"They Are Going to Have to Call on Bernanke"

George Melloan takes a look, in today's WSJ, at the current financial markets and the money that will be needed to fund the "stimulus" package, and he reaches one conclusion:

The Obama administration and Congress will call on Ben Bernanke at the Fed to demand that he create more dollars -- lots and lots of them.

What will happen as a result of this money printing madness? Melloan answers this question:

Well, the product of this sort of thing is called inflation. The Fed's outpouring of dollar liquidity after the September crash replaced the liquidity lost by the financial sector and has so far caused no significant uptick in consumer prices. But the worry lies in what will happen next.

Melloan gets the inflation part correct, but then believes this will automatically lead immediately to stagflation:

Inflation is the product of the demand for money as well as of the supply. And if the Fed finances federal deficits in a moribund economy, it can create more money than the economy can use. The result is "stagflation," a term coined to describe the 1970s experience. As the global economy slows and Congress relies more on the Fed to finance a huge deficit, there is a very real danger of a return of stagflation

In our book this is a fundamental misunderstanding of stagflation. Stagflation occurs when the Fed prints enough money to fuel inflation, but not enough to force the economy completely in the direction of a distorted consumption/savings ratio. Because the Fed printing ultimately leads to inflation, more and more new money needs to be printed to flood the economic structure in a fashion to distort it in favor of the capital goods sector. If you need 15% money printing to support the distorted structure, but the Fed is only printing 10%, that will result in inflation and recession, i.e., stagflation.

At the present time, the Fed's double digit money printing appears to be more than sufficient to support a distorted capital structure, which will mean inflation and a climbing economy and stock market.

The Nobel Prize winning economist, Friedrich Hayek, who coined the term stagflation, understood this. Inflation itself, when it is powerful enough, will fuel the stock market higher. He said as much in his interview in 1975 on Meet the Press. Equities were the best hedge against inflation, he said. The 1970's, however, did turn into a period of stagflation, as the Fed printed money, but not enough to support the distorted capital structure. Thus, you had recession and inflation. The current period, at least in the short-term, appears to be a period when the Fed printing will be sufficient to support the distorted capital structure and thus, the current period is likely to be a better fit for Hayek's advice, then when he initially gave it in 1975.

India to Follow $2,000 Car with $20 Laptop

Scientists in India are planning to produce a laptop computer for the price of about $20, having come up with the Tata Nano, the world’s cheapest car at about $2,000, reports FT.

It's important to keep in mind that deflation is a good thing, it improves the buying power of a currency. That said, it should be noted that government is all about propping up prices. That's what the Federal Reserve is all about, and it is what the "stimulus" package is all about. The government is inflationist because they get newly printed money first, along with their "control's, the oligarch's. It's the average American that gets screwed by getting new money late in the game.

Zimbabwe Abandons Its Currency

Zimbabweans will be allowed to conduct business in other currencies, alongside the Zimbabwe dollar, in an effort to stem the country's runaway inflation. For all practical purposes this is the end of the Zimbabwean dollar.

The announcement was made by acting Finance Minister Patrick Chinamasa.

Until now only licensed businesses could accept foreign currencies, although it was common practice.

This is a big break for the average impoverished Zimbabwean.

Now I'm wondering, does this make Ben Bernanke the world's top active inflationist?

Gloom In Davos

The BBC's Robert Preston reports

The gloom here from business leaders, private-equity specialists, hedgies, bankers, management consultants and economists is deep and unrelenting.

They are immensely pessimistic about the economic outlook and about the ability of governments to lessen the pain.

I'd be tempted to come home immediately and climb under the duvet, except for one thing: when the herd is charging in a particular direction, the herd is normally wrong.

So on the basis that the best time to buy (metaphorically speaking) is when everyone else is selling, just maybe we're near the darkest hour for the global. economy.

Right you are Robert, things may turn positive short-term, courtesy of Ben Bernanke and the World Wide Money Printers. Extremely destructive inflation may be down the road, but traditional government collected datapoints may show pseudo recovery by the second half of 2009, until the inflation and crashing dollar kick in and expose the fraud.

Major Hit Piece On Peter Schiff

Peter Schiff has been getting some well deserved positive publicity for his very accurate warnings about the economy. Part of the focus on Schiff has been the result of his clever video marketing of his calls juxtaposed against attacks on him by the likes of Ben Stein and Arthur Laffer, who got their calls on the economy wrong. However, when you live above the fold, you are likely to be eventually attacked from above the fold. It's the nature of entertainment, ah excuse me, serious news reporting. The long knives will eventually come out. The first knife directed at Schiff is out. It is wielded by Michael "Mish" Shedlock, and it has drawn blood against Schiff.

In a vicious attack, Mish uses a poor performance by Schiff portfolios over the last year to twist and turn the knife.

Mish writes:

...most of the praise heaped on Schiff is simply unwarranted, and I can prove it.

First, let's start with a look at the claim being made. Peter Schiff concludes many of his articles, books, etc. with the following statement.

Mr. Schiff is one of the few non-biased investment advisers (not committed solely to the short side of the market) to have correctly called the current bear market before it began and to have positioned his clients accordingly...

I would like to see some proof of that statement. Specifically I would like to see the average returns posted by EuroPacific clients for 2008.

I have talked with many who claim they have invested with Schiff and are down anywhere from 40% to 70% in 2008. There are many other such claims on the internet. They are entirely believable for the simple reason Schiff's investment thesis was flat out wrong.

I think this is a cheap shot.

As Mish should know, one of the toughest things to do when it comes to investing is to get timing exactly right in the short-term. To point to an investment track record over an isolated period of less than a full business cycle is an extreme disservice. Schiff's portfolios are down big over the last year, so what? Warren Buffett's Berkshire Hathaway is down by more than 40% from its 52 week peak. Does this mean Buffett is a clueless investor? Based on Mish's logic used against Schiff, investors should probably be selling short Berkshire Hathaway for the rest of their lives. (Note: Not recommended for the truly sane.)

Further, Mish distorts Schiff's investment philosophy. It just so happens that an EPJ reader sent me, a few weeks back, a clip of Schiff defending himself on his radio show against an irate caller/investor who had lost money investing with Schiff. What stood out about the call was Schiff's defense. It was quite remarkable. He asked the caller who he clearly didn't know, "Are you still getting dividends from the stocks in your portfolio?"

So Schiff had hedged against the possibility that he might be wrong, or early in his investment strategy, by buying dividend paying stocks. Nice move, I thought to myself when I heard this, very nice. Schiff was humble enough in his investment thinking to lock in solid yields in his investments, so that if things went wrong, at least his clients could sit and collect dividends while things turned around. Folks, this is an investment adviser who has his clients interests at heart. Things have gone wrong, short-term, in Schiff portfolios, but his clients have locked in yields that, I'm guessing, were locked in at very high rates.

As for Schiff's overall philosophy of investing in non-dollar denominated foreign stocks, it is sound. It is based on the belief that US monetary policy is out of control and that the government will attempt to print its way out of disaster. This money printing will ultimately lead to major inflation in the US and a crash of the dollar. Thus, high quality foreign stocks are exactly where you want to be.

The poor performance by Schiff portfolios last year was a result of Fed chairman Bernanke being so clueless that he didn't know how to properly, from a technical perspective, inflate the money supply. Money growth stopped all summer, this was a major reason behind dollar strength. Bernanke finally got the money printing mechanics figured out, and his outrageous money printing over the last couple of months will ultimately crash the dollar, and Schiff has his clients perfectly positioned for this.

It is pretty outrageous for Mish to attack Schiff and scare investors who are following Schiff. Schiff's investment philosophy is sound, and will prove very correct. Ultimately, what Mish has done is attack Schiff the way Laffer and Stein did, earlier, (Although Mish is scared enough of Schiff's analytical skills to not go completely against Schiff's call, and, thus, Mish hedges all over the place). But when all is said and done, Mish will sadly look like Laffer and Stein by attacking Schiff.

I'm sure Schiff has downloaded Mish's attack. He'll bide his time and wait for the dollar crash to begin and mash Mish in a marketing piece, just like he did Stein and Laffer.

The Coming Inflation Will Be Global

The Bank of England appears ready to emulate aggressive US money printing methods . The Bank of England was permitted on Monday to engage in "quantitative easing."

Further, Mervyn King provided more details in a Tuesday evening speech, on other actions the BOE plans. From the Independent:

The Bank of England will start buying up corporate bonds within weeks to unblock capital markets and free banks' balance sheets so that they can lend to support the economy, Mervyn King, the Bank's Governor, said last night.

In his first speech of the year, Mr King outlined radical plans for the Bank to buy up an initial £50bn of illiquid assets in the market to increase the flow of credit, with the option of ex-tending the scheme to boost the money supply by effectively creating new money. The asset purchases will come on top of a raft of other measures designed to get banks lending to limit the impact of the recession.

Mr King told a CBI dinner in Nottingham that the Bank was ready to use "unconventional measures"....

The Government is wary of taking on extra risk by buying corporate credit outright, and Mr King stressed that the Bank would only buy assets that played a key role in the financial system and for which there would be strong dem-and in normal conditions.

"There is a fine dividing line between helping to oil the wheels in markets that are temporarily impaired and artificially supporting markets in which there is no underlying demand," the Governor said. "Such asset purchases involve taking more credit risk on to the public sector balance sheet. That is why the Bank will consider purchasing only high-quality assets." He highlighted as potential purchases high-quality corporate bonds, whose risk spreads had been driven to their highest since the mid-1970s because of illiquid markets. Bank buy-ups of commercial paper could also ease that market, though it is less important in the UK than in the US, he added.

Proof Most Don't Understand How Screwed Up the Economy Is

According to a recent poll, 79 percent were optimistic about the next four years under an Obama administration, a level of good will that exceeds that measured for any of the past five incoming presidents. And it cuts across party lines: 58 percent of the respondents who said they voted for John McCain in the general election, also said they were optimistic about the country in an Obama administration.

