Oil didn’t move yesterday. Neither did gold.

The Wall Street Journal reported that markets were reacting to “mixed data”.

That is to say, some reports were encouraging. Others were not. It was as if one weather forecaster called for a blizzard. The other for sunny skies and warm temperatures. Investors didn’t know how to dress.

Among the dark clouds was an item on the falloff in tax revenues. States are having a hard time balancing their books, because their tax receipts are declining. The WSJ reports that they are running 17% below last year.

Since states cannot print money, they’re forced to make cutbacks – typically reducing hours worked per employee as well as the total number of employees. This is a bad thing, says the report, because it increases unemployment and lowers the wage base. This leads to less consumer spending.

Another little cloud appeared yesterday (in addition to the consumer confidence numbers): the vacation timeshare market is collapsing at a record pace.

Well, don’t worry about it. We met a guy who explained the timeshare business to us.

“What you’re selling is a dream. You bring them to the property. You make sure they have a good time. And then you do to the numbers with them. You show them how much they save by coming to your property rather than on a typical vacation. And then you show them the other properties that they can exchange for. They think they can buy a cheap property and then exchange with an expensive timeshare. But it doesn’t work that way. They get stuck in the cheap unit and the dream gets a little faded… And then, they stop coming… and then they try to sell the timeshare. Timeshares are rarely a good investment.”

Besides, timeshares are a small, quirky part of the housing picture anyway. The real story is in the regular housing market. There, if you believe the forecasters, it’s sunny skies.

House prices seem to be stabilising. In some areas, they are going up. Of course, in some places you can get a house at half the price it sold for two years ago. That lures buyers back into the market. If we wanted a house to live in, we might be tempted too. That’s why we like falling housing prices: we get more for our money. But most people want a rising housing market. They think it makes them richer.

They’re likely to be disappointed. They show up at the beach with their umbrellas and sun-tan lotion… just as a winter storm hits the coast.

Forbes lists eight reasons to “remain worried about housing”.

• The federal tax credit, worth $8,000, is set to expire at the end of November. That will make housing $8,000 more expensive for first-time buyers.

• The Fed is also ending its $1.45 trillion shopping spree. It has been supporting housing by buying mortgage-backed derivatives. What will happen when it stops?

• Mortgage lending standards are tightening up generally.

• Houses are still not cheap. Forbes cites Shiller’s numbers, putting the average house price 41% higher than it was in 2000. Incomes did not increase during that period; ergo, houses are still too expensive.

• Damaged psychology. It will take time for potential homeowners to get over the shock of a bear market.

• The end of summer has arrived. Housing sales always go up in the summer. People relocate in summer, during the school break. Then, sales fall with the autumn leaves.

• There are still huge numbers of houses that will be repossessed. Forbes says only 12% of option ARMs have been reset. More repossessions will increase the supply of desperate sellers and decrease prices.

• There’s a ‘shadow inventory’ hanging over the housing market. It could be vast. Everyone knew it would be hard to sell a house in 2009. Many potential sellers held back, waiting for the market to stabilise. As they put their houses up for sale, that too will hold prices down.

Some wiseacre economist has probably already come up with eight reasons why housing prices will go up. But the key thing to recall is that this is a depression. It’s a major restructuring of the economy, not a standard post-war recession. After 64 years, the consumer has finally rung a bell. He has reached his limit. He cannot borrow more. He cannot spend more. He is finally cutting back. That fact will echo through the entire world economy – and through the US housing market – for many years.

Houses, like stocks and corpses, may bounce. But they will not begin a real bull market again for a long, long time.

***Our old friend Marc Faber is “highly confident” that things will turn out badly.

“The future will be a total disaster, with a collapse of our capitalistic system as we know it today, wars, massive government debt defaults and the impoverishment of large segments of Western society,” he writes.

“We have a money-printer at the Fed,” he continues, which guarantees runaway inflation, wholesale debasement of the dollar, and a major lowering of living standards for most Americans and many Europeans as well.

Meanwhile, Paul Volcker says that China’s rise merely “highlights the relative decline of the US.”

So there you have it: China on the way up, America on the way down .

That’s the drama that we’re watching every day here at the Daily Reckoning. In our view, the peak of US wealth and power probably came during the period between the fall of the Berlin Wall and the fall of Lehman Brothers. But there are probably a lot more shoes to drop before people are fully aware of what is going on.

The way we see it, almost the entire 20th century was a mistake, a dead end. Europeans were clearly on top of the world when the century began. Then, after WWI the Europeans in America took the lead role. But WWI shook their faith in their evolving political order.

Not long after, German hyperinflation and the Great Depression shook their faith in their economic and financial order. This left a huge vacuum, which was soon filled by ruthless adventurers and ideological schemers. Much of the rest of the century – from 1939 to 1989 – was spent in hot wars and cold wars against these Bolsheviks, Fascists, Stalinists and Maoists.

In the end, the more reasonable and consensual societies of the West won the battle. But they, too, were transformed by 50 years of war and nearly a century of bad ideas .

“Whoever fights monsters should see to it that in the process he does not become a monster. When you look into the abyss, the abyss also looks into you,” Nietzsche warned.

Looking into the abyss created by Mussolini, Hitler, Tojo, Pol Pot and the rest, Western societies decided both to fight them and to join them. Tax rates soared. Regulations multiplied. University professors taught socialism, Freudianism, modernism, cubism, feminism, racism… and every other ‘ism’ they could think of. Parents spent good money to send their children to universities that turned them into mush-heads.

And – perhaps most ominous – in the United States of America, the military grew into a greedy, grasping goliath… the very thing Eisenhower had warned against.

Then, there were counter-trends in the 1980s… led by Margaret Thatcher in England and Ronald Reagan in the US. But these were mostly frauds . Top marginal tax rates were rolled back. And there were some cuts in regulatory procedures. But government spending tended to go up anyway. Worse, Ronald Reagan mistook the Soviet Union for a genuine threat and increased military spending even further to combat it.

And now, the US staggers under the weight of its eternal wars… its imperial illusions … and its everlasting efforts to provide bread and circuses. If it kept its books like a private enterprise, it would be broke. If it were a public corporation, it would be de-listed.

Still, it spends and spends… and there is no stopping the spending. Trillions are spent on wars in Iraq and Afghanistan, for no apparent reason. But who complains? Too much money is at stake. There are too many lobbyists for too many industries and too many special interests involved. Military spending – even in a time when America faces no substantial challengers – cannot be rolled back. Neither can social spending.

Marc Faber is right. There too, there are too many people with too many dogs in this fight. Both military and social spending will continue to expand until the empire is ruined.

Until tomorrow,

Bill Bonner

Source: A Century of Bad Ideas

The first time around, the three-headed federal serpent – the Bush administration, the Treasury Department and the U.S. Federal Reserve – used Fannie Mae (NYSE: FNM) and Freddie Mac (NYSE: FRE) to “legitimize” trillions of dollars worth of toxic financial waste known as subprime mortgages.

The result was the worst financial crisis since the Great Depression – a mess that was global in nature.

And we’re now headed for a repeat performance.

Some of the players may have changed since the first subprime-mortgage crisis, but the game apparently remains the same. With banks currently unwilling to lend, the new federal triumvirate of the Obama administration, the Treasury and the Fed are trying to inflate the moribund U.S. housing market. This time around, however, the FHA is the weapon of choice.

Obama & Co. are making an all-or-nothing bet that the U.S. economy will recover and bail out the housing market before the final bill for this ill-advised gambit comes due.

When this bubble bursts – and it will – U.S. taxpayers will be on the hook for more than $1 trillion in government-guaranteed debt.

