh, an economist with IHS Global Insight Inc. (NYSE: IHS), told The San Francisco Chronicle.

But here’s the wild card: Although government spending did increase during the April-to-June quarter, only about 7.7% – $60.4 billion – of U.S. President Barack Obama’s stimulus package had actually made its way into the U.S. economy by June 30, the quarter’s official conclusion. Of that total, the largest component went to U.S. states to help defray the jump in Medicaid costs, CNNMoney.com reported.

Much of the $43 billion in stimulus tax relief – including the “Making Work Pay” tax credit for individual workers – also took effect during the second quarter, CNNMoney said.

At this point, it’s really difficult to “see how the effect of stimulus has been very large,” Edward Lazear, an economics professor at Stanford’s Graduate School of Business – who served as an advisor to former U.S. President George W. Bush – told CNN. “Very little has gone out.”
And that’s the problem.

In short, it looks like we’re already experiencing an economic rebound – without the Obama stimulus having really even kicked in … yet. In fact, the impatience over the continued U.S. malaise, the slowness of the economic turnaround and the fact that when growth does return we’re almost assured of a “jobless recovery” actually has some Washington legislators already pushing for a second stimulus.

That means the economy will be in rebound mode when nearly three-quarters of a trillion dollars in stimulus money starts to flow in. Dumping all that money into an already-growing economy won’t just serve as a simple tailwind that gives the economy a gentle push; it will be more like the head-snapping start followed by the thunderous charge down the quarter mile that we see from one of the supercharged Top Fuel Funny Cars driven by National Hot Rod Association (NHRA) star John Force. (From a standing start, Top Fuel Funny Cars cover a quarter mile in less than five seconds at speeds well in excess of 325 miles per hour).

And there’s only one outcome from that scenario – rampant inflation. In fact, U.S. consumers are probably headed for the worst bout of inflationsince the 1980s. And that makes the so-called “exit strategy” of U.S. Federal Reserve Chairman Ben S. Bernanke all the more important.
To be sure, the Obama stimulus has given the economy a bit of a boost. So far:

• The states have deployed what stimulus money they have received, which helped fuel the biggest surge in state and local spending since 2007.
• Some early pieces of the stimulus – such as the $25 increase in unemployment benefits – have allowed consumers to spend more.
• And one economist – Economic Policy Institute’s Josh Bivens – said Obama stimulus money may have boosted growth by as much as three percentage points during the second quarter.

But other economists say that – given the environment – the second-quarter GDP numbers were much too strong. After all, business spending dropped 8.9% and hours worked fell 7%. Somehow that doesn’t translate into a mere 1% drop in GDP. That latter figure will most certainly be revised downward in the future.

Unless or until that happens, look for the third quarter GDP statistics to give us a better picture of the U.S. economy’s health. Complaints that the promised stimulus money isn’t getting where it needs to be have Obama’s economic team working overtime to iron out the problems that keep cropping up.

Mark Thoma, an economics professor at the University of Oregon, toldCNNMoney that “the third quarter will be a critical time period for assessing the stimulus package.”

And for assessing the inflation threat – which Money Morning has repeatedly warned is a very real threat. Gold, commodities, and other hard assets will be key holdings. The same is true for dividend-paying stocks. And make sure to go global – the best growth prospects will continue to be overseas.

Market Matters

A report by the New York Attorney General’s Office claims the initial nine institutions that received Troubled Asset Relief Program (TARP) money paid out $33 billion in bonuses in 2008.  Of particular note, Citigroup Inc. (NYSE: C) and Bank of America (NYSE: BAC) rewarded a combined 900 employees (combined) with bonuses of at least $1 million, despite having received $45 billion each in government aid (and that doesn’t count the $3.6 billion Merrill Lynch & Co. Inc. employees received).  Imagine how much they would have made if the companies were actually doing well?

While President Obama continued his road trip across America to promote health care reform, a group of conservative Democrats (Blue Dogs) came up with their version of a bill, but offered no timetable for completion.

Meanwhile, regulators pushed forward with proposed rules aimed at reducing speculation in the marketplace and focused on so-called “naked” short selling and on lpacing strict limits on commodities contracts.

In corporate news, deals were the theme of the week.  Microsoft Corp. (Nasdaq: MSFT) made amends with Yahoo! Inc. (Nasdaq: YHOO) and forged a 10-year partnership to cut into Google Inc.’s (Nasdaq:GOOG) share of the Internet search business. And International Business Machines Inc. (NYSE: IBM) is expanding its software empire with the purchase of SPSS Inc. (Nasdaq: SPSS) for $1.2 billion.

On the earnings front, energy companies highlighted the week’s reports and the results were not pretty (though were expected).  On a positive note, Motorola Inc. (NYSE: MOT) surprised analysts by reporting an unexpected profit, while offering a promising outlook, and Deutsche Bank AG (NYSE: DB) continued the favorable trend among (previously depressed) financials by posting strong earnings on solid investment banking operations.

Investors digested the mixed earnings news and chose to focus more on the positives.  Despite a temporary setback in China (5% index decline before encouraging comments by its central bank), the Dow Jones Industrial Average moved higher late in the week after General Electric Co. (NYSE: GE) was upgraded to a “Buy” by a major analyst, a sign of an improving climate.  The Nasdaq Composite Index even flirted with 2,000 for the first time since October 2008, and theStandard & Poor’s 500 Index edged closer to 1,000, a level not seen since last November.

The Dow ended July with its best monthly performance since October 2002.  Japanese stocks moved to their highest levels in about 10 months and European equities soared to nine-month highs.  Bond investors breathed sighs of relief as a record $115 billion Treasury auctions came to a close and foreign bankers emerged as buyers on the final day.