Here's what will really occur. The economy will have an early take off, fueled by Ben Bernanke money printing. Shortly after takeoff, the economy will hit a flock of geese (roaring inflation and a crashing dollar), shutting down all engines. But there will be no water to land on and Chesley B. 'Sully' Sullenberger III will not be at the controls. Instead, Ben "Helicopter" Bernanke will be at the controls.

Mugabe Jumps to Lead Over Bernanke in Money Printing Race

Zimbabwe's central bank will issue a 100 trillion Zimbabwe dollar banknote. At current black market rates, it will be worth about $33.

In addition to the Z$100 trillion dollar note, the Reserve Bank of Zimbabwe plans to launch Z$10 trillion, Z$20 trillion and Z$50 trillion notes, the Herald newspaper reported.

Prices are doubling every day.

Murphy versus Wenzel: It's On!

Bob Murphy has responded to my latest comments regarding our differing views on the direction of the economy.

I continue to believe that Bernanke's huge money drops will impact the economy to the degree that the official unemployment rate in 12 months will be lower than it is right now. Murphy expects the exact opposite. I note that Murphy expects some of the positive employment to come from the flaky government "stimulus" programs. I concur that it is questionable that the private sector employment label should be applied, if, say, it is "...a new job making solar panels...if it's dependent on massive subsidies." But, my whole point right along has been that the government will maneuver to make the official data look good. The real economy will be a mess.

Murphy predicts that there will be no net growth in real GDP during 2009. Again, expect the real economy to be a mess, but real GDP will turn positive no later than sometime during the second half of 2009. I will have to go out on a limb to say GDP will show net positive growth for 2009 in its entirety, and unemployment is a lagging indicator, but in the interest of making this competitive, write me in for even better than expected unemploymnet.

Murphy expects CPI(urban) to rise to at least 8% over the course of 2009. While I fully expect an upturn in inflation in '09 and inflation at all levels to hit double digit rates at some point in the future, I'm not sure that this will occur in 2009. Thus, to remain consistent in my total disagreement with Murphy, I am going to say that inflation in 2009 will not hit an annualized rate of 8% for any three month period or longer. Obviously, a one month jump of 1% would put inflation at a 12% annualized rate. This could happen, but I don't think in '09 we will see 8% annualized inflation over any three month period.

Bob, I think we need to wager something on this. How about if I am more accurate, you have to come up to D.C. and buy me dinner (My choice of restaurant), if you are more accurate, I have to buy you dinner in Nashville (Your choice of restaurant)?

Bernanke Signals He Will Shrink the Fed's Balance Sheet Before Inflation Hits

Yesterday, Fed Chairman Ben Bernanke delivered the Stamp Lecture at the London School of Economics. As part of his speech, he explained how he envisions the Fed will shrink its balance sheet once banks begin to loan aggressively again:

Some observers have expressed the concern that, by expanding its balance sheet, the Federal Reserve is effectively printing money, an action that will ultimately be inflationary. The Fed's lending activities have indeed resulted in a large increase in the excess reserves held by banks. Bank reserves, together with currency, make up the narrowest definition of money, the monetary base; as you would expect, this measure of money has risen significantly as the Fed's balance sheet has expanded. However, banks are choosing to leave the great bulk of their excess reserves idle, in most cases on deposit with the Fed. Consequently, the rates of growth of broader monetary aggregates, such as M1 and M2, have been much lower than that of the monetary base. At this point, with global economic activity weak and commodity prices at low levels, we see little risk of inflation in the near term; indeed, we expect inflation to continue to moderate.

However, at some point, when credit markets and the economy have begun to recover, the Federal Reserve will have to unwind its various lending programs. To some extent, this unwinding will happen automatically, as improvements in credit markets should reduce the need to use Fed facilities. Indeed, where possible we have tried to set lending rates and margins at levels that are likely to be increasingly unattractive to borrowers as financial conditions normalize. In addition, some programs --those authorized under the Federal Reserve's so-called 13(3) authority, which requires a finding that conditions in financial markets are "unusual and exigent"--will by law have to be eliminated once credit market conditions substantially normalize. However, as the unwinding of the Fed's various programs effectively constitutes a tightening of policy, the principal factor determining the timing and pace of that process will be the Committee's assessment of the condition of credit markets and the prospects for the economy.

As lending programs are scaled back, the size of the Federal Reserve's balance sheet will decline, implying a reduction in excess reserves and the monetary base. A significant shrinking of the balance sheet can be accomplished relatively quickly, as a substantial portion of the assets that the Federal Reserve holds--including loans to financial institutions, currency swaps, and purchases of commercial paper--are short-term in nature and can simply be allowed to run off as the various programs and facilities are scaled back or shut down. As the size of the balance sheet and the quantity of excess reserves in the system decline, the Federal Reserve will be able to return to its traditional means of making monetary policy--namely, by setting a target for the federal funds rate.

So now you have the theory. Will Bernanke be able to pull this off by smoothly shrinkng the monetary base without shrnking the money supply so rapidly that it plunges the economy back into recession, or too slowly that inflaton gets out of control? It's unlikely, and the best bet appears he will err on the side of inflation.

Super-Contango in the Oil Markets

The oil market is currently in super-contango (forward prices are much higher than current prices). February crude oil is trading at $37.12 per barrel, while May crude is trading at $49.26 per barrel. This is an opportunity for instant profit. Buy current oil, sell it in the futures market and lock in the difference (less storages charges) as profit.

Indeed, shipping prices, which collapsed as trade slowed last year, are now rising sharply as oil traders fill oil tankers and moor them off Scotland, according to WSJ . They hold the oil in the tankers and deliver them against the futures contracts they have sold.

However, even these arbitrage activities have not been enough to reverse the contango.

Why aren't oil producers, themselves, also holding oil off the market to sell in future months at higher prices?

Most likely it is that the international demand for cash that has crashed the oil price, has put oil producers in a desperate situation to maintain their own cash flow at pre-crash levels, to support the oil bull market life styles they are accustomed to. Thus, the oil they are extracting, they are selling at current rates, because like General Motors and the real estate industry, they are suffering from cash flow problems.

Once Bernanke's huge money injection works its way into the economy, the contago will disappear by current prices moving higher, and eventually moving above future market prices.

"I Want My Bailout Money"

Michael Adams' new song I Want My Bailout Money has more solid economic understanding in its lyrics than is contained in Barack Obama's entire American Recovery and Reinvestment Plan

The lyrics include these gems:

I'm a new kind of thug with a Washington buzz 'cause
Dealing debt pays better than dealing drugs
---

They put the nation on a hyperinflation track
No Presidential administration can take it back
---

If you're thinkin of stealin some food, please don't
Just go to Washington and you can steal everything you want

---

The politicians are useless, don't you know that they used us
And the bankers refused us while the media schooled us...
Cause they make more money every time that they screw us

Bernanke's Monetary Reserve Problem

The Fed will add even more monetary reserves into the system then they normally would based on this new development. The money multiplier has collapsed.The M1 money multiplier just slipped below 1. So each $1 increase in reserves (monetary base) results in the money supply increasing by only $0.95 (In 2000, it was above $1.80):


The fear in the system is astounding. At some point, it will subside and banks will put these reserves to work. When that happens, Bernanke's plan has to be to withdraw reserves from the system, so that a true volcanic monetary eruption does not occur. His ability to get this right is probably slim to none. If he leaves too many reserves in the system, inflation will go out of control. A dramatic reversal of money reserves on the other hand will crash the economy. It's not a pretty picture. The likelihood is that he will err on the inflationary side.


(Via Bill Seyfried through Greg Mankiw)

The Case for Optimism (Sort of)

John Cassidy at Portfolio.com correctly outlines what is wrong with most of those forecasting years of recession for the economy:

I wouldn’t say that I’m a heady optimist, but I think there is a danger of repeating the mistake that many of us made during the boom: extrapolating current trends to make decisions about the future, failing to take into account how rapidly economic circumstances can change. There’s a risk that we may again overshoot the mark: As the economy goes down, we could be overemphasizing the negative just as we exaggerated the positive on the way up.

The most dangerous thing you can do in economics is simply extrapolate, and that is what most economists do. Cassidy's observation is right on, outside of my own view that the economy will turn around much quicker than most expect, he is the only one that seems to understand the extrapolation fallacy.

Cassidy then goes on to create a laundry list of reasons why the economy could turnaround faster than most expect. Most of his reasons belong, well, in the laundry. But he also hits on the winner and main reason this recession will be over in months instead of years:

... we have the Federal Reserve...injecting money into the financial system at a rate never seen before.

My (Sort Of) addendum to his original title to his article, The Case for Optimism, is because the economy will "recover" sooner than most expect, but ultimately the result will be an enormous growth in the inflation rate, and that is nothing to be optimistic about at all.

An Update on My Underwater Ex-Girlfrend

Long time followers may recall a comment I wrote sometime back, April 2004 to be precise, which included a few words about an ex-girlfriend and her condo buying venture.

It's nearly five years later and she called the other day. She's married now. To a Ford exec. It sounds like they live from layoff announcement to layoff announcement. There's another announcement coming next week, she told me. It would be difficult for them to move anywhere else, since they own a house outside Dearborn that is way underwater.

Her condo that she bought when she was single is also way underwater in terms of value. She tells me that she owes roughly $80,000 more for the place than it is now worth. Back in '04, I thought she would declare bankruptcy once the real estate crash came. She hasn't. It sounds like it is painful for her, but she continues to make the monthly payments to maintain her solid credit rating.

I told her to continue to only make the minimum payments (she has a fixed rate) and that in time inflation is going to bail her out, and then the payments won't seem so painful.