Ginnie Mae: Fannie and Freddie’s Once-Quiet Cousin

As a direct result of the real-estate meltdown, U.S. banks have become reluctant lenders. And they’ve raised their loan standards considerably. Federal officials knew they had to keep the mortgage spigot open, especially to suspect borrowers, so they turned to their new “secret weapon” – the FHA.

The FHA has been cranking out new government-insured subprime loans, which it packages into government guaranteed securities for sale to banks. This frightening reflation of the subprime bubble is being engineered for two key reasons:

• To put a floor under falling house prices.
• And to let banks swap toxic Fannie and Freddie securities for new toxic debt that is 100% guaranteed by U.S. taxpayers.

The almost inevitable insolvency of the FHA could rapidly undermine the fragile recovery of the U.S. economy. And it could plunge stock prices and bank viability to new lows.

Why the FHA?

That’s simple. In an era of increasingly stringent lending standards, the FHA’s standards are laughably lax.

Created by the National Housing Act of 1934, the FHA insures private mortgage lenders against borrower default on residential real estate loans. But its current allure is that it opens the door to prospective homebuyers who almost certainly wouldn’t qualify for a conventional home mortgage. These are buyers with no credit history, a history of credit problems, or not enough cash to cover the down payment and closing costs.

The FHA has quadrupled its insurance guarantees on mortgages in just the last three years, with the bulk of that growth coming in the past two years. Currently, the FHA insures $560 billion of mortgages.

Loans that are FHA-insured are pooled and packaged into mortgage-backed securities (MBS) by the Government National Mortgage Association, more commonly known as Ginnie Mae. Ginnie Mae insures the actual MBS pools composed of FHA loans. Ginnie Mae securities are the only mortgage-backed securities backed by the full faith and credit of the U.S. government.

Two weeks ago, Ginnie Mae proudly announced that it had issued a monthly record $43 billion in FHA mortgage-backed securities, and through the end of July held guaranteed securities with a value of $680 billion. It is on track to exceed $1 trillion worth of guaranteed securities by the end of calendar year 2010.

Ginnie Mae is a cousin of its better-known siblings Fannie Mae and Freddie Mac. Those two mortgage giants are technically insolvent, and were forced into government conservatorship at the height of the financial crisis – ostensibly due to concerns that foreign central banks in China, Japan, Europe, the Middle East and Russia might stop buying our bonds. As “government-sponsored enterprises,” or GSEs, Fannie and Freddie were only supposed to have the “implicit” backing of the U.S. government. But recent events have shown these to be fully backed by taxpayers.

The implosion of Fannie and Freddie severely threatened the mortgage market. It essentially shut down the two giant repositories that bought the loans banks and mortgage originators didn’t want to hold as assets on their own balance sheets.

The FHA and its mortgage-backed securities “factory” – Ginnie Mae – have taken up where Fannie and Freddie left off, and are now the dumping ground for toxic mortgages. Using the FHA is the core strategy in the administration’s misguided effort to prop up mortgage origination and modifications, real estate prices and insolvent banks.

Warning Signals?

Administration officials might want to take heed of some eerie parallels between the current situation and the one involving Fannie and Freddie. They could serve as an early warning system.

First and foremost, the FHA has already started to acknowledge systemic fraud in its business. In the earlier subprime crisis, similar circumstances led to the revelation of massive fraud in the issuance, packaging, ratings and sale of subprime toxic mortgage-backed securities.

On Aug. 4, the FHA suspended Taylor, Bean & Whitaker Mortgage Corp., one of its largest approved independent mortgage originators, from making anymore FHA-backed loans. The suspension came one day after federal investigators raided Taylor Bean’s Ocala, Fla., headquarters.

Since 2007, the value of FHA-backed loan originations underwritten by Taylor, Bean had soared 117%. By contrast, the origination of conventional loans by the firm dropped 34% over the same period. Taylor, Bean subsequently filed for bankruptcy.

Earlier this summer, the U.S. Department of Housing and Urban Development (HUD), which oversees the FHA, raised concerns about FHA practices. On June 18, HUD released an internal inspector general’s report that revealed that the FHA’s default rate exceeded 7% and that more than 13% of its insured loans were delinquent by more than 30 days.

In a “Review and Outlook” piece, The Wall Street Journal reported that the FHA’s reserve fund dropped from 6.4% in 2007 to about 3% today, putting it dangerously close to its mandated 2% minimum. That translates to a “33-to-one leverage ratio, which is into Bear Stearns territory,” the newspaper report stated, referring to the now-failed investment bank that had been a central player in the original subprime mortgage crisis.

Bear Stearns is now owned by JPMorgan Chase & Co. (NYSE: JPM).

The HUD inspector general’s report stated that the agency’s growth makes it “vulnerable to exploitation by fraud schemes” and that it may need “Congressional appropriation intervention.”

In a recent article – “FHA Disputes Whispers of Capital Reserve Problems” – on the Mortgage News Daily Web site, HUD Secretary Shaun Donovan said in June that “there’s a better than even chance that we will stay above the two percent reserve threshold. That suggests, not just for the 2010 business, but overall for the portfolio, that we’ll more than likely to stay out of a broader need for any taxpayer funding.”

It may be more than a little disheartening to know that in a very uncertain economic environment, precisely due to fraud in mortgage lending and increasing borrower defaults, that our government is stretching a 50/50 wager on the backs of taxpayers.

That’s only part I of the FHA dilemma story.

Part II is even more frightening.

A Look Ahead

Banks are dumping Fannie and Freddie-backed securities onto the Fed’s balance sheet and replacing them on their own balance sheets with FHA-insured loans packaged into government-insured securities issued by Ginnie Mae. Banks aren’t reducing their net assets, they are aggressively swapping acknowledged toxic securities that no-one wants for a new variety that no one will want in the future. Why?

It’s not just that Ginnie Maes are fully backed by the U.S. taxpayers and Fannie and Freddie’s securities are only implicitly backed. All of them will be covered by taxpayers.

The devil is in the details.

Because Fannie and Freddie securities are only implicitly guaranteed, banks that hold these securities as assets on their balance sheets must “haircut,” or set aside reserves, based on a 20% risk-weighting assigned to the value of those holdings.

Because Ginnie Maes are explicitly 100% guaranteed, they are considered “risk free,” and on par with U.S. Treasury bonds, notes and bills. There is no reserve requirement, or haircut, on Ginnie Mae securities.

By replacing their asset mix and holding Ginnie Maes, banks don’t have to set aside reserves. They can use the money they otherwise would have to set aside to actually leverage-up their balance sheets. And guess what they’re buying?

More Ginnie Maes, naturally.

The effect of the asset swap – basically one toxic pool for a replacement that’s not much better – creates the illusion that banks have healthier balance sheets and that they are meeting their reserve requirements. It’s such a good deal for the banks and actively promoted by the Fed and Treasury, that banks are using Troubled Assets Relief Program (TARP) money to buy Ginnie Maes.

But it’s all a façade.

Capital ratios are being manipulated and insolvent banks are being propped up.

The danger of relying on the FHA to prop up the shaky housing market by facilitating mortgage origination, modifications and refinancing to less-than-stellar borrowers will only result in more subprime loans being stockpiled on the Federal Reserve balance sheet.

Eventually, defaults will overwhelm the FHA. And the hoped-for floor in residential real estate pricing will be pulled out from under us all. The next down-round in real-estate values will expose bank balance sheets for what they really are: Over-leveraged and over-stuffed with junk. Already on the ropes, banks will lose capital and will have to tighten the credit screws on consumer borrowers even more.