Economically Speaking

Has Fed Chairman Bernanke suddenly become Mr. Optimist these days? Early in the week, he proclaimed that the financial debacle ultimately would produce favorable results as “not only will we will be back on track, but the economy will be stronger than it had been before this started.”  He also urged Congress to move forward with a regulatory reform package to ensure that such dire times will not be repeated.

The Fed’s Beige Book showed that the economy remained weak, though signs of stabilization and improvements in manufacturing, housing, and even labor are occurring across several regions of the country.  Some districts reported enhanced corporate hiring, particularly within the healthcare and technology sectors.

The afore-mentioned second-quarter GDP report was better than expected, giving yet another indication that the recession is drawing closer to an end.

Still, it’s a much deeper recession than most realized: For the first time since records have been kept (1947), economic activity has declined for four consecutive quarters.  New homes sales skyrocketed in June by 11%, the fourth increase in the last six months, and home prices even climbed on a month-over-month basis for the first time since July 2006 according to the S&P Case-Shiller index.

Durable good orders fell in June, though once the volatile transportation category was removed from the statistic, orders actually increased.  Consumer confidence fell in June, as ongoing pressures on the labor markets brought continued concerns and many Americans are refraining from major purchases (now and for the foreseeable future).

On the other hand, jobless claims rose in the most recent week, though analysts pointed to discrepancies from the auto industry.   Looking at the four-week moving average as a better gauge, claims for unemployment benefits actually fell to the lowest level since January and continuous claims unexpectedly declined, as well.

Weekly Economic Calendar

Source: Why the Obama Stimulus Has Us on a Collision Course with Inflation

“In the period, 2001 -2007,” our old friend Marc Faber reminded us yesterday, “the Fed managed to do something that had never before been done – create a worldwide bubble in just about everything. Stocks, bonds, art, oil, housing — you name it; it went up. The only thing that didn’t go up was the dollar.”

How did the Fed pull off such a remarkable achievement?

Stimulus!

After a half a century of stimulus – with credit, inflation and the money supply growing faster and faster– the Fed put the pedal to the metal following the nano-recession of 2001. It dropped interest rates to just 1% — well below the rate of consumer price inflation – and kept them there until an expansion had been going on for three years.

Stimulus stimulates. By 2007, the world economy was taking curves far too fast. As we guessed, the stimulus didn’t stimulate nearly as well as the meddlers had hoped. Instead of increasing real output in the US, it lured Americans to spend and speculate… and drove Chinese entrepreneurs to put up new factories in order to give them something to buy.

In America, debt grew 5 times faster than GDP; for each dollar of extra income, Americans added $5.50 to their debt. In China, manufacturing capacity grew faster than ever. Whole industrial cities, the size of New York or Chicago, were added to the map – in a matter of just a few months.

Now the world has too many factories… and too many consumers with no money to consume with.

You’ve heard us tell this tale many times. You’d probably like us to get on with it… and tell you how it turns out. Instead, we keep looking back.

“Bubbles had been localized in the past,” Marc explained. “A bubble in one area drew investment from another area. In one market, prices soared. In another they slumped. Overall, things didn’t change much.”

But a worldwide bubble in everything is something new. And it caused something else that is new – a worldwide crash. We have been ducking explosions and stepping over the debris for the last two years.

One of the biggest and most obvious consequences is unemployment. Even Ben Bernanke says that joblessness could be a problem for years. What to do about it? More stimulus!

“The (Fed) believes that a highly accommodative stance of monetary policy will be appropriate for an extended period,” he said on Tuesday.

Will this new stimulus succeed? Will the depression end soon?

‘No’ is the right answer. Instead, it must run its course. It must eliminate plus capacity and reduce excess debt. Until that is done, the job picture will get worse, not better.

Just look at what is happening in state and local governments. The LA Times:

“If the budget deal crafted by Governor Schwarzenegger and top legislative leaders is passed by the legislature and survives the inevitable court challenges, California will undergo perhaps the biggest down scaling of government in its history.”

Downscaling government means fewer state-level jobs. Fewer people drawing salaries from the government means more people looking for work elsewhere. But they will not find it in the blown-up industries and zombie companies of 2009. They will have to wait… and wait… and wait…

More thoughts…

*** In the race to downscale, California faces swift competition. All over America… and in much of the English-speaking world… governments are forced to cut back.

Just look at what is happening in Ireland. Here, we turn to the Telegraph in London:

“Events have already forced Premier Brian Cowen to carry out the harshest assault yet seen on the public services of a modern Western state. He has passed two emergency budgets to stop the deficit soaring to 15pc of GDP. They have not been enough. The expert An Bord Snip report said last week that Dublin must cut deeper, or risk a disastrous debt compound trap.

“A further 17,000 state jobs must go (equal to 1.25m in the US), though unemployment is already 12pc and heading for 16pc next year.

“Education must be cut 8pc. Scores of rural schools must close, and 6,900 teachers must go. “The attacks outlined in this report would represent an education disaster and light a short fuse on a social timebomb”, said the Teachers Union of Ireland.

“Nobody is spared. Social welfare payments must be cut 5pc, child benefit by 20pc. The Garda (police), already smarting from a 7pc pay cut, may have to buy their own uniforms. Hospital visits could cost £107 a day, etc, etc.