In '04, I told her to dump the condo and buy some gold coins. She did listen to me about the coins and bought a few. I think she paid around $400 for them. She told me that she had to sell them because she needed the cash. She kept only one, a Chinese panda, because she liked the panda art work on the coin.

She also now has two kids, because they are young, she has stopped working. Their sole income is from that of the Ford exec. Hmm.

I'll update you again in another five years.

The Fed Doesn't Understand the Powerful Impact of Their Own Money Printing

The Fed is much more pessimistic in their recent FOMC minutes, than they need to be. The Fed projects GDP to decline in 2009 "as a whole", and unemployment to "rise significantly into 2010". The Fed also expects disinflationary pressures to continue into 2010.

From the just released FOMC minutes:

In the forecast prepared for the meeting, the staff revised down sharply its outlook for economic activity in 2009 but continued to project a moderate recovery in 2010. Real GDP appeared likely to decline substantially in the fourth quarter of 2008 as conditions in the labor market deteriorated more steeply than previously anticipated; the decline in industrial production intensified; consumer and business spending appeared to weaken; and financial conditions, on balance, continued to tighten. Rising unemployment, the declines in stock market wealth, low levels of consumer sentiment, weakened household balance sheets, and restrictive credit conditions were likely to continue to hinder household spending over the near term. Home building was expected to contract further. Business expenditures were also likely to be held back by a weaker sales outlook and tighter credit conditions. Oil prices, which dropped significantly during the intermeeting period, were assumed to rise over the next two years in line with the path indicated by futures market prices, but to remain below the levels of October 2008. All told, real GDP was expected to fall much more sharply in the first half of 2009 than previously anticipated, before slowly recovering over the remainder of the year as the stimulus from monetary and assumed fiscal policy actions gained traction and the turmoil in the financial system began to recede. Real GDP was projected to decline for 2009 as a whole and to rise at a pace slightly above the rate of potential growth in 2010. Amid the weaker outlook for economic activity over the next year, the unemployment rate was likely to rise significantly into 2010, to a level higher than projected at the time of the October 28-29 FOMC meeting. The disinflationary effects of increased slack in resource utilization, diminished pressures from energy and materials prices, declines in import prices, and further moderate reductions in inflation expectations caused the staff to reduce its forecast for both core and overall PCE inflation. Core inflation was projected to slow considerably in 2009 and then to edge down further in 2010.

What's really going to happen:

Because the Fed fears a deep, deep recession, they will print and print more money. This means that the recession will be over much earlier than they foresee, sometime before the end of 2Q 2009. Inflation, not deflation, will be a major problem in 2010.

Mark Cuban on the Possibility of Buying the Cubs

I happen to think that Mark Cuban is one of the sharpest business people around.

After selling Broadcast.com to Yahoo, just before the dot.com crash, he had the sense to "collar" his Yahoo stock to protect against a falling Yahoo stock price. In many ways, given the billions it meant to him, it was a no brainer move, yet he did it, and there are many more former "rich on paper dot-com" people that now wish they had followed Cuban's lead.

Cuban today has a fascinating blog post about his efforts to buy the Chicago Cubs. It really provides insight into his thinking.

It would be fun to see Cuban as owner of a major league baseball team. And, Mark, don't be afraid to pay up a bit. A sports team is a great inflation hedge. Sports tickets and advertising fees are very easy prices to raise. It's likely to payoff for you much better than T-bills or wherever you have your cash sitting. But, if you are going to borrow money from the banks, there is no better time to lock in rates--and you are absolutely correct in wanting to go long term with any financing you want to do. If the banks won't go long term, call the person that structured the Yahoo collar for you, he should be able to turn a short term borrowing into a synthetic long term borrowing. If he can't figure it out, email me. I'll get it done for you.

Is the FEAR Over?: Mutual Fund Outflow Has Stopped

The first sign that fear is subsiding has appeared, in the mutual fund sector.

Investors pulled a net $320bn from mutual funds in 2008, a record in both dollar terms and as a percentage of assets. Equity funds had outflows of $233.5bn in the year to December 29, with bond funds seeing outflows of $58.2bn and balanced funds – which include both securities – having outflows of $28bn, according to Emerging Portfolio Funds Research.

However, it appears that outflows stabilised and even reversed in the final weeks of the year. Investors put a net $23bn into equity funds during December and withdrew only $3.5bn from bond funds.

Stocks are now in very strong hands, meaning that if those holding stocks right now were not scared out of stocks by the crisis period of 2008, it is going to be very difficult to spook these people. They are long term holders. Further, given that M2 nsa is growing in excess 0f 20% on an annualized basis over the last three months, the stock market is set for a huge, and I mean huge rally.

The fear may be over. Up to the plate next, somewhere in 09, major inflation.

From Ponzi in 2008 to Pozzo in 2009

The closing weeks of 2008 resulted in the public exposure of a spectacular Ponzi scheme run by Bernard Madoff. Losses, still not exactly known, are estimated, by the schemer himself, to be around $50 billion. The size of the scam has caught the attention of the world, and yet, it pales in comparison to the Pozzo scam headed directly our way.

International diplomat and manipulator Carlo Andrea Pozzo di Borgo of Corsica was a childhood friend of Napoleon who eventually turned against Napoleon. He also turned against his political sponsor, Paoli, to more quickly advance his own career. It is with this background, that while studying at Cambridge University, John Maynard Keynes was tagged by fellow students with the nickname, Pozzo. The nickname lasted for the remainder of his life.

It is the economic beliefs of John "Pozzo" Keynes, centering on spending money as a method to boost an economy, that will impact modern day America. The incoming Obama Administration has already announced a $700 billion spending program. There is even more likely to come. This, we hasten to add, is on top of the "rescue" programs of the Bush Administration.

The economic justification for such spending programs exists in the writings of Pozzo Keynes. But the tremendous spending results in few considering the "take away" that accompanies every Pozzo penny spent. The take away is the source from where Pozzo money must come from. If $700 billion is spent, $700 billion must be taken from somewhere to fuel the spending. Like the crazy aunt in the attic, the "take away" is rarely spoken about. But it is most important to understand it.

The take away can only occur in three ways from taxation, borrowing or money printing. Each has a vicious negative impact on the economy. It's as though the crazy aunt has been put in charge of driving the family to church in the family car.

Taxation, of course, cuts into the saving and spending ability of those taxed. The Obama insiders have leaked to the press that the "take away" will not come via taxation. This leaves borrowing and money printing. Borrowing crowds out the borrowing of the business man, so less is produced. During a downturn, the last thing you want is less production. The money printing option fuels the inflation machine.

Thus, the Pozzo Plan is one of less production or more inflation. It succeeds in capturing the imagination of the shallow thinking public in much the way the razzle dazzle that accompanies a Ponzi scheme catches their eye. They see what is going on directly in front of them, but nothing is said about the source of the money. This is the 2009 we face.

If the choice is between a Ponzi scheme and a Pozzo scam, a Ponzi scheme is always preferable, since it is voluntary and thus can be avoided and, secondly, it never grows to the size of a Pozzo, and is thus much less damaging to the overall economy. But, the big Ponzi scheme of 2008 is yesterday's news. The news for 2009 is all about John "Pozzo" Keynes and the wonders of Pozzo spending. It is going to choke, hurt and do nothing but mess up the economy, and you are going to have to be very quick, sharp and lucky to keep away from its clutches. Happy New Year.

Marc Faber Gets It......Go Short Treasury Securities in '09

Marc Faber, editor & publisher of the "Gloom, Boom, and Doom Report" did a call- in to CNBC's Squawk Box this morning, he told Squawk Box:

You want to be in gold, silver, platinum, and also oil. If you believe in a recovery of asset prices as a result of money printing, you should be in hard assets, particularly precious metals...I think the big trade in 2009 will be to go short Treasurys massively -- I really mean massively -- because we may have inflation for one, two, three years ....

Faber is being an optimist here. It's not the length of the inflation, it could be even longer than three years, but the severity. We are looking at double digit rates very quickly.

Things could start to turn very quickly out of the gate in 2009. Any economist, expecting the downturn to last into 2010, doesn't understand business cycle theory.

Shop 'Til You Drop: The Retail Sales Picture

The headline retail sales spending number is down 8% in December according to MasterCard's Spending Pulse. However, taking the number apart, gives a slightly different story.

When gasoline sales (gasoline prices are down 40%, year-over-year) are excluded, the decline through Christmas Eve is only 4%. Since the price of oil is influenced, not only by retail gasoline demand, but also commercial and industrial use, this is a much more complicated number.

Now for the retail picture ex-gasoline. Bad weather on both coasts clearly had a negative impact on sales, but a more important factor is that between Thanksgiving and Christmas this year there were just 27 shopping days versus 32 in 2007, a difference of 16%. Unlike 2007, you have a very strong post-Christmas day shopping window Friday-Saturday-Sunday. Thus the number to watch is the number I posted earlier, January 8, when full December numbers are announced.
All this said, it was still a dismal Christmas season for retailers. The demand for cash is obviously very strong--people are very scared about the economy. However, this doesn't mean that the consumption-savings ratio is not readjusting towards consumption. If capital goods sales plummet faster than retail sales, and they are, the ratio is readjusting in favor of consumption. ABCT lives. What's going on is a downward readjustment of the price level at the same time as the consumption savings ratio is readjusted, with the added demand for cash acting as though the money supply is shrinking.

This is a once in a lifetime phenomena, equivalent to a Total Solar Eclipse. What makes this even more amazing is that you now also have the Fed aggressively printing money at record levels. It's almost as though the "Big One" earthquake hits Southern California on the same day as the Total Eclipse of the sun.

At some point the Fed money printing, what Bernanke is calling "quantitative (I'll say) money management", will overtake the desire to hold cash balances. Things will reverse and there will be a flight from cash. Thus, your money right now is worth more than it probably ever will again.