We may be headed for another bruising round of real-estate and MBS-related depreciation. Even a mild financial-markets setback could put the economy and the stock market onto the canvas for a 10-count. Further pummelling of shaky consumer confidence accompanied by a couple of major bank failures could easily send the U.S. market down for the financial-system equivalent of a TKO.

Taxpayers, always the lowly cornermen holding the spit buckets, are already in place with the safety nets. We will catch the FHA loans because we insure private lenders against subprime borrowers with no skin in the game. We then will have to catch the buyers of Ginnie Maes, because we guarantee those MBS securities. And we will be forced to catch the falling banks, because we already insure depositors through the Federal Deposit Insurance Corp. (FDIC).

Perhaps our ultimate fate is that of the permanently punchdrunk veteran boxer, who rues his decision to stay in the game, realizing that he fought “one bout too many.” If that’s the case, that “one bout too many” could be Subprime Crisis II, arranged by the very market referees whose job it was to protect us from such beatings.

Source: How the Government is Setting Us Up for a Second Subprime Crisis

At least stocks are doing well. The Dow rose another 36 points yesterday. In terms of time, it’s already beat the bounce of ’30… it’s in its 6 th month. In terms of stock prices, it’s still a laggard, however. US stocks are up about 45% from their low of 6,547 on the Dow. By that measure, the current reading of 9,398 falls a little short of the 50% increase registered 5 months after the ’29 low.

Yesterday’s news was a big disappointment for mainstream economists. It’s ‘back to the drawing board,’ says the Wall Street Journal.

The dumbbells were already celebrating the end of the recession. Just yesterday, we reported on a survey of 53 of them. They figured the stimulus was working and the recession was coming to an end.

Even the Fed seemed to think so. The Washington Post headline: “Fed views recession as near end.”

But here at the Daily Reckoning summer headquarters we were doing some more painting yesterday…

… which means, we were doing more reckoning…

We don’t know when the recession will end… but we’re dead sure that those 53 economists interviewed by Bloomberg… and those at the Fed too… don’t know either. Few of them seem to have any idea what is really going on.

And now comes news that the economy is not recovering as planned.

“Even with Cash for Clunkers retail sales fall,” reports the New York Times. Retail sales were expected to go up in July. Instead, they went down.

Bummer.

Economists also expected unemployment numbers to go down. Instead, they went up in July… and last week, 558,000 people filed for unemployment benefits – up from the week before. That brings the total to 6.7 million jobs lost since the downturn began in December ’07.

Oh… and what’s this? Foreclosures hit another record high in July… making the third new record in the last 5 months.

This is a “recovery that only a statistician could love,” says another Washington Post headline.

You can prove anything if you torture the numbers enough. But if you need a job… or need to sell your house… or refinance your mortgage – good luck to you!

And here… in the spirit of summer… of warmth and camaraderie… we would like to offer the above-mentioned economists a little help: Pssst… it ain’t a recession; it’s a depression.

Since 1945, the US economy – and much of the rest of the world economy – has been carried on the backs of American consumers. First, they spent money they earned during the war years. Then, they spent money they earned in the big boom of the ‘50s and ‘60s. And then they spent money they hadn’t earned at all. They borrowed from future earnings… increasing total US debt from just 120% of GDP in the ‘70s… to 370% of GDP in 2007.

In the last 15 years of that period, especially, each time the consumer showed a reluctance to continue spending, the feds rushed to give him more credit. And during the final 5 years – the Bubble Epoque – debt doubled.

Now, the consumer has dug in his heels. He’s not going a step further until he unloads his excess baggage of debt.

Once again, the feds are trying to stimulate him. The Fed’s key interest rate is practically at zero. The feds are pumping money into the economy as fast as they can. And they’ll give a fellow up to $4,500 if he’ll agree to kill his old car. The Cash for Clunkers programs seem cruel to us auto enthusiasts, but they have been popular, all over the world (more below.) But what good do they do?

Even with the stimulus spending… and the stimulating low interest rates… he’s still not willing to add debt. Of course, this is just what happened in Japan. The public sector spent; the private sector saved. Net result: an on-again, off-again recession that has lasted almost 20 years.

That’s a depression. It’s a point where the model no longer works. Look, how could the US economy recover? It’s a consumer-led economy, so the consumer would have to spend more money. But he’s not earning more money. He has no prospects of earning more – not with 10% unemployment and a punky economy. So, the only way he can spend more is by borrowing. Ergo, the only way the consumer economy can grow is by adding more consumer debt. Is that possible? Could the ratio of debt to GDP go to 400%… 500%… to the moon?

Well, we’ve weren’t born yesterday. We’ve been around long enough to know that almost anything is possible.

This morning’s news tells us that the federal deficit through July comes to $1.27 trillion. We didn’t think that was possible. And despite this inferno of new debt… the 10 year Treasury bond yields barely 3.6%. We never thought that was possible either.

So, anything could happen. But generally, government stimulus only works when it is not needed. That is, it only works when it goes in the same direction as the underlying trend… not against it. Just like you can make a sailboat go faster by unfurling the sails, you can speed up an expansion by offering more and easier credit.

But now, the underlying trend has reversed. It’s no longer a credit expansion; it’s a credit contraction. The consumer has had his fill of debt. He’s cutting back on his spending and paying off debt. That’s what the July figures show. That’s been the history of entire downturn. That’s why it’s a depression, not a recession. It’s a major change of direction that will take years to accomplish. Now, stimulus is not only useless – since it is against the major trend – its counterproductive. It delays and contradicts the adjustments that need to be made.

But wait. We know what you’re thinking – that the Cash for Clunkers program is a success, because it encourages consumers to buy. See. Sometimes central planning really works, right? Yes, and if you look no further than the auto sales figures for proof, who can argue? Alas, a centrally planned economy is a perverse thing… where every positive statistic has the crumpled up bodies of tortured numbers buried beneath it. Take away the ‘free money’ from the feds and there’s nothing left. No real increase in demand… just a temporary demand based on a temporary and unsustainable stimulus.

Encouraging people to buy too much was what caused the problem in the first place. Encouraging them to buy more now is not a solution, it’s just a continuation of the same flawed policy of stimulating consumer demand… a policy that has been in place for decades.

But now the wind is blowing in the other direction. The government may not like it, but they can’t stop it.

***

Vandal Economics

“In keeping with the requirement that old engines be
destroyed, mechanics across the country poured sodium
silicate into crankcases and revved engines, causing mass
car death. “It just don’t make sense,” said a
used-car-parts salesman in Dayton, Ohio. In Glenview,
Illinois, mechanics watched a blue 1994 Chevy Lumina van
wheeze and choke for five minutes before stopping. “That’s
a good American GM product,” said service manager Mark
Rolla, “that won’t die.”

Harpers Weekly

Let’s open up the hood and take a better look. Does ‘Cash for Clunkers’ really work, we ask? In answer, we guffaw. Then, we invite dead economists to guffaw with us.

Richard von Stigl, among others, pointed out in 1923 that there is a big gap between real economics and the vulgar economics that drives policy decisions. On the one hand, serious observers study what happens in a pure, natural economy and draw their truths from its crystal streams. On the other, the meddlers distort the economic world so much that the observations of the old economists hardly matter. Downstream from the meddlers’ camp the water is not even fit to drink.

In theory as well as in fact, the planners never know what they are doing:

“The… knowledge of the circumstances of which we must make use never exists in concentrated or integrated form,” began Friedrich Hayek in 1945, “but solely as the dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess.”