“No doubt Ireland has been the victim of a savagely tight monetary policy – given its specific needs. But the deeper truth is that Britain, Spain, France, Germany, Italy, the US, and Japan are in varying states of fiscal ruin, and those tipping into demographic decline (unlike young Ireland) have an underlying cancer that is even more deadly. The West cannot support its gold-plated state structures from an aging workforce and depleted tax base. “

Source: The U.S. Depression Must Run Its Course

If you are a closed-end investor, try a tax-free fund like Nuveen Insured Municipal Opportunity Fund (NYSE:NIO), trading at a 10% discount to its net asset value and yielding over 6% paid monthly.

Or, to avoid annual expenses and have the certainty of a final value on a particular date, buy individual tax-free bonds.

But whatever you do, buy them now. Let me count the reasons why you should…

Three Reasons Why Municipal Bonds Make A Good Investment Now

1. Ten-year municipal bonds, while down from the historic premium they reached a few months ago, are yielding as much as 10-year Treasuries. But while Treasuries are taxable, munis are not.
2. Most municipal bonds are safe. Yes, a few areas – particularly in California and Alabama – are troubled. But the historical default rate on municipal bonds is just 0.3%.
3. Taxes will soon be going higher. A lot higher.

Yes, I know that when President Obama was Candidate Obama, he promised a tax cut for 95% of Americans. But that was then.

The Fallout From The Government’s Massive Spending Spree

Since that time, we’ve seen the federal government…

• Ride to the rescue of General Motors and Chrysler.

• Pass a massive $787 billion economic stimulus.

• Spend hundreds of billions more to recapitalize banks, bail out insurance companies and “fix” the mortgage market.

Now, the Obama administration is proposing the biggest changes to the healthcare system since the advent of Medicare in 1966. It’s planning to spend billions more to lighten our dependence on foreign oil and reduce carbon emissions. And it’s urging policy makers to rewrite the rules governing the entire U.S. financial system, spending who knows how many billions more.

As for candidate Obama’s promised tax cut, I’m reminded of the remark former Clinton aide George Stephanopolous once made to Larry King, “The President kept all the promises he intended to keep.”

The consequences of all this new federal spending and encroachment into the private sector won’t be fully apparent for years to come.

But the wild fiscal imbalance is already crystal clear. Washington politicians will soon demand that you sacrifice even more of your paycheck so that they won’t have to sacrifice the near erotic charge – and high incumbency rate – they get from spending it.

This is ironic when you consider that to a large extent it was government that landed us where we are today…

The Buck Stops With The Federal Government

Sure, the mortgage boom and housing market bust was due in part to shameless lenders, greedy borrowers, and unscrupulous Wall Street types. But who set the stage for them?

Who took short-term interest rates to the cellar, creating a massive incentive for consumers and investors to borrow? The federal government.

Who gave real estate investors a $500,000 tax exemption on their profits from flipping houses every two years? The federal government.

Who passed laws criminalizing banks’ failure to lend to subprime borrowers? The federal government.

Who set up quasi-government institutions Fannie and Freddie  – or, as I prefer, Phoney and Fraudy – to warehouse those bad mortgages, leaving taxpayers to pick up the tab? The federal government.

And what will we get as a result of this supposed “failure” of the free market system? More federal government.

I’m not sure whether to laugh or cry. But I am sure our Founding Fathers must be spinning in their graves.

How To Combat The Growth Of Government… And Taxes

Thomas Jefferson said, “That government is best which governs least.”

George Washington said, “Government is not reason, it is not eloquence, it is force.”

No wonder polls show that more than 60% of Americans are skeptical of increased government intervention in the economy.

They suddenly recognize that we’re in for a lot more government, a lot more “market failure”… and a lot more taxes.

Sadly, there isn’t much you can do about it… except buy munis now.

Source:  How To Fight Back Against The Government’s Imminent Tax Hikes

• Existing home sales in the United States ticked up 2.9% in April, according to the National Association of Realtors. The report suggests the housing glut is turning around, but from the bottom up. “Most of the sales are taking place in lower price ranges and activity is beginning to pick-up in the mid-price ranges, but high-end home sales remain sluggish,” NAR chief economist Lawrence Yun told reporters, Reuters reported.

• Malaysia’s economy shrank 6.2% in the first quarter on slumping exports, making for the country’s first contraction since 2001. “We expect the first quarter to be the worst in terms of the contraction,” Suhaimi Ilias, an economist at Maybank Investment Bank Bhd., told Bloomberg. “The strong fiscal impulse will lift the economy, especially in the second half of this year and 2010, with the implementation of the annual budgets and the two economic stimulus packages.”

• Office supply retailer Staples Inc. (Nasdaq: SPLS) slightly beat first-quarter earnings, though still reported a loss. Net earnings fell $147 million, or 20 cents a share, in the quarter ended May 2, Reuters reported.

• Slumping property prices, falling stock markets and shrinking bonuses have more than halved the amount of millionaires in the United Kingdom, the Centre for Economics and Business Research said. In last year’s report, the CEBR said there were 489,000 people in Britain with assets of at least 1 million pounds ($1.6 million). Now, that number is 242,000, Bloomberg reported.

• The yield spread between two- and 10-year Treasury notes widened to a record on Wednesday as concern about mounting sales of U.S. debt will overwhelm the U.S. governments efforts to keep interest rates low, Bloomberg reported.  The so-called yield curve widened to 2.75 percentage points, surpassing the previous record of 2.74 percentage points set on Aug. 13, 2003. Ten-year note yields have risen more than 100 basis points since Fed officials started buying up to $300 billion of U.S. debt in March to drive consumer rates down and lift the economy from recession.
• Seeking to reassure investors, Intel Corp (Nasdaq: INTC) said it will not cut its dividend or slash capital spending despite being fined a record $1.5 billion (1.06 billion euros) by EU regulators for antitrust violations. “There’s still plenty of cash flow from operations to invest in our business, pay the fine and pay the dividend,” said Stacy Smith, the chief financial officer of the world’s largest chipmaker at an analyst event in London yesterday (Wednesday), according to Reuters.