In other words, there are major discounts at most retailers---you will never see these type prices again, if Bernanke succeeds in his money printing--it's not a day to be reading blogs. It is the ultimate shop 'til you drop day. If there is something you need or want, today is the day to buy it. The price is likely never to be as low again.

Cash is king, probably only for about another week.

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The Fed versus Fear: A Status Report on the Economy

As I have noted in recent posts, any growth in the economy appears to be coming out of the consumer sector, with growth in revenues from live concert appearances and the astounding $805 million in payroll going to four New York Yankee players.

This strength in parts of the consumer sector, in an overall weak economy , falls in line with Austrian Business Cycle Theory. During a readjustment period in the economy, according to ABCT, the consumer-savings ratio readjusts itself to show greater strength in consumption versus savings (which would be reflected in capital goods purchases). But, how does this square with the likelihood that on January 8 when retailers report their sales for the month of December, they are likely to show a decline in sales in total of around 1 to 2%?

It squares because of other factors that occur during a readjustment period, in particular, the fear which leads many to hold on to cash. The spectacular growth in M1 is an indicator of just how much fear there is in the economy, as it has grown in recent months in excess of 30%. The desire to hold larger cash balances (as indicated by the growth in M1)in many ways has the same impact as a decrease in the money supply would have. A general deflation of prices occurs, which ultimately results in a lower overall price level. So what does this have to do with ABCT and the consumption-savings ratio. It means that if there is a strong demand to hold cash balances, which puts downward pressure on all prices, even if some consumer prices are falling, the consumption-savings ratio can still be readjusting in favor of consumption versus capital. It just means that even less spending is occurring in the capital goods sector and that prices are falling by larger amounts in the capital goods sector. And this is what is occurring, the prices of real estate and autos, for example, are dropping by much larger amounts than products in retail stores. This is also why we see dramatic declines in total sales in the housing and auto markets dropping by much larger amounts than the sales declines at retail stores. With this condition, the consumption-savings ratio is adjusting in favor of consumption.

All this being said, over the last two months the Fed as been increasing money supply (measured by M2 nsa) at double digit rates, which will again at some point push the consumption savings ratio in favor of savings (capital goods purchases).

Right now it is a battle between fear by the general public, which is holding on to additional cash, versus the Fed and its pumping of money. The Fed will eventually win this battle. It will mean a "recovery" (a movement towards the capital goods sector, i.e. the stock market, autos etc.) and overall climbing inflation, including that of consumer prices.

Although exact timing is always difficult, the recovery will occur much sooner than most expect. Certainly a lot sooner than those who are forecasting a decline in the economy that will last well into 2010. Indeed, any surprises in the economy will be on the upside. In the stock market, for example, we could very easily start with strong, very strong upside action immediately after January 1. Longer term, the Fed's mad money printing will result in record lows for the dollar, higher interest rates and very strong price inflation.

Money Supply Watch and the Real Story for 2009

M1 nsa continues to grow at remarkable rates.

According to the Fed's latest numbers, three month annualized M1 nsa is growing at 52%. This indicates there is still tremendous fear in the system.

Three month annualized M2 nsa is growing at 20.8%. Growth in M2 is indicative of Fed money printing. 20.8% M2 growth is also remarkable. The readjustment period in the economy is going to end much sooner than most expect, given these money injections by Bernanke. Inflation and a collapsing dollar is going to be the real story in 2009, if Bernanke keeps this up.

Japan's Central Bank Cuts Key Rate to 0.1 Percent

It's going to be massive global inflation.

The Bank of Japan's policy board voted 7-1 to cut the uncollateralized overnight call rate target from 0.3 percent. It was the second cut in less than two months.

The bank said it plans to start buying commercial paper -- the short-term debt firms use to pay everyday expenses -- in an effort to funnel cash directly to firms and will increase its purchases of government bonds to 1.4 trillion yen ($15.7 billion) per month from 1.2 trillion yen ($13.4 billion).

Mankiw Says Abandon Inflation Fight, Wants 30% Inflation Over Next 10 Years

When inflation takesoff in the not too distant future as a result of current out of control monetary policy (Three month annualized growth in M2 nsa is now at 17%), look no further than Harvard Professor and best selling economic text author, Greg Mankiw, for egging Ben Bernanke on in his money printing ways.

Mankiw wants the Fed to write this in their next press release:

The Committee recognizes that moderate inflation would be desirable under the present circumstances. In particular, the overall level of prices a decade hence should be about 30 percent higher than the price level today. The committee anticipates keeping the stance of monetary policy sufficiently accomodative to achieve that degree of inflation over the coming decade.

Then he writes this nonsense:

The abandonment of "price stability" would be the modern equivalent of Roosevelt's abandoning the gold standard. Of all the things that Roosevelt did to get the economy out of the Depression, jettisoning the gold standard was the most successful.

FDR's "abandonement" of the gold standard was a big scam. It was a government insider scam to help Bernard Baruch (who was advising FDR) and John Maynard Keynes make huge profits during the depression.

First, FDR confiscated privately held gold from all citizens. Baruch and Keynes then scooped up gold stocks. With all U.S. gold now in Fort Knox, FDR instituted a gold buying scheme that pushed the price of gold higher and higher, and resulted in huge insider profits for Keynes and Baruch.

Yeah, FDR's "abandonment" of the gold standard worked well for schemers Baruch and Keynes, for the average American it has created a situation where there is now no restraint on the Fed's ability to print and print more money.

Books could be written about the errors and complications of calling for a 30% decade of inflation. First, it will cause distortions in the economy, in favor of those who get the money first. Second, its true impact can not be measured without knowing what productivity gains are doing to the price level. Further, Mankiw's proposal could very well result in a rock and roll business cycle during the entire decade, and its ultimate inflationary impact could be much more than 30%, depending where we are in the business cycle and what is happening to productivity.

And, there is no upside to 30% inflation! Helluva a recommendation.

Fed Sets Target Rate at 0 to 0.25%--Will Buy Huge Quantities of Assets; Major Inflation Ahead

The Federal Open Market Committee announced that it will establish a target range for Federal Funds of 0 to 1/4 percent.

A lot of this is window dressing since the effective Fed Funds rate has already been trading around 0.15% for the last two weeks.

Further, as I have pointed out, since the Fed has started paying interest on reserves on balance at the Fed, the level of the Fed Funds rate is not as significant since the Fed can add as much reserves as it wants at given interest rate levels.

Indeed, it appears that it will add huge amounts of reserves. From today's Fed statement:

The focus of the Committee's policy going forward will be to support the functioning of financial markets and stimulate the economy through open market operations and other measures that sustain the size of the Federal Reserve's balance sheet at a high level. As previously announced, over the next few quarters the Federal Reserve will purchase large quantities of agency debt and mortgage-backed securities to provide support to the mortgage and housing markets, and it stands ready to expand its purchases of agency debt and mortgage-backed securities as conditions warrant. The Committee is also evaluating the potential benefits of purchasing longer-term Treasury securities. Early next year, the Federal Reserve will also implement the Term Asset-Backed Securities Loan Facility to facilitate the extension of credit to households and small businesses. The Federal Reserve will continue to consider ways of using its balance sheet to further support credit markets and economic activity.

Unless the Treasury is going to be borrowing funds to put on deposit with the Fed, this means the Fed will be creating additional reserves when they buy these assets. Since the latest money supply numbers show three month annualized M2 money supply growing at 17%, it appears that Bernanke is clearly clueless as to the platform he is building for one of the greatest inflation bursts in the history of the United States.

Whoever is buying T-bills at near zero interest is in for a rude awakening, the inflation ahead is going to be fast and furious. It could start as early as January.

Consumer Price Index Slides 1.9%

The Consumer Price Index for All Urban Consumers (CPI-U) decreased 1.9 percent in November, before seasonal adjustment, the Bureau of Labor Statistics said. The November level of 212.425 (1982-84=100) was 1.1 percent higher than in November 2007.

The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) decreased 2.3 percent in November, prior to seasonal adjustment. The November level of 207.296 (1982-84=100) was 0.7 percent higher than in November 2007.It's time to take advantage of this fear generated demand for cash and stock up, at these prices, on whatever you can.

Clearly, the recession and the desire to hold cash balances is having its impact, but with the latest Fed numbers now showing double digit M2 money growth,the deflation party is not going to last. Indeed, it seems to be fueled mostly by the dip in oil. The food index and the apparel index were both higher. The energy index fell 17.0 percent in November. The decrease was about twice the October decline and energy prices are now 32.4 percent below the July peak earlier this year. The gasoline index fell 29.5 percent in November and gas prices are now 47.0 percent below their July peak.

Food prices increased 0.2 percent November following a 0.3 percent rise in October.The apparel index turned up in November, rising 0.3 percent after
declining 1.0 percent in October.

ECB and BOE Cut Rates

The seeds continue to be planted for a major global inflation.

The European Central Bank this morning slashed its main policy rate by an unprecedented three-quarters of a percentage point to 2.5%.

The Bank of England announced UK interest rates would be cut by a full percentage point to 2%. This is on top of a 150 basis point cut last month. Sweden's Riksbank meanwhile cut rates by a dramatic 175 basis points.

Paul Volcker and the October 1979 Saturday Night Massacre

Interactive video, graphics and front pages from NYT on the historic financial moment when then Fed chairman Paul Volcker announced the Fed would target money supply instead of interest rates.

Treasury Yields Hit 50-Year Low

There is still huge fear in the markets....and the terrorist attack in Mumbai isn't helping, either.

The benchmark 10-year Treasury note is trading at 1-1/32 higher in price for a yield of 2.99 percent.

The benchmark yield fell to as low as 2.82 percent today, marking the lowest in at least five decades.

I have to think this is the greatest shorting opportunity in the history of Treasuries as Fed money printing will ultimately result in major double digit inflation.