A “good” is a good only insofar as it is good to the person who wants it. The public servant – as able and self-less as he may be – has to guess. History and theory tell us what happens; he usually guesses wrong. Only the individual knows what he wants and how to get it. He compares one good against others – using prices to guide him to where he gets the most good for his money. But when the government steps in with its subsidies, it effectively contaminates the stream of price information. Now, the consumer, with no clean signal to guide him, makes mistakes. He may be lured to buy a new car. The central planners may be pleased. They see the effect they desired – more auto sales. But what don’t they see? We invite Frederic Bastiat for an opinion (1850):

“Between a good and a bad economist this constitutes the whole difference – the one takes account of the visible effect; the other takes account both of the effects which are seen, and also of those which it is necessary to foresee. Now this difference is enormous, for it almost always happens that when the immediate consequence is favorable, the ultimate consequences are fatal, and the converse.”

But who listens to Bastiat or Hayek? Ten countries have taken up ‘cash for clunkers’ programs. In Britain the government puts up 2000 pounds to grease the deal… with a total of 300 million earmarked for the program. In America, the ‘cash for clunkers’ program was extended last week, giving buyers a bonus of $3,500 or $4,500 when they turn in an old vehicle. In France, buyers get 1,000 euros toward the purchase of a new car.

Everywhere, the program is hailed as a success. It is widely thought not only to boost auto sales, but to help revive the economy, reduce pollution, cut oil imports and even lower highway deaths. We haven’t heard that buying a new car contributes to weight loss but we haven’t seen the TV news. Even ‘free market capitalists’ such as Larry Kudlow say they like it:

“The cash-for-clunkers rebate program is working. … And the price tag of the program is a mere $2 billion compared with the trillions of dollars Washington has been wasting. So, for once in our lives, Washington spending is giving us a good bang for the buck.”

Bastiat knew better. He described a scene where a boy had broken a shop window. The store’s owner was annoyed, until a foolish economist pointed out that the broken window was a blessing in disguise. It gave work to the glaziers and glass makers. The glaziers then could buy other things… and thus did the whole economy enjoy a bounty from this single act of vandalism.

But wait; Bastiat wanted to know: if you could improve the lot of mankind by breaking windows, why not smash every window in Paris? And if you could improve the lot of mankind circa 2009 by crushing cars, why crush them all? And knock down London and New York too. Think of the boom that would accompany the rebuilding!

Obviously, it doesn’t work that way. Replacing broken windows, or crushed cars, takes resources away from some other uses. This unseen effect is actually greater than the seen effect – the improved market for new cars. Lured by phony price information, buyers send phony signals to the rest of the economy. The automakers produce more cars than they need. Steel, which might have gone to refrigerators is used for car doors. Oil, which might have been used to generate electricity, is used to stamp out fenders. Savings, that might have been invested in new industries, go to prop up an old one.

Kudlow allows himself a peek at the unseen consequences: “… yes, it’s quite possible that government rebates today will steal car sales from next year. But let’s cross that bridge next year… ” Then, he even wonders, briefly, at the obvious foolishness of it… almost as though he were a serious thinker: ‘Well, why not just spend another $100 billion and give consumers checks for everything?’ Or, ‘Why not spend another trillion?’ Well, I don’t want to go there… ”

No one wants to go there. The old economists shake their heads: ‘it’s a fraud,’ they say. The rest of them don’t give a damn.

Source: An Unsustainable Stimulus

If you need a place to live and want to own a house, why not? Prices in some areas are fairly reasonable. But if you’re speculating, our guess is that you’ll get a better deal if you wait.

Why? For the many reasons we have given you in these Daily Reckonings. House prices may be firming in some areas – that’s what the Case-Shiller numbers seem to show. But nationwide, they are probably headed down for quite a while longer.

Herewith, four reasons why:

First, as you know, this is a depression. It will probably be long. And deep. You wouldn’t know it from looking at the stock market or reading the news. The Dow went up another 114 points yesterday. Oil rose to $71. And the dollar – anticipating inflation – fell to $1.44 per euro.

But that’s what bounces are supposed to look like. They look good enough so that people mistake them for the real thing… and get suckered into more losses.

Depressions drag down asset prices. Typically, prices become much more reasonable. And then they reach UNREASONABLE levels. House prices have become reasonable. Now they will become unreasonably cheap…

Second, waves of resets and foreclosures are still washing over the housing market. As Barry Ritholz told us in Vancouver, we’re only half way through the foreclosure process. There are more than 18 million empty houses in America. A news report yesterday told of a 32-storey apartment building in Florida with only one lonely tenant.

And still coming up are more refinancings… more drowning homeowners … and more people giving up on homeownership altogether. The bubble era created new households at the rate of 1.2 million per year. Practically every one of them wanted to get in on the housing boom. Now, there are only 500,000 new households per year. And few of them still believe that housing is the route to wealth. At the current rate, it will take many years to fill up all America’s empty houses.

Third, incomes are falling. Property crashed because people with average incomes could no longer afford to buy the average house. Now, they can afford even less. Ken Rogoff estimates that the consumer needs 6-8 years to pay his debts down to a more reasonable level. Part of that deleveraging process will mean getting rid of heavy mortgage debt – one way or another.

Fourth, there are too many houses that are too big… and in the wrong places.. Big houses were a status symbol in the bubble years. Now they’re a symbol of extravagance and error. Plus, they’re expensive to own. People will want to dump them – even if they can afford them. There was far too much building in the outlying suburbs of the sand states too – Arizona, Nevada, California and Florida. Those houses may have to be abandoned as people are forced to move closer to where the work is.

There are also a couple of more technical reasons why the Case-Shiller numbers may be erring on the bright side: seasonal adjustments and a changing mix of houses sold. But our guess is that real house prices – adjusted for inflation – will continue going down for many more years.

You want to see deflation? Go to Tokyo City in London. The restaurant chain says it is going to give its food away for free. Customers will pay for drinks plus 2 pounds 50 pence for service.

Meanwhile, in Tokyo itself prices are falling – again. The Japanese have had on-again, off-again deflation for the last 20 years… ever since their stock market crashed in 1989.

Hey, what’s the matter with those Japanese? Don’t they know about stimulus?

Hold on there, pilgrim. What the Japanese don’t know about stimulus ain’t worth knowing. They’ve stimulated their economy so much that their government debt now measures 200% of GDP. And what did they get for all that stimulus? Did it get their economy moving?

Are you kidding? Now, the latest news tells us that they also have the highest jobless rate in 6 years. And the latest figures show the inflation rate NEGATIVE. In fact, never has the inflation rate been lower.

*** Nissan announced an electric car. Shares soared.

*** Jobless benefits are running out for 1.5 million unemployed Americans, says a New York Times report.

*** And here a commentary by David Pauly on what Wall Street is doing about low earnings – lying!

“Stock analysts continue to promote corporate earnings lies, insisting that net income isn’t really what investors need to know… .

“In analyst speak, Intel Corp. (NASDAQ:INTC) wasn’t hit with a $1.45 billion fine from the European Union in the second quarter for anticompetitive practices.

“After setting aside funds to cover the fine, which Intel is appealing, the semiconductor-maker had a quarterly loss of $398 million, or 7 cents a share. Disregarding the fine altogether, analysts maintain the company earned 18 cents a share, beating their average estimate of 8 cents.

“As Wall Street tells it, the employee stock options Google Inc. granted in the second quarter didn’t cost its shareholders $293 million.
“Google (NASDAQ:GOOG), according to generally accepted accounting principles, earned $1.48 billion, or $4.66 a share, in the period. Not enough for Wall Street, which prefers to say the company earned $5.36 a share, leaving out the cost of stock options.