• Moody’s Investors Service reaffirmed the U.S. government’s Aaa credit rating is stable “even with a significant deterioration” in the nation’s debts, bolstering confidence in a rebound from the recession. The rating is supported by “a diverse and resilient economy, strong government institutions, high per-capita income, and a central position in the global economy,” New York-based Moody’s said in a statement, according to Bloomberg. But the firm warned that any “reassessment” of long-term growth prospects could put pressure on the rating.

• Crude oil prices rose to a six-month high yesterday (Wednesday) after Saudi Arabia’s Oil Minister Ali al-Naimi said the global economy is now strong enough to deal with oil prices of $75 to $80 a barrel, Reuters reported. U.S. crude oil for July delivery rose $1.00 to settle at $63.45 a barrel, after earlier reaching $63.82, the highest level since mid-November. London Brent crude gained $1.26 to settle at $62.50 a barrel.

Source: Investment News Briefs Thursday May 28. 2009

U.S. light crude hit $54.66 a barrel, its highest price since Nov. 28, before easing to $53.60 by 1708 GMT. But it was still up by 87 cents, recovering from a decline of more than a dollar on Wednesday.

London Brent crude rose $1.18 to $52.93.

Oil derived some support from a rally in Asian shares, which rose to their highest in 11 weeks following upbeat U.S. economic data on Wednesday, although European shares fared lower.

Oil prices responded little to a set of gloomy U.S. government data, which showed the U.S GDP fell 6.3 percent, the steepest decline since 1983.

Recovering equities this week as well as a generally weaker U.S. dollar have helped to underpin oil but the rise could be short-lived because of weak fundamentals, analysts said.

“Oil stocks are still very high and if you look at the investment flows, volumes have been very light,” said Olivier Jakob of Petromatrix.

A weaker dollar makes commodities priced in the U.S. unit relatively cheap for holders of other currencies, which can attract investors.

Oil has fallen from highs above $150 last July as the global economic crisis dented energy demand but it has recovered from lows below $35 touched in December partly as a result of export curbs by the Organization of the Petroleum Exporting Countries.

There are signs prices are at least stabilising. A Reuters poll on Wednesday showed a consensus view of analysts that oil prices would average around $50 this year.

“We are seeing some optimism, we are seeing some return of risk appetite, both of which we have not seen for a while…” Mike Wittner, Societe Generale’s global head of oil Research, said. But he too pointed to the high inventories.

On Wednesday, U.S. government data showed an increase in crude oil stocks to their highest levels since 1993. The data also showed falling demand.

Source: March 26 (Reuters)

When China announced a new array of stimulus measures earlier this month, this very important plan was overshadowed by China Premier Wen Jiabao’s concerns about the United States’ quickly growing debt load.

“We have lent a huge amount of money to the United States,” Premier Wen said. “Of course we are concerned about the safety of our assets. To be honest, I am definitely a little bit worried. I request the U.S. to maintain its good credit, to honor its promises and to guarantee the safety of China’s assets.”

China has cause to be concerned: As of December, the most recent figures available, China held $727.4 billion in Treasuries – about 26% more than the $578 billion in U.S. government securities the Asian giant held at the end of 2007. More than half of China’s nearly $2 trillion in foreign currency reserves are tied up in U.S. Treasuries and notes issued by other affiliated agencies of the U.S. government – including beleaguered mortgage giants Fannie Mae (FNM) and Freddie Mac (FRE).

However, the value of U.S. Treasuries has dropped steadily since the government began selling record amounts of debt to finance its economic stimulus packages. Investors have lost an average of 2.7% in 2009, according to Merrill Lynch & Co. Inc.’s U.S. Treasury Master Index.

China’s leaders “are worried about forever-rising deficits, which may devalue Treasuries by pushing interest rates higher,” JP Morgan & Co. (JPM) analyst Frank Gong told The Associated Press. “Inside China there has been a lot of debate about whether they should continue to buy Treasuries.”

And as the U.S. debt soars as the government works to halt the worst financial crisis since the Great Depression, China’s concerns about this country’s growing deficits – and its creditworthiness – are escalating in kind.

Depending upon how it did so, were China to stop buying U.S. debt – or even worse, to start dumping it – the economic fallout could be widespread, and perhaps even catastrophic:

• The U.S. dollar would drop 15%-20%.
• U.S. stocks would get hammered.
• Inflation would spike and interest rates on Treasuries would jump into the 8% range.
• And the economy would end up flat on its back – where it would stay, with no rebound on the horizon.

Detailing the Deficit

During the first five months of the 2009 fiscal year, which began Oct.1, the U.S. budget deficit hit a record $764.5 billion. Last month, President Obama outlined a $3.94 trillion budget plan that would take the deficit to $1.75 trillion by the time the fiscal year ends Sept. 30. The plan then calls for a $1.17 trillion deficit for fiscal 2010.

As currently projected, the U.S. budget deficit is forecast to run at about 12% of gross domestic product (GDP) – even worse than the perennially anemic Japan, where the deficit is running at 11%. And the debt picture is certain to get worse.

The Treasury Department has the government’s printing presses running overtime just to finance the $787 billion stimulus passed by Congress earlier this year. And in order to pay for all the stimulus, bailout and fix-it plans that are being put in place to arrest the U.S. economic decline, the U.S. government is assuming a murderous amount of debt: Over the next decade, the Congressional Budget Office projects that the White House budget will run $9.3 trillion in deficits.