China Cuts Interest Rates By Largest Amount In More Than a Decade

It's going to be worldwide inflation. The only solution governments have to their recession causing money manipulations.

China's rate cut was 108 basis points to 5.58 per cent for loans and 2.52 per cent for deposits. It is the fourth reduction in interest rates in China since September.

Swiss National Bank Makes Surprise Rate Cut

You know global inflation can't be too far away when even the Swiss are getting into the aggressive rate cutting act.

The Swiss National Bank on today made a surprise and steep one percentage point rate cut.

The Swiss National Bank said it's lowering its three-month Libor target range by one percentage point to a 0.5% to 1.5% range.

The move "will provide the Swiss franc money market with a generous and flexible supply of liquidity in order to bring the Libor down to the middle of the target range.

Stop Printing Money...

....like the Fed did this summer and you kill inflation.

Wholesale prices plunged a record amount in October.

The Labor Department reported today that wholesale prices dropped by 2.8 percent in October, the biggest one-month decline on records that go back more than 60 years.

The 2.8 percent overall decrease marked the third straight month that wholesale prices have fallen.

Money supply growth, as measured by M2 nsa, was under 2% on an anualized basis this summer, but is now back up over 7%. Take advantage of the inflation pause while it lasts by buying hard assets.

The Ultimate Result of Inflation

"I feel safer with Warhol than with U.S. Treasury bonds."-Jose Mugrabi

HT2fs

Cheerleader Warren Buffett Warns On Inflation

Warren Buffett, whom I consider to be part of the new American Oligarch class, has written an Op-Ed piece that is published today at NYT.

In the piece, Buffett takes on the role of cheerleader for the American stock market. He tells us that for the first time he is buying stocks for his personal account.

Buffett's argument in favor of buying stocks is that in the long run they always go up--and he has the data from the 1930's to date to prove his contention. But the one thing Buffett does not point out in his article is that the current United States is much different from the United States of the 1930's to approximately the year 2000. During this period the United States was a growing, sprawling Empire. But, current day America is different. It is stretched thin. The Empire has debt owed to nations around the world. It has domestic obligations in the form of Social Security and Medicare that will soon haunt. And regulations grow on the creative business sector on a daily basis. This isn't the America Warren Buffett grew up in. It is unlikely the stock market will perform the same.

This does not mean there will not be opportunities for investors, but they will be different kinds of opportunities. Those who are quick to identify changes in macro-economic trends and find the stocks that benefit from those changes in trends will do extremely well. Those who truly dig into the fundamentals of companies and find the niche operators that outperform in the overall oppressive environment will also do well.

This does not mean that stocks in general won't go up, it will be a roller coaster period for them because of very strong inflation. The trick will be though to find the stocks that outperform the coming inflation.

Buffett understands very well that this inflation is ahead. He writes in his article:

Today people who hold cash equivalents feel comfortable. They shouldn’t. They have opted for a terrible long-term asset, one that pays virtually nothing and is certain to depreciate in value. Indeed, the policies that government will follow in its efforts to alleviate the current crisis will probably prove inflationary and therefore accelerate declines in the real value of cash accounts.

Equities will almost certainly outperform cash over the next decade, probably by a substantial degree.

Truer words have never been written by an Oligarch to the general public.

Murphy: There Is Inflation

Headlines today blare that there is no inflation, but Bob Murphy can't be fooled. You can follow his reasoning here.

Inflation Is Raging

* From Sept. 07 to Sept. 08, the prices of "intermediate goods" went up 15.4%.

* From Sept. 07 to Sept. 08, the prices of "crude goods" went up 26.0%.

Bob Murphy explains how to take the BS out of the BLS figures, here.

Global Hyper-Inflation Ahead: We Are All Zimbabweans Now

From Paris:

European financial and political leaders agreed late Sunday to a plan that would inject billions of euros into their banks in a bid to restore confidence to the teetering financial system.

Taking their cue from a rescue plan announced last week by Britain, the European countries led by Germany and France pledged to take equity stakes in distressed banks and vowed to guarantee bank lending for periods up to five years.

From Washington:

The world's leading industrialised nations have pledged to do everything in their power to prevent any more Lehman Brothers-style failures of systemically important financial institutions...

There is unanimous agreement that the global system in its current extremely stressed state could not take the collapse of another systemically important firm such as Morgan Stanley, which came under attack last week in the markets.

Felix Salmon explains how this is protection for Wall Street's chosen ones:

This is much more important, for Morgan Stanley, than any cash injection from MUFG, no matter how it's structured. The G7 is essentially telling market-makers that they can write credit protection on Morgan Stanley with impunity: they're not going to let it go the way of Lehman Brothers, with all the systemically-disastrous messiness that would entail.

All these billions being pumped into the system make one thing clear, Henry Paulson, Nicholas Sarkozy, Gordon Brown, Angela Merkel, and the like, haven't come up with anythng Zimbabwe's Robert Mugabe hasn't already thought of: PUMP MORE MONEY.

Above: A Robert Mugabe study group.

The Federal Reserve Is About To Engage In The Greatest Money Supply Inflation In Its History

Up until now, the Federal Reserve has been sterilizing its bailout activities by either loaning out or selling Treasury securities that it has had in its portfolio, to match the bailouts activities it has been conducting. In the last 52 weeks, the Feds portfolio of Treasury securities has declined by $303 billion and stands at $476 billion. But, commercial banks and bond dealers, just in the last seven days, borrowed $348.2 billion from the Federal Reserve as of yesterday.

If the Fed attempts to sterilize these borrowings it will be down to $128 billion in its portfolio. If it does sterilize the borrowings, in a day or two with only $128 billion in Treasury securities left, and more borrowing likely, the Fed would be forced to print money, as they would have run out of Treasury securities for further sterilization operations. Either way, it is likely the Fed will start printing money at unheard of rates.

Indeed, they may have already started. According to the latest data, during the week ended September 22, the Fed increased the money supply by nearly $100 billion.

We may be about to experience the greatest inflation the United States has experienced since the Civil War. Gold could break above $1,000 an ounce in record time. You have been warned.

-Robert Wenzel

TIPS Have Underforecasted Inflation

By Dr. Robert P. Murphy

Back in 2003, the Treasury began selling 5-year Treasury Inflation Protected Securities, or TIPS. (Longer maturities were available starting in 1997.) What happens is that the government pays a fixed coupon rate, but the principal is adjusted based on increases in the Consumer Price Index (CPI). Thus, TIPS yields are one of the closest things you can get to observing the real interest rate; it measures what lenders need to be offered to part with their money for a period of time, over and above the fall in the purchasing power of their money.

TIPS are really neat because, in theory, they should allow you to back out the market's expected rate of inflation (subject to a million caveats, as everything in mathematical finance is). The nominal yields on Treasurys (and yes, that's how The Man spells it, not Treasuries) incorporate both the real yield and expected inflation, and so Nominal minus TIPS (for comparable maturities) should give the average expected inflation rate during the life of the bonds. (Again, I want to stress that this is a simplification. For example, regular Treasurys are more liquid than TIPS, and so you would expect the former to have a slightly lower yield for this reason.)

Anyway, a lot of people are currently trying to calm investors by pointing to the bond market. "Look," they might say, "the monthly averages show that in August, five-year nominal Treasurys were yielding just under 2 percentage points more than TIPS. So that means the market expects average inflation of only 2 percent per year, over the next five years. Do you Chicken Littles think you know more than all the world's bond traders?"

OK I think one would have to be INSANE to predict average (price) inflation of only 2 percent over the next five years. It will be much higher than that. (Note that I am talking about the overall CPI for urban consumers, not the "core inflation" that deviously removes food and energy prices.) So what gives? Well, one thing is that--as noted in the parenthetical remarks above--there might be a liquidity premium placed on nominal Treasurys, even versus TIPS. Another is that nominal Treasurys are safer, especially as things get crazier and crazier.

It's not so much that the government will default on TIPS, but rather that they might stop indexing them for inflation. Another possibility for why the market is apparently underestimating future inflation is that the bond traders know full well how full of BS the BLS is, and so the "Inflation Protected" securities aren't really fully covering their owners. For example, if an investor expects actual price inflation of 5 percent per year, and he requires a real yield of 1 percent, then in theory he should buy a TIPS yielding 1 percent. But what if he knows that the BLS will understate the true inflation rate, and instead announce annual CPI increases of only (say) 3 percent per year, in contrast to the true inflation rate of 5 percent? In that case, the investor who requires a real yield of 1 percent will insist on a TIPS yield of 3 percent. Thus, naive analysts who trust the BLS (or who think bond traders do) would say, "Sweet! The bond market is anticipating strong economic growth, with expected real yields of 3 percent!" Note that this same bond trader--who remember expects actual inflation of 5 percent and requires a real yield of 1 percent--would buy regular Treasurys yielding 6 percent. So by our method of simple subtraction, we would erroneously conclude that this bond trader expects 6 - 3 = 3 percent inflation, when we know he really anticipates 5 percent. The difference is how much the bond trader thinks the government will understate inflation.

Finally, I have done some empirical analysis to see how the (Nominal-TIPS) technique has done so far. Now unfortunately, you can't do a true test, because the 5-year TIPS have only been around for a little over five years. However, even so I think the chart below (click to enlarge) is very instructive. It contrasts the monthly "expected future five-year inflation rate" (based on nominal minus TIPS yields) versus the monthly actual, backward-looking year-over-year increase in the CPI. I think it should be obvious that the bond market is not currently forecasting 2% inflation over the next five years.



Robert P. Murphy is an economist with the Institute for Energy Research and author of The Politically Incorrect Guide to Capitalism. He writes an infromative  blog called Free Advice and you can email him at bob.murphy.ancap@gmail.com

It's Time The Fed Adopts Volcker Religion

By Robert Wenzel

Federal officials and market players are struggling with the same issues, WSJ reports.Why haven't the steps taken so far calmed the system? What can policy makers do next?