“Viacom Inc. (NYSE:VIA.B), an entertainment company, this week reported second-quarter net income of $277 million, or 46 cents a share. Analysts had estimated profit as if money Viacom paid out in severance in the period wasn’t the real thing. On that basis, Viacom earned 49 cents a share, beating the average estimate by 1 cent.

“Time Warner Inc. (NYSE:TWX), a rival of Viacom for entertainment dollars, said it earned $519 million, or 43 cents a share, in the quarter. Analysts insist Time Warner earned 45 cents, excluding, according to Bloomberg data, costs related to litigation and asset sales. Lawyers must work for nothing.

“By similar Wall Street reckoning, the expense of cutting jobs and selling an asset that reduced McGraw-Hill Cos. (NYSE:MHP) second quarter earnings per share by 10 percent was immaterial.

“Analysts also say investors should ignore $129 million that Textron Inc. (NYSE:TXT), maker of small airplanes, helicopters and golf carts, charged against net income in the latest quarter. Included was the cost of shutting a plant for an eight-seat jet Textron decided not to build.

“General Electric Co. (NYSE:GE), which makes jet engines and electric power equipment and has a financial services arm, had a second- quarter profit of 24 cents a share. GE and the analysts emphasized earnings from continuing operations, which at 26 cents a share, exceeded their estimate by 2 cents. A $194 million loss from discarded businesses was discarded.”

And so on… and so on…

*** “As You Like It” was as we liked it – lively, bawdy, and raucous. It is not Shakespeare’s finest play – or so the critics say. But it has some marvelous dialogue. “All the world is a stage… ” is the most memorable.

Our hostess had set up a stage on the lawn and put out a hundred or so chairs for guests. But by the time we sat down it had begun to rain. The chairs were wet. A Frenchman gallantly wiped off Elizabeth’s chair. Your editor sat down in a puddle… and the play began…

The rain continued throughout the performance. Some spectators – perhaps those who listened to the weather forecast – came equipped with parkas and anoraks. We had an umbrella, which we held over our heads throughout the performance.

Despite the drippy conditions in the bleachers, a good time was had by all. The English actors who performed the play were real pros. They enlivened the set with music and acrobatics, moving the story forward 4 centuries to the days of Peace & Love and strawberry fields forever. We never quite got the connection… but it seemed to work, somehow.

After the play was over, we retired to a stone barn for soup and dessert. There, we met neighbors whom we only see once a year – in August. Among them was a dear Daily Reckoning reader.

“I’m glad I bought gold when I did,” he said. “It was $600 or so at the time. So I made a gain on the gold. But the important thing was that I wasn’t caught in that sell-off in stocks last year.

“What do you think gold is going to do now?”

“Probably, it will go down,” we replied.

“So, you’re selling your gold?”

“No… we’re holding on… It’s too risky to sell it.”

*** “Of course, that’s the big question,” Elizabeth began on the drive home.

“What’s the big question?”

“About whether the world is just a stage. It’s really a question of free will. About whether we do things because we think them through ourselves, or whether we just play our roles.

“I suppose it’s related to the ‘Great Man’ theory of history… the idea that people actually determine history, rather than play their parts in it… ”

“It’s probably like all the great questions… that is, both true and untrue at the same time. I mean, Louis 14th couldn’t have been Louis 14th if there hadn’t been a Louis 13th… and if France hadn’t been the leading country of Europe… and if it hadn’t been the peak of the monarchic age.

“And Rommel couldn’t have led a Blitzkrieg in WWII if the tank hadn’t been invented in WWI… .

“In both cases, it appears that Shakespeare was right… that the roles were already there, just waiting for someone to play them… ”

“Yes, but I wonder if that is true… or as completely true as it looks. The fellow who took over from Lenin didn’t have to be a monster, did he?”

“I don’t know. If he hadn’t been so ruthless some other guy probably would have purged him out… sent him to the gulag. Once a revolution gets started, the most violent and ruthless groups seem to take over. So, I guess you could say that even there… the role must be played… ”

“Does that apply to our personal lives, too? Are we just playing roles? You are pretending to be my husband. I am pretending to be your wife. We are pretending to love each other. Is that all there is to it?”

“No… no… that’s very different… ”

“How so?”

“I don’t know… but when I say I love you, it comes out of my soul like smoke from a sacred volcano… ”

“What does that mean?”

“I don’t know… I just like the sound of it… ”

Source: More Empty Houses in America

You’re probably wondering why a bearish newsletter like Notes would recommend buying real estate. After all, we’ve just experienced one of the severest real estate crashes in history.

House prices are in the gutter. Taxi drivers the world over are bemoaning the fact. And you can’t open a newspaper without reading about homeowners “upside down” with their mortgages.

Of course, it’s because of the almost universal hatred of real estate that we feel it may be worth investing in right now. Here at Notes, we believe that being a contrarian investor is the best way to make money in the markets. And that means being greedy when others are fearful and fearful when others are greedy.

The Wikipedia entry for contrarian investing defines a contrarian as someone who “attempts to profit by investing in a manner that differs from the conventional wisdom, when the consensus opinion appears to be wrong.”

A contrarian believes that certain crowd behavior among investors can lead to exploitable mispricing in securities markets. For example, widespread pessimism about a stock can drive a price so low that it overstates the company’s risks, and understates its prospects for returning to profitability. Identifying and purchasing such distressed stocks, and selling them after the company recovers, can lead to above-average gains. Conversely, widespread optimism can result in unjustifiably high valuations that will eventually lead to drops, when those high expectations don’t pan out. Avoiding (or short-selling) investments in over-hyped investments reduces the risk of such drops. These general principles can apply whether the investment in question is an individual stock, an industry sector, or an entire market or any other asset class.

Our motto here at Notes is much simpler to understand. As far as we see it, you’re either a contrarian or a victim.
Underground investor Steve Sjuggerud reckons it’s now almost time to buy residential real estate. This from Friday’s DailyWealth:

If you own rental properties and are looking to unload them, you may get a nice tax break out of it, says tax expert Raife Neuman.

There may be money to be made in stocks right now. However, before jumping in consider the following facts (which we’ve plundered from yesterday’s Daily Reckoning):

1) Unemployment has risen to 9.4 million, according to heavily doctored “official” Bureau of Labor and Statistics figures. In reality, the number is much higher. People without jobs don’t spend money. They also rely on handouts from the government. One in every six dollars of personal income in America now comes in the form of federal aid.

2) Housing prices have so far been knocked down 32% since the slump began. Housing expert and Yale economist Bob Shiller reckons we’re a long way off from a recovery. People with mortgages whose house prices are falling don’t have room for discretionary spending – the kind of spending that helped keep US GDP in positive territory for so long.

3) Defaults and foreclosures aren’t confined to the subprime part of the mortgage market. Prime and Alt-A mortgages are now under severe pressure. The contagion is spreading. And it will continue to spread thanks to record job losses and the contraction of credit.

4) The resulting fallout in consumer spending is impacting production. This is evident from the severe fall-off in the transport sector. Traffic in the trucking sector is down 13% year on year – the biggest drop in 13 years. Airlines are carrying 21% less cargo. Cargo rates are down a whopping 90% in shipping.

We could go on… and on… But you get the point. As least we hope you do. The plunge in the economy may be slowing, but the data points are still heading in the wrong direction. Until this changes, we don’t fancy our chances in stocks.

We’re conservative that way: we like to have a reason for investing other than “everybody else is doing it, so it must be right.” That attitude will get you killed. You may make some money on the way to the chopping block. But sooner or later your head will still end up in a basket.