That’s $2.3 trillion more than the Obama administration had forecast. But even the CBO projection could prove way too low: It assumes that the U.S. economy – after declining 1.5% this year – will turn around an advance at a racy 4.1% clip in both 2010 and 2011, a forecast that seems far too rosy, given the depths that the U.S. economy appears to have reached.

And that brings us to China.

Enter the (Red) Dragon

During the past several years, government-operated “sovereign-wealth funds” (SWFs) from virtually every major economic powerhouse around the world had been on a global shopping spree, buying up assets and bidding up prices as they did so.

China was no exception.

So when worldwide financial-asset prices began to slide – and then to nosedive – China abandoned many of its riskier holdings, choosing to boost its stockpile of U.S. Treasury securities. That underscores one marketplace truism: Despite Premier Wen’s reservations, the market for U.S. debt is the only market large enough, liquid enough, and stable enough to accommodate China’s large-scale investments.

That’s forced China to engage in a kind of global investor activism – although, so far, most of that activism has been aimed at one country: The United States.

About one-fifth of China’s currency reserves were tied up in Fannie and Freddie debt last fall when the two mortgage firms were placed under government conservatorship, The Washington Post reported.

In fact, as Money Morning detailed back in September as part of its ongoing investigation of the bailout of the U.S. banking system, that U.S. government decision to take control of Fannie and Freddie was driven not by worries about the fading U.S. housing market, but by concerns that foreign central banks in China, Japan, Europe, the Middle East and Russia might stop buying our bonds.

China clearly made its risk concerns known at that time, adding to the sense of urgency U.S. officials felt to make a move. Today, as U.S. debt continues to mount at an obscene rate, financial and economic risks also escalate. This could lead to a spike in inflation and interest rates – a double-whammy that could cause any recovery that’s under way to sputter and stall. That duo of higher inflation and interest rates could also hammer bond values, including the Treasuries held in such large quantities by China. So it’s no wonder the risk concerns China articulated back at the time of the Fannie and Freddie takeovers go double or triple now.

Indeed, when Premier Wen unveiled the spending measures earlier this month, he made the point of saying that China should seek to “fend off risks” by further diversifying its reserves.

“We have already adopted a guiding management policy of diversifying our foreign exchange reserves, and at present our foreign exchange reserves are safe overall,” Wen said. “Our first principle in managing foreign currency is averting risk. We have always adhered to the principles of foreign currency security, liquidity and maintaining value, and implemented a strategy of diversification.”

When it comes to U.S. government debt, that strategy will take one of three forms, and will have the following potential effects:

1. Quietly threatening to stop purchasing (or even threatening to “dump”) U.S. Treasuries, a form of “back-channel” communications that can generate results (just look at how China forced the U.S. government to place Fannie and Freddie in conservatorship). Because this is back channel, it stays out of the marketplace, so long as the U.S. government finds some ways to appease Chinese investors by somehow reducing risk.

2. Quietly slowing or stopping its purchases of U.S. government debt. If China does this effectively and systematically, the fact that it’s cutting back on purchases doesn’t surface until the plan is executed. If China is able to pull this off – and it faces long odds to do so – the fact that it’s cutting back on U.S. debt doesn’t roil the markets too badly, especially if it doesn’t leak out until after the fact.

3. Publicly dumping U.S. debt. Self-explanatory in nature – and also the most unlikely, if it wants to maintain its “friendly” status with the United States – this is the worst-case scenario, and is the one that ends up with the dollar and the stock market getting stomped. If China chooses this route, it’s also essentially cutting off its nose to spite its face. The reason: By publicly dumping U.S. debt, the Treasury market will also take a beating – meaning China’s remaining U.S. debt holdings would take a haircut of 20% to 30%.

The Marketplace Realities

International demand for long-term U.S. financial assets actually fell in January, reflecting China’s smallest net purchase since May, Bloomberg reported.

International investors sold a net $8.4 billion in U.S. corporate debt in January, the report showed. Net foreign purchases of Treasury notes and bonds were a net $10.7 billion in for the month, after purchases of $15 billion a month earlier.

Few analysts believe China will abandon its Treasury holdings altogether, as that would hammer the dollar, hurt the value of its debt holdings and ruin its political relationship with the United States.

Besides, it’s becoming increasingly clear that Beijing wants a voice in Washington.

Yu Yongding, a former advisor to the Bank of China said last month that China should seek guarantees from the U.S. government that its holdings won’t be diminished by “reckless policies.”

Premier Wen echoed that request last week when he called on the United States to “honor its promises and guarantee the safety of China’s assets.”

“I think what they’re trying to say right now is, ‘Don’t take any steps that would impair our ability to access your market,’” Auggie Tantillo, executive director of the American Manufacturing Trade Action Coalition, told The Post. “The Chinese are starting to flex their muscles, they are becoming more powerful commercially and economically, and they want us to know it.”

The very possibility that China and other foreign countries would stop buying U.S. bonds already was enough to prompt the U.S. government to take control of foundering mortgage giants Fannie Mae and Freddie Mac.

Source: The Three Ways China May Deal With Growing U.S. Debt

• After recording its worst financial results ever last year, Warren Buffet’s Berkshire Hathaway Inc. (BRK.A, BRK.B) announced it would cut manufacturing jobs and close facilities to buffer itself against the recession. “Berkshire’s operating companies have taken and will continue to take cost reduction actions in response to the current economic situation, including curtailing production, reducing capital expenditures, closing facilities and reducing employment to partially compensate for the declines in demand,” the firm said in a regulatory filing yesterday, Bloomberg reported.