In our book, the answer is simple. The boom was fueled by the Fed's money printing under Alan Greenspan and the early Ben Bernanke.

As we have been emphasizing in lone wolf fashion--with no regulator or other commentator coming close to mentioning this most important event of the current crisis environment--the Fed over the recent months has for all practical purposes stopped printing money. That's why the market continues to struggle.  The Fed has turned this from just a mortgage crisis, to the beginnings of a major full-fledged economic crisis.

Over the last three months M2 money supply has been growing at a 1.8% annualized rate. This can be compared to earlier this year when M2 annualized money growth was over 10%. In fact, as recently as March, three month annualized money growth was at 12.7%. Few seem to recognize the dramatic shift downward.

A lot of headline watching commentators are even reporting that the Fed is adding gobs of liquidity through their bailout operations, when in fact the Fed has been sterilizing its bailout operations, including the Term Auction Facilities, by either liquidating or loaning out the Treasury securities already in their portfolio.

WSJ reflects current beliefs when it reports:

The Federal Reserve has already slashed interest rates to counteract a deepening credit freeze and instituted its broadest expansion of lending facilities since the Great Depression to keep financial markets functioning.

As mentioned the lending facilities have been sterilized so as not to increase money supply. And we should have learned from the Volcker period that you don't target interest rates to impact the economy, you target money supply. The current Bernanke Fed has seemingly, without being completely aware, slipped into interest rate targeting.

At this point we must add that ideally the Fed shouldn't be monkeying and manipulating the money supply at all, but in realworld economik if the Fed is going to be messing with the money supply, they should be good at it. This means reverting back to Volcker's rejection of targeting interest rates, and instead targeting money supply. In Volcker's case, he targeted money supply to fight inflation, in Bernanke's case, money supply targeting is required to battle economic crisis.

This economy isn't going anywhere until Bernanke gets Volcker "Target The Money Supply" Religion. Failure to do so will lead to an enormous economic crisis which in one sense can be viewed as a cleansing of the mal-investments caused by the money manipulations of Greenspan and Bernanke. However, in the land of realworld economik, the crisis is likely to lead to untold suffocating new regulations, restrictions etc., given that the two current presidential candidates, John McCain and Barak Obama, display no knowledge of the fundamental workings of an economy. 

Robert Wenzel is an economic consultant and Editor & Publisher of EconomicPolicyJournal.com. He can be reached at rw@economicpolicyjournal.com.

A Securities and Exchange Commissioner Gets It Right

Unfortunately, he's a former Securities and Exchange Commissioner from the Republic of Panama. But David Saied does understand inflation. Saied's take on ten myths surrounding oil and inflation are here.
-Robert Wenzel

Soaring Gas Prices Force P. Diddy to Fly Commercial

Climbing gas prices have cut into the standard of living of hip-hop entrepreneur Sean "P. Diddy" Combs. He no longer takes his private jet from New York to L.A. In a video he explains gas prices are too high:

As you know, I do have my own jet, but I've been having to fly back and forth to L.A. pursuing my acting career.Now, if I'm flying back and forth twice a month, that's like $200,000, $250,00 round trip. I'm back on American Airlines...Give a shout out to all my Saudi Arabia brothers and sisters and all the brothers and sisters in all the countries that have oil... if you could please send me some oil for my jet, I would truly appreciate it...

Here's the full video:

Producer Prices Jump 1.2% in July

Inflation at the wholesale level is running at the fastest annual pace since 1981, with a 9.8 percent gain over July 2007.

For July, wholesale energy prices jumped by 3.1 percent following a 6 percent gain in June. That increase reflected big jumps in the price of natural gas, home heating oil and liquefied petroleum gas, which offset a 0.2 percent dip in gasoline costs.

Food prices rose by 0.3 percent in July after a 1.5 percent surge in June. Beef prices jumped by 7.4 percent, the biggest increase in nearly four years. Milk prices shot up by 5 percent, the biggest gain in a year, while soft drink prices rose by 2.4 percent, the largest increase in four years.

Hershey To Raise Prices 11 Percent

The Hershey Co. has announced it is raising prices on its products by an average of 11 percent.

The price increase will be the second already this year.

The immediate increase was necessary to offset "significant increases" in the cost of raw materials such as sugar, cocoa and peanuts -- up as much as 45 percent since the start of the year -- as well as the growing cost of fuel, utilities and transportation, Hershey said.
"Commodity costs have been volatile over the last several years and continue to remain at levels that are well above historical averages," Hershey's President and Chief Executive David J. West said in a statement.

Hershey said it expects sales to grow between 2 and 3 percent in 2009, down from its earlier projection of a 3 to 5 percent increase. The company also warned its 2009 adjusted profit would likely miss its target of 6 percent to 8 percent growth

Behind The Great 2008 Commodity Sell- Off

Commodity prices continue to fall.

Gold fell nearly 5 percent in early European trading on Friday. Oil prices have also slipped some more, a session low of under $113 a barrel was hit. Silver suffered the most in the sell-off of precious metals, with prices plummeting to a low of $12.39 an ounce, their weakest since last September.

Platinum and palladium slipped 7 percent and 6 percent respectively. Both have suffered significant losses in recent weeks.

The overall downtrend in the commodity markets in recent months can be seen in the performance of indices such as the Reuters-Jeffries/CRB index, which has fallen almost 18 percent since early July.

Meanwhile, the dollar extended its rally overnight, hitting a nearly 2-year high against the pound and gaining further against the euro.

What's going on?

There are four factors that may be contributing to the sell-off.

The first may be the likelihood that some of the sell-off is simply a normal technical pullback against the major trend. The commodities boom has been a multi-year boom, and thus a pullback was due at any time.

Second, the climb in commodities prices was so dramatic and long lasting that many economic actors, both consumers and producers, have had time to adjust and consider alternatives to paying higher prices and, thus, cutting back on demand.

Third, the possibility exists that some of the sell-off may be the result of hedge fund liquidations. There are continuing rumors that some hedge funds are in trouble, if so, the first things they may try to sell off to meet marginal calls and partner liquidations are various futures positions since the futures offer a very liquid market to sell into.

Fourth, the Federal Reserve over the last three months has dramatically reversed its huge money printing operation. Generally, it takes time for changes in money supply operations to impact the markets, but this change in Fed actions could impact sooner because of the enormity of the change. From double digit growth to growth in the last three months of under 3%.

To the degree that the current sell off is simply a technical pullback, it should be over soon with commodities moving higher, again.

To the degree that it is the result of economic actors adjusting their activities, the drop should soon be over and prices should stabilize at current levels.

To the degree hedge fund liquidations have been behind the decline, then as soon as the liquidations are over (and they could be over very soon), commodity prices will begin to climb again.

To fourth and final factor is most important for the long-term trend in commodities. If the Fed maintains the current low growth rate of money supply, then commodities have much farther to go on the downside as the United States will be in a deep recession--extended far behind the housing crisis.

If the Fed reverses ts low growth operations, and begins printing at double digit rates again, then this will fuel further advancements in commodities prices.

Finally, it should be noted that these factors are not mutually exclusive, and that more than one of these factors could be operating on commodities prices, sometimes in countervailing fashion.

Inflation Takes Out McDonalds' $1.00 Double Cheeseburger

In may be replaced with two burgers and one slice of cheese, or a double hamburger without cheese.

Janet Adamy at WSJ reports:

McDonald's Corp. is testing modifications to its popular $1 double cheeseburger, and higher prices for the sandwich, as it prepares to change its Dollar Menu by next year.

In an interview, Don Thompson, president of McDonald's U.S. business, said the company has tested ways to make the burger less expensive to make. Some restaurants are selling it with one slice of cheese instead of two, and billing it as a "double hamburger with cheese." Others are offering a double hamburger without cheese. Some are selling the traditional double cheeseburger at prices ranging from $1.09 to $1.19.... High dairy prices have pushed up the cost of cheese, and McDonald's predicts more pressure because its beef costs will be higher this year.

Propoganda From The Bureau of Labor Statistics

LaTi gets to follow around a price checker that helps put together the Consumer Price index. Of course, the manipulation of the CPI Index is not done at the grunt level, it is done higher up the calculation chain. Sometimes, way up the chain. Richard Nixon was responsible for the wacky "Core Inflation" that removes food and energy from the CPI.

The propaganda in the article reaches its peak when it quotes government apologist and former Council of Economic Advisors member, Michael Boskin. LaTi reports:

...economist Michael Boskin said the CPI historically has overstated inflation...

San Francisco Auto Dealers Increasingly Reluctant to Accept Trade-Ins of Trucks and SUVs

The Federal Reserve is out with its Beige Book report on the state of the economy through July 14.

Here are key excerpts:

Reports on automobile sales were almost uniformly weak across Districts. Sales were especially poor for large vehicles such as trucks, SUVs, and some minivans. Indeed, auto dealers in the San Francisco District were increasingly reluctant to accept trade-ins of trucks and SUVs due to a lack of a wholesale market for these vehicles. Demand for small fuel-efficient and foreign vehicles was reported to be solid or increasing in the Philadelphia, Cleveland, Chicago, Minneapolis, and Dallas Districts. Dallas reported that consumers were paying sticker prices for such vehicles, and that they were in short supply...