Of course, a bet on stocks right now is a bet on inflation (although not necessarily a good one). This is where the plot thickens, as a good plot always does.

We suspect the reason traders and investors are ignoring economic fundamentals in their flight from relatively safe-harbor investments (think Treasurys) into stocks is because they’re counting on the Fed flooding the economy with liquidity.

As we’ve discussed before, stocks tend to be particularly sensitive to fiscal and monetary stimulus. The problem is such overwhelming stimulus is likely to make the currencies stocks are valued in worthless.

There are better ways to bet on inflation – ways that also allow you to benefit from currency dollar devaluation. At the risk of repeating ourselves, there are two easy ways to do this.

You can go long the SPDR Gold ETF (NYSE:GLD), which has been on a tear since mid-April.

Or you can go long the PowerShares DB Agriculture Fund (NYSE:DBA), which has also been a great performer since mid-April.

Is it on… or off?

The bear market rally, that is? The Dow was down again yesterday, but by just a little… 52 points.

The short-covering rally is finished, says David Rosenberg, formerly one of Merrill’s top analysts.

“Everyone I know is laying people off… cutting back… and generally struggling to survive,” said a colleague from Florida. “I don’t believe this recovery story. The stock market might be up, but the real economy is still sinking.”

Yesterday, we went to get our teeth checked out.

“Hey… I’m a Daily Reckoning reader,” said our dentist. “So, I knew you were in town.

Asked about the state of the economy, he had this comment:

“Our business is a little counter-cyclical. People get laid off from work, but they still have their health benefits – at least for a while. They want to make use of them while they can. And they’ve got the time to do it. So, our business actually goes up.

“But then, when the recovery comes they go back to work… they’re busy… and they’ve already had their teeth fixed. We’re not seeing that yet.”

House prices are still falling. The average house in Southern California has fallen to $247,000 – a big drop from the top set two years ago. Toll Bros., one of the country’s biggest builders, reports revenues down 51%.

If the US economy is really following Japan, things are going to get a lot worse. Japan’s output is collapsing – at a 15% annual rate last quarter. The Land of the Rising Sun is a major exporter. For the first time ever, exports are falling… taking the Japanese economy down with it.

Internally, the Japanese are still not big spenders. The population is not only ageing… it’s shrinking. That’s not happening in the US. Thanks largely to its immigrants and Hispanics, the US population is expanding. But this new population is not the same as the old one. At the top of the socio-economic pyramid in the US is a huge group of aging, mostly white baby boomers. Naturally, the geezers vote. And naturally, they vote themselves more benefits at the expense of the next generation.

In fact, you can look at the entire bailout/stimulus program and the $1.8 trillion US budget deficit for 2009, as a huge transfer of wealth. Benefits are provided to the present generation at the expense of the next generation. The white boomers borrow – through their elected federal representatives. The next generation – much more Hispanic and much more immigrant – is stuck with the bill.

But it’s not that simple.

The bailout/stimulus program is a scam on top of a scam. One generation may be trying to get something at the expense of the next – but they’re both losing. On the surface, the next generation gets stuck with the cost of bailing out the present generation. But underneath, the bailout is a sham; it doesn’t really work. It doesn’t revive the economy. All it does is move money from sensible households and good businesses to reckless spenders, mis-managed firms, and foolish projects. The losers are the winners.

What it doesn’t do is bring about a general recovery in the economy. It can’t – for all the many reasons we’ve described in these daily reckonings. The feds can spend money. But they can’t turn bad investments into good ones… nor turn hopeless, brain-dead companies into successful ones… nor erase $20 trillion of excess debt.

All the feds can do, in other words, is make a bad situation worse.

First, they mislead investors into believing the fix is in. With all that money coming into the market, people think the problems are going away. “Everything is under control,” they say to themselves. Then, they put their money into stocks, deluding themselves that a new boom is underway. Later, when it becomes clear that the boom is a long way off, they are deeply disappointed. Stocks fall… and the economy enters a long, dark period of workouts, defaults, bankruptcies, disgrace and suicides.

Then, as we have explained many times, the feds’ money actually delays the process of creative destruction. Instead of burning off the dead wood and making room for new growth, the smoke jumpers at the Fed parachute out of airplanes to smother the flames. Instead of a hot fire that burns itself out in 24 months… the economy suffers a slow burn for 10 years.

Another way they make the situation worse is by undermining the rule of law and the predictability of economic rules. When a corporation goes broke BOTH the bondholders and the stockholders should suffer. But in bumbles the Federal government with bailout money. The share price plummets as investors anticipate a clumsy takeover – wiping out the shareholders. But the bonds could even go up – as the firm is given easy credit, allowing it to stay out of bankruptcy and continue paying off the bondholders.

Worse, in the case of the Chrysler bailout, the feds jumped in and upset everybody. Instead of letting the markets sort out the stockholders and bondholders, they forced a political settlement that rewarded one class and punished another. Bondholders got less than they should have… and the autoworkers union got more.

What is this? A free-market country with the rule of law? Or a third-world basket case in which the politicians decide who gets what?

And more thoughts:

*** Are you watching the dollar? Maybe the unwinding of the dollar-based paper money system is coming sooner than we expected. Yesterday, the dollar fell again – now it costs $1.37 to buy a euro. And if you want an ounce of gold, it will cost you $937.

It looks to us as though gold is headed to $1,000 again. This is not what we expected… not yet anyway.

What we still expect is a broad, long rally in stock prices. We think the Dow might go back to 10,000 before it is over. This is the rebound we were waiting for. It should boost asset prices generally – including gold, commodities and oil – as well as stocks.

Oil rose $2 yesterday too. It’s back to $62.

But this trend is probably a fake out. Underlying the positive market news is an economy that continues to decay, degrade and deflate. Remember, this is a depression, not a recession. The bubble era is over. Because the transmission is broken. The financial industry has blown up. It won’t be repaired. Instead, it will be bailed out… nursed along… and mollycoddled.

Once a bubble blows up, it is never repaired and reflated. Instead, if new money is added to the system, it goes into a new bubble. Right now, the new bubble is in the US Treasury market. How long that will last, we don’t know. But currently, if you put your money into Treasury bills – short-term US paper – your yield will be negative. This does not happen very often. If it ever happens in our lifetimes again, it will be when the moon turns blue. And anyone betting on an indefinite continuation of this bubble is probably a lunatic.

But when it blows… we wish we could tell you.

*** “Can I get a bottom of wine… ”

A drunk had wondered into the dentist office in downtown Baltimore while we were waiting to have our teeth cleaned.

“I’m sorry sir, you’re going to have to leave,” said the blond woman at the desk. “This is a dentist office. You come here to get your teeth worked on. This isn’t a liquor store.”

“Wha… .? I’m s’posed to be here… I think… .my mother sent me down here… ”

“What?”

“My mother… ”

“Wait a minute,” said an older woman behind the desk. “That’s Henry. That’s Ms. Rogers son.”

The man was very drunk. His eyes were out of focus. He was about 40 years old… wearing what looked like a hunting jacket. Wobbling as he stood before the desk.

“Okay… ” continued the blond woman. “Henry… we’re not going to work on your teeth if you’re drunk. You come back straight… and we’ll take you.

“Besides, your appointment is for tomorrow at 9:30… not today. You run along… and come back tomorrow at 9:30… and come back sober… okay?”

“Henry,” the older woman took up the conversation. “Do you have bus fare? How you gonna get home?”

“Bus fare… why? I’m not going anywhere… ”

“Yes you are… ” said the blonde woman… and she escorted him to the door and pushed him outside.