• By trading over-the-counter fixed-income derivatives, JPMorgan Chase & Co. (JPM) generated $5 billion in profits last year, Bloomberg reported citing two sources. The unit was among the most profitable for the company.

• Italian pharmaceutical company Recordati SpA is targeting higher profits and revenue in 2009 and is proposing a 16% increase in its dividend, Reuters reported. “The sales in the first two months are substantially in line with the expectations for the entire year for revenues of about 750 million euros ($946 million), operating profit of about 155 million euros ($195 million) and net profit of about 105 million euros ($132 million),” the company said in a statement.

• China may announce plans to double its $585 billion (4 trillion yuan) economic stimulus this week, Bloombergreported. “It would be a terrific boon to confidence to announce it at the NPC,” Stephen Green, Shanghai-based head of China research at Standard Chartered Bank plc, told Bloomberg.

• With job losses mounting and consumer confidence flagging, new sales contracts on existing homes fell a seasonally adjusted 7.7% in January, the National Association of Realtors said yesterday (Tuesday).  That means the index is down 6.4% from a year ago, MarketWatch.com reported. In December, the pending home sales index rose 4.8%, compared with a prior estimate of a 6.3% gain. The index is based on signed sales contracts; the contracts typically are signed a month or two before the sale is closed, which is when the sales are included in the NAR’s existing-home sales report. “We expect similarly soft home sales in the near term, but buyers are expected to respond to much improved affordability conditions and from the $8,000 first-time buyer tax credit” in the stimulus package, said NAR Chief Economist Lawrence Yun said in a statement. Pending sales for January fell in the Northeast, the South and the Midwest, but did actually rise in the West, the NAR said.

Source: Global Investment News Briefs Wednesday, March 4, 2009

In case you were wondering, this level of earnings is down to where it was in 1995, and at that time the S&P 500 was selling for about $450, versus today’s $770, and which makes the price-to-earnings soar to an almost-unheard-of 27! A P/E of 27! Hahahaha! So you can see why I thought I was dreaming!

This evaporation of earnings also probably explains why the S&P500 index is at $770.05, down from last year’s $1,353.11, meaning that if you had bought the index last year, you have lost almost half your money in nominal terms, and you have lost ever more when calculated in inflation-adjusted terms, as the dollar has lost buying power in the last year which has made food and necessities get higher in price, higher and higher until I am screaming out the window, “The Federal Reserve, creating all that money and credit in the banks – so that somebody could borrow all that new money and use it to buy such mountains of public and private debt – is stupid-beyond-madness, you lowlife morons, and now we are all freaking doomed because all the world’s money is going to crap as, suddenly – as part of a coordinated, global economic stimulus – whole mountains of money and credit are being created so that governments can try to spend their way out of bankruptcy! We’re freaking doomed, you morons!”

And although my stupid neighbors protest about my screaming like that, the fact is that it is worse than that, because the U.S.A., with its $14 trillion economy, has a federal government that is going to spend, over the next year, all the money in their usual $3 trillion-plus budget, but also another $2 trillion or so over the next year! $5 trillion in government spending, at a cost of $3 trillion in new debt, all in a $14 trillion economy! Gahhhhh! We’re freaking dooooooooomed!

I did not mention that there are only about 100 million non-government, non-taxpayer paid workers in the U.S.A., which means that there are only 100 million workers who can make a profit with which to pay taxes, which means that $5 trillion in government spending is a staggering $50,000 for Every Freaking One (EFO) of those non-government, non-taxpayer paid positions! And you think THAT is going to work out for the best? Hahahaha!

Well, most people (the majority) do; and maybe you do too. And if so, I love your optimism. In fact, I envy your sunny optimism, even as I deplore how stupid you are; (although I already knew you were pretty stupid because here you are, reading my stupid Mogambo Guru newsletter, and I gotta tell ya, that’s a classic sign of stupidity!)

In order to explain it away, I say that my personal stupidity was caused by asphyxia after being choked by some beautiful woman’s big jealous brute of a boyfriend who jumped me from behind – which sounds so much more romantic and macho than the truth, which is, “I was born sorta like this, and then it got worse after I banged my head a lot as I grew up, suffering damage through various childhood accidents and my heart being broken by cruel, manipulative girls, and then more slamming my head against the wall in disbelief as an adult at the sheer stupidity of the neo-Keynesian econometric economics being used by the Federal Reserve to create so much excess money and credit that it produces inflation in prices and inflation in the size of government, either of which is enough to destroy us a hundred times over!”

But don’t get me started with heart-rending, sorrowful stories of how I am living proof that girls don’t date guys who are both creepy AND broke (although I found that they will tolerate one or the other for short periods of time) because it is time for Living Mogambo Theater (LMT)! Yippee!

Now, sit back and enjoy my riveting performance, for which I should have won an Oscar – and WOULD have won an Oscar if it had been filmed (which it wasn’t, maybe from government goons always sabotaging me, but mostly by I just made it up right now! Hahaha! The joke’s on me!)

Anyway, my powerful voice becomes eerily hollow and booming, my face a study in fear, as I say, “And when roaring inflation happens, thanks to the damned government spending more money to buy their way out of bankruptcy caused by their previous deficit-spending and the damned Federal Reserve creating the money and credit to finance this insanity as they financed the excess-money-and-credit insanity that got us here in the first place, everyone and everything are ruined!”