Residential real estate markets declined or were still weak across most of the country. Slower home sales were reported in the Boston, Philadelphia, Richmond, Atlanta, and St. Louis Districts. Cleveland reported flat to declining sales, while sales remained sluggish in the Kansas City and New York Districts--especially at the high end--and were below year-ago levels in the Minneapolis District. New York also reported a drop in Manhattan condo and co-op transactions. Inventories of unsold homes or condos were reported as higher or excessive in several Districts, but Dallas noted a continued decline in inventories, especially at the low end. Home prices continued to decline in most Districts, and increased use of incentives and discounting was noted in several Districts. San Francisco noted particularly sharp declines in home prices in areas of California, Arizona, and Nevada that have experienced large increases in foreclosures. Atlanta said home prices dropped across the board. On the other hand, home prices were said to be holding up in the Dallas District and were little changed in the Kansas City District. Difficulties obtaining mortgage financing were reported in the New York and Chicago Districts. All Districts reporting on single-family construction said activity continued to decline, and builders in the Philadelphia District noted a rising number of cancellations. The decline in new construction accelerated in some areas of the Chicago District...

All reporting Districts characterized overall price pressures as elevated or increasing. Input prices continued to rise, particularly for fuel, other petroleum-based materials, metals, food, and chemicals. Chicago said the rate of growth in steel prices had flattened, but overall levels remained high. Construction industry contacts in the Cleveland District noted rising prices for all types of products, including concrete, shingles, and steel. Boston reported that contacts were anticipating further price increases in oil derivatives, shipping, and travel. Many Districts reported on manufacturers' plans to raise selling prices as a result of higher input prices, with several commenting on fears of a corresponding decrease in customer demand and overall sales volume...

Demand for labor remained high for skilled workers in most industries, while several Districts reported widespread weakness in the financial services, auto, and construction industries. Contacts in the Cleveland, Atlanta, Chicago, and Kansas City Districts reported very little upward wage pressures, with the exception of the energy and skilled labor markets. San Francisco noted some downward movement in wages for construction, finance, real estate, and retail jobs

Is The Fed In Crash Dive Mode?

Krishna Guha at FT writes this morning that the Fed has moved towards an inflation bias.

If Guha is correct, the Fed may very well crash the economy.

According to Guha, this inflation bias comes in spite of the continuing troubles at Fannie Mae and Freddie Mac, extreme volatility in bank stocks and the recent dip in the price of oil.

He focuses on the June 30 Fed meeting where the minutes of that meeting say:

With increased upside risks to inflation and inflation expectations, membersbelieved that the next change in the stance of policy could well be an increase in the funds rate.

Bernanke is no Alan Greenspan. He will never get away with tightening money now, if he does we could very well have a stock market crash of the October 1929/October 1987 variety, with an accompanying recession.

Is this where Bernanke is going? Who really knows with this guy? I have never before seen a Fed that has gone from double digit money printing to zer growth, but that has just occurred with this Fed.

M2NSA money supply growth has been flat--zero growth--for the months of May and June. If Bernanke thinks he needs to get around to fighting inflation now, then he doesn't even realize what he has been doing for the last two months.

Further, given the failure of IndyMac, the fears of a bank run have escalated, which means that some bank customers from around the country are likely to have pulled their funds from banks and those funds are now in the form of physical currency. Thus, there are likely to be all kinds of distortions in the money supply numbers which make a shift in Fed policy at this time particularly insane.

Wall Street Journal Newstand Price Increased

On July 28, WSJ will increase the price of its newstand price by 50 cents, to $2.00. After the paper increased its cover price from $1 to $1.50 last year, average single copy sales fell by about 8%.

But, we should be getting more fun front page headlines. "The paper's editors are being urged to think more about how they can use the front page to boost newsstand sales — not something that has traditionally been a major focus," reports Jeff Bercovici at Portfolio.

Consumer Price Index Soars; Inflation Continues To Accelerate

The Consumer Price Index (CPI-U NSA) increased 1% in June for an annualized rate of 12.0%. It is fastest rate in 16 years. All major categories showed increases over the most recent three month period.

The index for energy rose sharply for the second straight month, increasing 6.6% in June following a 4.4% in May. The food index rose 0.8% in June after rising 0.3% in May.

Large increases in the indexes for shelter and for tobacco and smoking products and an upturn in the apparel index also contributed to the larger increase.

The food and beverages index rose 0.7 percent in June. The index for food at home increased 1.0 percent, following a 0.3 percent rise in May. Four of the six major grocery store food group indexes accelerated in June. The index for fruits and vegetables, which was virtually unchanged in May, rose 2.8 percent in June. The index for fresh vegetables rose 6.1 percent in June and the indexes for fresh fruit and for processed fruits and vegetables increased 0.8 percent and 1.2 percent respectively. The index for dairy and related products increased 1.6 percent in June after a 0.1 percent decline in May. The index for meats, poultry fish and eggs rose 0.8 percent in June after a 0.1 percent increase in May. The beef and veal index increased sharply for the second month in a row, up 1.7 percent in June after a 1.5 percent increase in May. The pork index turned up, increasing 0.6 percent in June after declining 0.8 percent the previous month. The index for eggs increased 1.4 percent in June after a 3.8 percent decrease in May and is 23.2 percent higher than in June 2007. The index for nonalcoholic beverages and beverage materials rose 0.2 percent in June after a 0.9 percent decline in May. The two decelerating groups were cereals and bakery products, increasing 0.5 percent in June after a 1.6 percent rise in May, and other food at home, up 0.4 percent in June after a 0.5 percent increase in May. The indexes for food away from home and for alcoholic beverages increased 0.5 and 0.1 percent, respectively. The index for housing rose 0.5 percent in June, the same increase as the previous month. The index for shelter increased 0.3 percent, following a 0.2 percent rise in May and a 0.1 percent increase in April.
Within shelter, the indexes for rent and owners' equivalent rent increased 0.4 and 0.3 percent, respectively. The index for lodging away from home increased 0.7 percent in June. The index for household energy registered its fifth consecutive large increase, increasing 2.1 percent in June. The index for fuel oil rose 10.4 percent for the second consecutive month and is 78.0 percent higher than in June 2007The index for electricity, after increasing for three consecutive months, declined 0.1 percent in June. The index for natural gas increased sharply for the fifth consecutive month, rising 4.9 percent in June and is up 21.5 percent over the last 12 months. The index for household furnishings and operations was virtually unchanged.

The index for apparel rose 0.1 percent in June following a 0.3 percent decline in May.Medical care costs rose 0.2 percent in June, and are 4.0 percent higher than a year ago. The index for medical care commodities-- prescription drugs, nonprescription drugs, and medical supplies-increased 0.1 percent in June after a 0.7percent decline in May. The index for medical care services increased 0.3 percent in June after a 0.5 percent increase in May. The index for recreation was increased 0.1 percent in June, the same percent change as in May. The index for education and communication increased 0.5 percent in June.

The index for other goods and services increased 0.4 percent in June. The index for tobacco and smoking products rose 1.5 percent.

PPI Rockets

Over the past 12 months, the producer price index, which tracks inflation at the wholesale level, gained 9.2% -- the largest year-over-year gain since June 1981.

The index for gasoline rose 9% in June.

Prices for fresh and dry vegetables gained 14.7%, while prices for eggs for fresh use rose 11.6%.

Prices for pet food rose a record 6% on the month. The prior record was a gain of 3.5% in July 1988.

Prices of crude goods rose 3.7% in June, as prices of energy materials rose 5.4%. Prices for crude foodstuffs and feedstuffs rose 3.5%.

For all practical purposes, inflation in the United States is now at 10%. The Fed has recently slowed money supply growth, if the slowdown continues (unlikely) it will eventually put a damper on inflation. If the Fed starts the money engines again (likely) 20% inflation down the road is very likely.

Bernake Warns On Inflation, But Generally Clueless

Fed Chairman Ben Bernanke is testifying this morning before the Committee on Banking, Housing, and Urban Affairs, U.S. Senate. The gist of his comments: We don't know what the hell is going on, but it sure looks scary, and inflation is definitely a problem We'll play it one day at a time.

Here are key excerpts from his prepared remarks, our emphasis:

The economy has continued to expand, but at a subdued pace. In the labor market, private payroll employment has declined this year, falling at an average pace of 94,000 jobs per month through June. Employment in the construction and manufacturing sectors has been particularly hard hit, although employment declines in a number of other sectors are evident as well. The unemployment rate has risen and now stands at 5-1/2 percent.

In the housing sector, activity continues to weaken. Although sales of existing homes have been about unchanged this year, sales of new homes have continued to fall, and inventories of unsold new homes remain high. In response, homebuilders continue to scale back the pace of housing starts. Home prices are falling, particularly in regions that experienced the largest price increases earlier this decade. The declines in home prices have contributed to the rising tide of foreclosures; by adding to the stock of vacant homes for sale, these foreclosures have, in turn, intensified the downward pressure on home prices in some areas.

Personal consumption expenditures have advanced at a modest pace so far this year, generally holding up somewhat better than might have been expected given the array of forces weighing on household finances and attitudes...

In the second quarter, the available data suggest that business fixed investment appears to have expanded moderately. Nevertheless, surveys of capital spending plans indicate that firms remain concerned about the economic and financial environment, including sharply rising costs of inputs and indications of tightening credit, and they are likely to be cautious with spending in the second half of the year. However, strong export growth continues to be a significant boon to many U.S. companies...

FOMC participants indicated that considerable uncertainty surrounded their outlook for economic growth and viewed the risks to their forecasts as skewed to the downside.

Inflation has remained high, running at nearly a 3-1/2 percent annual rate over the first five months of this year as measured by the price index for personal consumption expenditures. And, with gasoline and other consumer energy prices rising in recent weeks, inflation seems likely to move temporarily higher in the near term...

The elevated level of overall consumer inflation largely reflects a continued sharp run-up in the prices of many commodities, especially oil but also certain crops and metals. The spot price of West Texas intermediate crude oil soared about 60 percent in 2007 and, thus far this year, has climbed an additional 50 percent or so. The price of oil currently stands at about five times its level toward the beginning of this decade...