Source: The US Stimulus Program is a Scam on Top of a Scam

But maybe things are better on the other side of the planet. How’s China doing? Analysts are “cautiously optimistic,” says a New York Times report.

Retail spending in China is said to be up 15%.

Meanwhile, a report tells us that China is stepping up its purchases of U.S. Treasury debt.

Hmmm… Why would China be doing that? The official response to that question is that U.S. Treasury debt is not only the most abundant credit in the world; it is also the most reliable.

As to the first point, no one would quibble. As to the second, only a fool wouldn’t.

The price tag for the crisis-related bailouts, guarantees and boondoggles is nearly $13 billion. The United States is setting records, of course. The biggest budgets ever. The biggest budget deficits ever. The biggest bailouts.

The U.S. budget deficit is about 13%. It was a budget deficit of not even half that amount that pushed Argentina over the brink in 2001. What are we supposed to believe…that there is no brink waiting for the United States?

Even more curious…what do the Chinese believe?

“It’s all very strange,” said a new friend who came into our Buenos Aires office today. “Americans are clearly cutting back. Their credit cards are maxed out. Their houses are going down in price…”

On this last point, we provide a quick update. Bloomberg reports that the average house price actually went up by 0.7% from January to February. But before you begin to think that the housing slump is over, another Bloomberg report tells us that house prices resumed their slide in February – down 6.5%.

Charles Hugh Smith argues that not only are house prices still going down – they’ll never recover. He gives five reasons, which we’ve paraphrased below:

1. Bubbles never re-inflate; instead, they go to a new sector
2. Even if nominal prices go up, they will be undercut by inflation
3. More likely, deflation will continue to drive down prices for a long time (Consumer price inflation just came in at a negative number for the first time since the ’50s.)
4. The low-interest rate, low-inflation world that permitted high property prices is finished
5. There is no demographic pressure on housing prices; the current stock is sufficient for years.

Low housing prices force Americans to cut their spending.

“But if Americans don’t buy, China will no longer have so much money to recycle into U.S. Treasury bonds. So who will buy all those Treasury bonds?”

Bond issuance is running as high and as fast as a 100-year flood. In Britain, recently, a bond auction found itself with more bonds than buyers. Could the same thing happen for the United States?

“Well,” our friend continued, “I have a darker scenario in mind. What if China had a different game plan? What if she intends to continue buying U.S. bonds as long as she can…leaving the United States completely dependent on Chinese lending? And what if she then suddenly dumps all her bonds and U.S. dollar assets? She would lose a lot of money. But the U.S. economy would suffer far more. The dollar would collapse…so would the US economy…completely. “

Now, we turn to Addison, who points out some telling trends now underway:

“The credit crisis has stymied a unique feature of American society,” writes Addison in today’s issue of The 5 Min. Forecast.

“According to the Census bureau, 35.2 million people changed their residence from March 2008 to March 2009 – the lowest number since 1962. And back then, there were 120 million fewer Americans.”

“The New York Times does a rather unremarkable job analyzing the trend underway, but they do point to a couple of interesting changes in American society since the 1960s: Home ownership rates have risen and owners are typically less likely to move than renters. The median age of the country has edged up…old people move less often than the young do.

But probably the most telling trend underway: two-income families have become more common and increasingly necessary to maintain a middleclass lifestyle. “Finding employment for both spouses in a new location can be challenging,” says the NY Times.

“And in this environment, it’s getting more challenging all the time. The line of American’s seeking jobless benefits grew even longer last week, the Labor Department says today. Their gauge of continuing claims – that’s people seeking unemployment benefits for more than a week – rose to a new record 6.13 million. New claims inched up 27,000 to 640,000 last week – not a record, but close.

“While these numbers look awful – and they are – they’ll be a non-event in trading today… this latest report was right in line with Wall Street expectations.”

Each weekday, Addison brings readers The 5 Min Forecast, an executive series e-letter that provides a quick and dirty analysis of daily economic and financial developments – in five minutes or less.

And back to Bill, with more thoughts:

We’re continuing our report on our trip to the ranch. This has no particular financial implication; we just want to tell you what happened.

Compuel is what we’d call the ‘back 40’ in America. Except it’s about 10,000 acres…and it’s a 4-hour trip on horseback. Still, the cattle have to be rounded up from Compuel annually. Then, they are driven down to the main part of the ranch …where they are vaccinated against brucellosis and other diseases and parasites…culled…castrated…and generally treated roughly. It takes about 7 hours to drive the herd up over the pass and down to the corrals near the ranch house.

The following day, we got up before dawn…by the time we got to the corral, the sky in the East was pink. It was still cold, but warming up fast.

Jorge gave the orders.

“Javier…you and Cosimir separate out the ‘terneros’ (young animals)… Pedro and Gustavo, get on the sluices… Senior Bonner, would you like to operate the gate?”

Javier is a young man who looks a little like Robert Mitchum, if you can imagine Robert Mitchum as an Incan with a huge wad of coca leaves in his jaw. Javier wore leather chaps and a flat, broad-brimmed Peruvian cowboy hat. He and Cosimir worked fast. They yelled. They whipped. A huge cloud of dust swirled up as they got the whole herd moving in a circle…and then forced the young animals into a second pen…generally by waving their hats at them. Occasionally, the cattle would panic and the two would run for cover. And occasionally, a cow…or a bull…would get annoyed and charge. Javier, particularly, was amazingly fast on his feet. He jumped onto the stone walls of the corral a couple of times.

The last calves were lassoed…and dragged them away from their mothers, into the holding pen. Then, they were pushed through a maze of stone walls, where the passage became narrower and narrower, until they finally came to the wooden sluice. It is tight turnstile with a gate on one end and a “sepa” on the other (we couldn’t find the word in the dictionary). This sepa is rather ingenious. It is two large pieces of solid wood that open up into a V-shaped passage and then come together – suddenly – like the jaws of a clamp. The cows come through the sluice one at a time. As they come through, the rear gate closes behind them. Then, the sepa at the other end begins to close. As it closes, the cow makes a dash for freedom. But Pedro was working the sepa lever and he rarely missed. As the cow started through the sepa opening, he leaned down hard on the lever and grabbed it by the neck.

Then, the hatches on each side of the sluice opened…and the needles came toward the struggling beast.

“Mr. Bonner…you’re going to have to operate that gate a little faster,” said Jorge. “We only want one cow at a time.”

More tomorrow…we’re out of time for today.

Source: What’s China’s Gameplan?

Here at The Daily Reckoning, we’ve got substantial doubt about a number of things.

As to GM, we share the auditors’ concern. The world is full of car factories. Most of them can make cars better, faster, and cheaper than GM. Meanwhile, demand for autos is not growing as quickly as the global growth in auto-making capacity – especially in America. Not that we’re trying to pass judgment. Let the Mr. Market do that!

But GM has friends in high places…ready to lean on the scales of Mr. Market’s justice. The automaker has already borrowed $13.4 billion. It is asking for another $30 billion. But what kind of a dope would lend $30 billion to a company whose own auditors say they’re worried that it might go out of business?

Then again, who would lend money to AIG four times in a row…after discovering each time that the company was in worse shape than before?

If you guessed anything but ‘the US government,’ you are not paying attention.

The rest of the world’s lenders are idiots too – but of a different sort.

Allow us to simplify the world’s credit markets circa 2009: the world’s lenders are eager to make loans to the world’s biggest debtor; they don’t trust anyone else. The world’s biggest debtor, meanwhile, lends to the people private lenders don’t trust – the borrowers who can’t pay the money back.