I slowly crumple to the floor, a pathetic, wasted husk of a man, my every move a subtle nuance of woe and utter despair. Suddenly, I spring up, my features drawn into a mask of horror, my stentorian voice blaring out, “And then the damned government usually finds a way to get into a war against scapegoat foreigners, which is Really Bad News (RBN) nowadays when you consider that foreign countries and foreign people (who admittedly speak foreign languages that nobody can understand and they probably don’t either), have been hurt even more than we morons here in the United States, and in their case, they are RIGHT: A foreigner caused all their trouble! Us! Hahahaha!”

My laughter echoing in the theater, the lights come up as the camera slowly pulls away to get, on film, the powerful, thrilling close, “And yeah, although the ‘foreign devils’ are truly us Americans, the filthy bastard that did it all is Alan Greenspan, disastrous former chairman of the Federal Reserve, who did it by merely creating too much money and credit, which pounded down interest rates, to pay for it all! If you can’t pay for a boom, you don’t get a boom, and if you don’t have a boom, you don’t have a bust!”

After pausing for dramatic effect, I go on, “And so all this mess is because of Greenspan, by both egregious commissions and omissions, legal and illegal, day and night, more and more, which explains why food costs more nowadays, and has always been costing more and more for as long as you can remember, and why everything has now turned to crap in the inevitable bust that always follows a monetary boom!”

Instead of the thunderous applause that I thought I was going to get, maybe a few shouts of “Encore!” or “Bravo, Mogambo!” there was only silence. Looking up, I peer out to see that the place is empty and that everyone has left the theater and gone home, not even waiting for the boffo ending.

Hmmm! I immediately suspect script troubles, but the important thing is that I never got to tell them about how they should be buying gold, silver and oil right now, which was the point of the whole thing!

But I am telling you to buy them, which is almost as good, I figure.

But if you were one of those people who walked out on my wonderful theatrical performance, then don’t buy gold and go to hell, you tasteless moron who wouldn’t appreciate real cultural excellence if it came up and pissed on your damned shoes!

Source: Optimism in the Face of Inflation

This from Reuters, London:

Gold fell nearly 2 percent in Europe on Monday as investors took profits after recent gains, amid disappointment the metal had failed to beat resistance near $930 an ounce last week.

Spot gold slipped to $895.65/897.65 an ounce at 1446 GMT, down from $911.70 in New York late on Friday. Earlier it touched a low of $893.15.

U.S. gold futures for April delivery on the COMEX division of the New York Mercantile Exchange fell $16.30 to $897.60 an ounce.

“There has been some profit taking and disappointment we couldn’t break through $930, even with strong demand from ETFs,” said Commerzbank senior trader Michael Kempinski.

Signs of a recovery in equities, and hopes the Obama administration’s stimulus plan will boost U.S. growth, are taking the heat out of safe-haven buying for exchange-traded funds.

“Stocks had a good performance last week and Barclays had some nice figures today,” said Kempinski. “Probably the safe-haven buying argument is gone for the time being.”

Traders are awaiting an announcement on Washington’s massive stimulus plan and bank rescue package. The Senate was due to vote on the package later this session to clear the way for its passage on Tuesday.

SPDR Gold Trust (GLD), the world’s largest bullion-backed exchange traded fund, said its holdings were static on Friday after rising to a record on two successive days last week.

Gold continued to break its correlation with its main external drivers — oil and the dollar-euro exchange rate.

The dollar weakened against the euro, weighed down by uncertainty over the details of U.S. plans for massive fiscal stimulus, and a much-anticipated package to help banks. A weaker dollar usually benefits gold.

Gold also ignored rising oil prices, which are also typically supportive.

OUTPUT ROSE

The world’s third-largest gold miner, AngloGold Ashanti , said its output rose to 1.268 million ounces in the three months to end-December and said its cash costs at $422 an ounce showed a 13 percent improvement on the previous quarter.

The miner said it plans to keep trimming its hedgebook this year, using $900 an ounce as a guide price for the precious metal. The company reported a fourth-quarter headline loss of 5 cents per share, missing market expectations.

Silver slipped to $12.91/12.99 an ounce from $13.06. The white metal has benefited from technical buying as the gold-silver price ratio declines, analysts said.

“(Silver) continues to make back ground against gold as some investors look to cheaper alternatives to the yellow metal,” James Moore, an analyst at TheBullionDesk.com, said.

Platinum eased to $985/990 an ounce from $999.50. Precious metals consultancy Johnson Matthey said it expects platinum demand to fall 5 percent this year, and held its price forecast for the metal at $700-1,400 an ounce.

South African production will be slightly up, it said, due to new mines, despite the announced closures of some other facilities.

The world’s biggest platinum miner Anglo Platinum reported higher earnings but flagged up cost pressures as it cut its final dividend and said it may cut jobs if prices fall further.

The company, a unit of Anglo American , said it produced 2.39 million ounces of refined platinum last year, slightly below targets.

Spot palladium was at $206/210 against $210.

Palladium jumped 11 percent last week on the back of fund interest in the metal, which is seen as good value compared to platinum. The ZKB palladium ETF saw an inflow of more than 1 percent or 6,365 ounces last Thursday

LONDON, Feb 9 (Reuters)

The study, released last week, says that many of the countries that balanced their budgets over the past 10 years did so by skimping on the construction costs for new public assets and the maintenance of existing buildings and roads, CBC reported.

“The global economy is running a major infrastructure deficit as the cost of decades of under-investment is now surfacing,” said Benjamin Tal, the analyst who authored the study.

Canada, for example, has eliminated an enormous budget deficit left over from the 1980s, but built up an infrastructure deficit of $120 billion in the process.