Meanwhile, sales are falling; profits are collapsing; dividends are disappearing; stock prices are plunging.

Yesterday, the Dow closed down 281 points. Oil held at $43. Gold rose $21. The correction in gold could be over.

One out of every five mortgaged houses in America is now underwater. And a record 5.4 million Americans are either behind on their mortgage payments or in foreclosure.

House prices are still going down. You have to be a Lloyd Bridges to explore the U.S. housing market now.

This unprecedented drop in house prices has put millions of households underwater too. Martin Feldstein estimates that U.S. households have lost $12 trillion. It will take a decade of savings at a high rate to replace this money, he says.

The savings rate has soared…from below zero in 2006 to over 3% now. Rising savings will take $500 billion a year out of the consumer economy, Feldstein believes.

No wonder retailers are reporting weaker and weaker sales. In February, only Wal-Mart reported higher sales. Wal-Mart benefits from the ‘trading down’ effect. Now, when people spend money, they want cheaper alternatives…

Meanwhile, the cop who had the Wall Street beat when the biggest heist in history was going on…and who engineered the loans to AIG and GM…is now the chief of police. Tim Geithner said he was working night and day on Obama’s rescue plan, “because we know how directly the future of our economy depends on it.”

But as our old friend Marc Faber points out, neither Mr. Geithner, Mr. Bernanke, nor any of the men who rule us, seems to have any idea what they are talking about. As Chairman of the New York Fed, writes Faber, Mr. Geithner “did not seem to ‘know,’ in the period preceding the crisis, how the future of the economy depends on a sound financial system!”

Faber goes on to explain that not only did the key players fail to understand what was going on – when it was obvious to him, us and millions of others – they then misdiagnosed the problem and prescribed the wrong treatment. They thought it was a liquidity crisis; so they threw billions in cash at dying institutions.

At every step of the way, the feds have been clueless, hopeless, and defenseless. It was the feds who lent money at negative real interest rates for more than five years. It was the feds who pretended to “regulate” and “control” the marketplace…claiming to protect investors from fraud and malfeasance. It was the feds who licensed the banks…set banking standards…blessed derivatives because they “distributed risk more widely” (Greenspan)…urged people to buy adjustable rate mortgages (Greenspan again)…praised sub-prime lending because it encouraged home ownership…and even told consumers to “go out and buy an SUV” in order to give the economy a boost (Fed governor Robert McTeer).

The feds piled up the tinder…poured on the gasoline…and lit the match. And now, what do you know…they’ve all joined the fire department!

*** One small step for the Bank of England; one giant step towards bankruptcy.

“QE”. It does not refer to the Queen of England…but the latest codeword in central banking – quantitative easing. The Bank of England said yesterday that it would buy government bonds itself. This is known to economists as “monetizing the debt.” Because the bank takes in debt…and turns it into cash. Just like that.

The European Central Bank took a little step too. It cut rates – as did the Bank of England – by half a point. That brings the BoE down to 0.5% and the BCE to 1.5%.

Mervyn King, head of England’s central bank, said he was going to quantitative easing because, in effect, nothing else had worked. They were already lending money to English banks below the consumer price inflation level…which is to say, at negative real interest rates. But the banks weren’t cooperating. They took the money…but there it sat. They didn’t lend it out.

That is why it is obviously NOT a liquidity crisis. The problem isn’t that the banks don’t have enough cash…or access to cash…it’s that they don’t know what anything is worth. They can’t make a loan, because they can’t be sure of getting the money back.

We’ve already laid this out for you, dear reader. We’re going to do it again, in case you weren’t paying attention: this is not a liquidity crisis…and not a recession either. It’s a depression. In a depression, the economy needs to adjust to a NEW REALITY…whatever it may be.

Martin Feldstein, mentioned above, provides more figures. In the new reality of 2009, there’s about half a trillion less in consumer spending…because consumers are saving money, rather than spending it. And you can take out another $250 billion just from the crack-up in the housing industry. No building…no construction jobs…no financing jobs…no selling jobs…no furnishings…etc. etc.

That’s $750 billion less each year to support American’s retail…and indirectly, wholesale…providers.

The Obama administration is trying to make up for this private spending with public spending. But his plan, as bold as it is, will only put back about $300 billion each year. That leaves a $450 billion shortfall…which could easily remain for the next 10 years.

This is the new reality that every business, investor and household in the country must live with. Revenues will go down. Sales will go down. Profits…earnings…dividends…you know where this leads.

Well….

Actually, none of knows where it leads…exactly. From today’s perspective, it appears to lead to a Japan-like slump…a long period of adjustment to the new reality…delayed, worsened and stretched out by the efforts of our leaders.

But then…there’s that QE.

We can’t read tomorrow’s headlines…but we can read the names on tomorrow’s tombstones – they’re our own. What has to happen will happen. The United States is now engaged in the most massive spree of Madoff financing the world has ever seen. It needs to borrow more and more just to pay for previous borrowing.

At some point in the not-too-distant future…this system must crack-up. Normally, Madoff would go broke and go to jail. But what would happen if he had a printing press in his basement…and the legal write to print up as many $100 bills as he wanted?

Would the story have ended differently? Would he have the integrity to avoid full-scale quantitative easing? As to that…as to so many things…we have ‘substantial doubt.’

Source: A Crash Course in the World Credit Markets

This from Investor’s Daily Edge:

A little over a week ago, in my Monday column, I correctly predicted that the December Housing Starts and Building Permits reports would miss the mark by a wide margin. I even correctly picked the actual number. This past Monday, my prediction was that the December Existing Home Sales report would also likely disappoint. I wasn’t such a good fortune teller the second time around.

The December Existing Home Sales report actually surprised to the upside, posting a gain of 6.5 percent versus November. This equates to roughly 290,000 units.

It turns out that I just underestimated how bad the housing market is. These sales aren’t from eager buyers who got priced out of the market during the run up over the last few years. The buyers are vultures, swooping in and cleaning the carcass. Over 45 percent of the sales were “distressed” according to the report.

That is bad news for the market. It is just the beginning of a viscous cycle.

Foreclosures continue to drive down prices in all markets. As a result, more and more homeowners see their equity vanishing. Many more find themselves underwater. This leads many to simply throw in the towel and let their own home go into foreclosure, feeding the cycle.

Another item to consider is whether or not all the bank-owned foreclosures are even back on the market yet. There is growing evidence that banks are holding back properties from being re-listed to avoid flooding the market, which would result in prices being driven down below what they hope to get for the repossessed homes. This means there could be an additional backlog of properties that we aren’t even aware of yet. This will delay any recovery.

Finally, a major question that needs to be answered is how many people actually qualify to buy a home? Fannie and Freddie are said to be toughening up on standards, and banks are just flat out not lending. That means short of a huge down payment or an all-cash purchase, buying any home, foreclosure or not is going to be difficult. And the housing market needs buyers to move the inventory.

With all this gloom in the market, it is going to take quite some time for a recovery. That leaves you plenty of time to profit from the slide in the housing market. One way is shorting the iShares Real Estate Index (NYSE:IYR), another is shorting the Vanguard REIT ETF (NYSE:VNQ). Both have already seen a significant down leg, but with the housing market the way it is, there is still plenty of room to the down side.

A more speculative play could be the UltraShort Real Estate ProShares (NYSE:SRS). This ETF moves inverse to real estate, so it goes up as the market goes down. A quick look at the chart shows a huge spike in November and a drop since then. It is now trading at two-year lows, so you could view it as a more speculative play on the continuing decline of the housing market.

Source: There Is Still Money To Be Made In The Housing Market