Governments have come to realize that they are better off spending a modest amount each year on infrastructure upkeep, rather than spending substantially more in one lump sum to replace outdated projects, Tal said.

According to the CIBC forecasts:

• North America will spend $180 billion on infrastructure each year.
• Europe will spend $205 billion.
• Asia will spend $400 billion.
• And $10 billion will be invested in Africa annually.

Stimulus plans will figure heavily into the global infrastructure boom…

Asia Leans on Infrastructure

China, Japan, Malaysia, and Singapore have all unveiled stimulus packages that focus on shifting their respective economies away from dependence on foreign exports and creating jobs at home, mainly through public works projects.

In total, Asian economies have pledged more than $680 billion to economic stimulus since the onset of the financial crisis.

Singapore recently spawned $13.8 billion (S$20.5 billion) stimulus package to offset rising unemployment and prevent a political backlash against its ruling People’s Action Party government.

Singapore’s economy, like others throughout Asia, is overly reliant on exports, which have all but evaporated with the onset of the global economic crisis. Analysts estimate that the city-state’s unemployment rate – currently at a level of 2.2% — could double, or even triple, by 2010.

Approximately $13 billion (S$20 billion) of Singapore’s stimulus will go towards financing public works projects, with the remainder being used to provide tax rebates.

Malaysia, meanwhile, recently unveiled its second stimulus package in three months.
Bothered by the financial crisis, the country offered up a $1.9 billion plan in November primarily focused on public works and infrastructure.

The majority of the money was put toward:

• Building of low and medium-cost houses.
• Upgrading and repairing police stations and army camps.
• Constructing roads, bridges, schools, and hospitals.
• And rural and agricultural development.

However, at just 1% of gross domestic product (GDP), the stimulus was criticized as being too small. Now the government is reportedly taking steps to expand it.

The second stimulus package will be about $2.7 billion, according to the Malaysian National News Agency.

Of course, none of these packages hold a candle to China’s enormous $586 billion stimulus plan. If Malaysia’s first stimulus plan was an example of an insufficient, or moderate, attempt to bolster the economy, China’s is just the opposite.

At a staggering 20% of China’s gross domestic product, China’s stimulus package is the model of an aggressive and substantial stimulus package. It boasts a vast infrastructure spending program that would cover 10 areas, including the construction of new railways, as well as projects aimed at environmental protection and technological innovation.

About $54 billion (370 billion yuan), or 11%, of the $586 billion spending package has been allocated towards rural infrastructure projects to create jobs.

Plans for China’s road system alone are unprecedented with 12 major routes under construction across the country from north to south and east to west, The Wall Street Journal reported. The system will stretch 53,000 miles by 2020, topping the 47,000 miles of roadways in the United States.

In addition to all of that spending, China is already looking to expand its stimulus package to help stem the rising tide of unemployment.

China currently spends about 9% of its GDP on infrastructure, versus 5% in Europe and 2.4% in the United States. Over the next 10 years, China will spend $200 billion on infrastructure development alone, according to the CIBC.

U.S. and Europe Look to Improve Infrastructure Marks

Of course the United States and Europe will be ramping up their infrastructure spending over the next decade as well.

In 2005 America’s civil engineers gave the nation’s infrastructure a “D” grade, and they estimated that it would take $1.6 trillion over five years for proper upgrades.

It’s taken a full-blown financial crisis and 8% unemployment, but the government is finally beginning to open the spigot to infrastructure spending.

“We will build the roads and bridges, the electric grids and digital lines that feed our commerce and bind us together,” President Obama said in his inaugural address.

About one-third of President Barack Obama’s $825 billion stimulus package will go to infrastructure with $30 billion allocated for roads and $10 billion for mass transit and railways.

President Obama has also proposed spending $150 billion “over the next 10 years to catalyze private efforts to build a clean energy future.” The new administration also proposes to increase the amount of electricity that comes from renewable resources from 10% in 2012 to 25% by 2025, according to Wall Street 24/7.

On top of that, upgrading the nation’s aging power grid could cost in excess of $880 billion, according to a November 2008 report from the Brattle Group.

Infrastructure development won’t come cheap in Europe, either. The International Energy Agency estimates that it would cost the European Union (EU) at least $650 billion to upgrade Europe’s power grid.

And in addition to more reliable grids, the EU is seeking greater energy independence. The continent relies on Russia for a quarter of its gas supply. And as last month’s dustup with the Ukraine demonstrated Russia is a less than reliable supplier.

The European Commission yesterday (Tuesday) unveiled a $4.5 billion (€3.5 billion) plan to invest in its gas and electricity interconnections, offshore wind technology, and carbon capture and storage to enhance its energy security, PennEnergy reported.

“Energy infrastructure will play a crucial role, reducing dependence and increasing competitiveness,” said the commission.

Similarly, the European Parliament has set out a blueprint for future EU energy policy that includes mandatory emergency action plans in case of gas supply shortages, more grid interconnections among EU member states, a specific roadmap for investments in nuclear energy, and new climate targets to be achieved by 2050.

Citing the recent gas supply crisis between Ukraine and Russia, the report calls on the European Commission to propose revision of a gas supply directive before the end of this year, which should include” mandatory and effective national and EU emergency action plans.”

It also challenges EU policymakers to improve energy efficiency by 35% and convert 60% of the region’s total energy consumption to renewable sources.

No budget outlines were offered by the report.

The United States will spend $150 billion annually over the next 10 years and Europe will look to invest about $300 billion a year, according the CIBC report.

Source: Global Infrastructure Spending to Reach $35 Trillion Over the Next 20 Years