The decline in the foreign exchange value of the dollar has also contributed somewhat to the increase in oil prices. The precise size of this effect is difficult to ascertain, as the causal relationships between oil prices and the dollar are complex and run in both directions. However, the price of oil has risen significantly in terms of all major currencies, suggesting that factors other than the dollar, notably shifts in the underlying global demand for and supply of oil, have been the principal drivers of the increase in prices...

Although the inflationary effect of rising oil and agricultural commodity prices is evident in the retail prices of energy and food, the extent to which the high prices of oil and other raw materials have been passed through to the prices of non-energy, non-food finished goods and services seems thus far to have been limited. But with businesses facing persistently higher input prices, they may attempt to pass through such costs into prices of final goods and services more aggressively than they have so far. Moreover, as the foreign exchange value of the dollar has declined, rises in import prices have put greater upward pressure on business costs and consumer prices...

...in light of the persistent escalation of commodity prices in recent quarters, FOMC participants viewed the inflation outlook as unusually uncertain and cited the possibility that commodity prices will continue to rise as an important risk to the inflation forecast. Moreover, the currently high level of inflation, if sustained, might lead the public to revise up its expectations for longer-term inflation. If that were to occur, and those revised expectations were to become embedded in the domestic wage- and price-setting process, we could see an unwelcome rise in actual inflation over the longer term...

At present, accurately assessing and appropriately balancing the risks to the outlook for growth and inflation is a significant challenge for monetary policy makers. The possibility of higher energy prices, tighter credit conditions, and a still-deeper contraction in housing markets all represent significant downside risks to the outlook for growth. At the same time, upside risks to the inflation outlook have intensified lately, as the rising prices of energy and some other commodities have led to a sharp pickup in inflation and some measures of inflation expectations have moved higher. Given the high degree of uncertainty, monetary policy makers will need to carefully assess incoming information bearing on the outlook for both inflation and growth. In light of the increase in upside inflation risk, we must be particularly alert to any indications, such as an erosion of longer-term inflation expectations, that the inflationary impulses from commodity prices are becoming embedded in the domestic wage- and price-setting process.

Fannie and Freddie May Go Under

NYT is reporting:

Alarmed by the growing financial stress at the nation’s two largest mortgage finance companies, senior Bush administration officials are considering a plan to have the government take over one or both of the companies and place them in a conservatorship if their problems worsen, people briefed about the plan said on Thursday.

The companies, Fannie Mae and Freddie Mac, have been hit hard by the mortgage foreclosure crisis. Their shares are plummeting and their borrowing costs are rising as investors worry that the companies will suffer losses far larger than the $11 billion they have already lost in recent months. Now, as housing prices decline further and foreclosures grow, the markets are worried that Fannie and Freddie themselves may default on their debt.

We have given less coverage to the mortgage crisis of late because it is pretty obvious how the Federal Reserve will react to further crisis situations. They will buy any junk. If Freddie and Fannie have junk in their portfolios (and they probably have billions), Buy'em up Ben Bernanke will buy'em up. Nothing new here. It is now obvious this is Bernanke's modus operandi.

To date, Buy'em up Ben has been sterilizing his buying operations by selling other parts of the Fed's portfolio simultaneously with his junk mortgage purchases, but soon he will be out of paper to sterilize his buying operations, and at that point Ben will become Ben the money printer. If we get to that point, all our aggressive inflation projections will be taken off the table and replaced with even greater inflation projections.

IMF Chief Warns on Inflation

Inflation is in danger of “getting out of control” in some emerging economies, Dominique Strauss-Kahn, managing director of the International Monetary Fund,told the Financial Times.

Note to Dominique:

It's not just emerging economies, and although you spouted off that the G8 are doing important things to fight the inflation, the fact of the matter is that the only thing that needs to be done is for central banks to stop printing money.

Inflationary Price Action at Alcoa

Watch market prices, not indexes.

Stefan Karlsson reports on inflationary price action at Alcoa, here.

Another Inflation Hawk to Join ECB

WSJ reports:

The ECB - already leading the charge for higher interest rates among the world’s major central banks, having boosted its key rate by a quarter-point last week - looks set to take on yet another staunchly hawkish decision-maker in January when Slovakia joins the euro-zone.

Slovak central bank governor Ivan Sramko is expected to bring with him the strong anti-inflation bias that helped gain his country’s acceptance into the euro zone when he joins the European Central Bank’s governing council in January.

Slovakia is also almost certain to be the last new entrant to provide a member of the ECB governing council for several years to come as other prospective members, including Poland and the Czech Republic, are unlikely to join the euro-zone before 2012...

In May 2006, over year into his job at the helm of the Slovak central bank, Sramko started a monetary policy tightening cycle to tame inflationary pressures. The bank’s benchmark two-week repurchase agreement rate went from 3% to 4.75% in March 2007.

During the same period the Slovak koruna firmed over 12% against the euro, intensifying further interest rate hikes.

Yellen, Repeat Yellen, Nails It

San Francisco Fed President Janet Yellen on Monday morning gave the best speech, on the current state of the economy, that any Fed member has given, in recent memory.

Does Yellen have a new advisor/speech writer?

Normally, a Yellen speech is a "on the one hand this, on the other hand that", type speech. Never saying much but never straying far from the mainstream Fed policy line.

The fog has obviously lifted on lower Market Street in San Francisco. Here's Yellen on the economy, clear and to the point.

Even a Macbeth reference to start things off. Cool:

To get a little fanciful with the stage-setting metaphor for a moment, it is a bit like the opening of Macbeth, with the three ghastly witches brewing up trouble amid thunder and lightning—only here, the three troublemakers are the housing market, the financial markets, and commodity prices.

But the overall economy is fine, says Yellen:

In the face of these adverse developments, the recent strength of spending data has been somewhat reassuring. The pace of consumer spending, in particular, has been surprisingly robust of late...The spending appeared to be broad-based, with the not-so-surprising exception of motor vehicles, where sales have been very weak in recent months. On the business side, orders and shipments of nondefense capital goods excluding aircraft also look to have rebounded somewhat in recent months. In addition, export growth has been a continuing bright spot. It has been buoyed by continued strong growth abroad and by the weakening of the dollar. The strong incoming data on spending ease my concerns somewhat about the intensity of the slowdown...

She knows there is an inflation problem:

Inflation has become an increasing concern. Over the past twelve months, the personal consumption expenditures—or PCE—price index rose 3.1 percent, up from 2.4 percent over the prior year. An important reason for these disappointing numbers, of course, is the rise in commodity prices. Some of those increases may have also passed through to core PCE price inflation, which excludes food and energy. This measure has averaged 2.1 percent over the past twelve months, which is slightly above the range that I consider consistent with price stability...

She remains negative on housing:

Unfortunately, it appears to me that there are at least three reasons for thinking that housing prices have further to fall. First, the ratio of house prices to rents—a kind of price-dividend ratio for housing—still remains quite high by historical standards, despite having fallen from its historical peak reached in early 2006. That suggests that further price declines may be needed to bring housing markets into balance. Second, inventories of unsold homes remain at elevated levels. This "excess supply" of available homes will put downward pressure on housing prices. Indeed, these inventories are likely to directly depress construction activity, since there is little point in building new homes when there is already a large backlog of unsold homes.... The bottom line is that construction spending and house prices seem likely to continue to fall well into 2009.

Yellen on the financial markets:

The ongoing fall in house prices has important implications for the financial markets, and it is one reason that we may continue to get troubling news from that part of the economy...Still market stress has subsided to some degree, and better quality borrowers are still able to get credit...But markets remain very fragile. For example, credit-default-swap spreads for many financial institutions are again on the rise, the debt ratings for several important bond insurers have been cut, and stock prices for financial institutions have plummeted.

There is further evidence that financial markets are still not operating efficiently or effectively. In particular, the market for private-label securitized mortgages of even the highest quality remains moribund.These securities were the primary source of financing for nonconforming residential mortgages, including subprime lending...Unfortunately, progress toward sturdier and more efficient financial markets is going to take some time, and that means the flow of credit is likely to remain impeded.

She gets the nature of the securitization that caused the credit problems:

First, securitization was a key driver of the credit expansion. Financial institutions originated loans that they then bundled into securities and sold to other investors. With hindsight, it is clear that this originate-to-distribute model suffered severe incentive problems—the originator had insufficient incentive to ensure the quality of the loans, since someone else ultimately held them.

She again points out the inflation problems in the economy:

As if housing and a credit crunch weren't enough, prices for food and energy have gone through the roof. The spot price of West Texas intermediate crude oil has surged over 40 percent since January and over 100 percent in the last year, rising above $140 per barrel in late June. Prices for other commodities, such as many metals and foods, have risen sharply as well. Corn and wheat prices are up some 50 to 80 percent from a year ago.

And, makes some very astute observations on why speculators are not the problem:

There has been much discussion about speculative trading in commodities markets and its possible influence on recent price movements. Hedge funds, institutional investors, and other traders have certainly increased their positions in commodity markets, typically by investing in commodity index funds, which consist of baskets of different commodities that trade on exchanges. But I am not yet persuaded that speculation, rather than the fundamentals of global supply and demand, has played an important role in driving up prices. For example, it should be harder to speculate and take positions on commodities that are not easy to trade on futures markets and are not included in index funds. But the prices of individual commodities that are not in index funds have risen just as fast as those that are.

In addition, if speculators were important in driving prices up, then, at the high prices now prevailing, demand by nonspeculative end users would fall short of current supply, causing inventories to rise. In fact, however, inventories appear to have been declining in most commodity markets.

In short, an overall excellent recap of the current state of the economy. She, of course, dismisses, and sometimes excludes, the Fed's involvement in causing the financial and housing crisis and the inflation, but we will take what we can get.

Even if she also is a bit blind to the future severe inflationary problems that we see.

It is, thus, most appropriate that from the very Macbeth she quotes, in the closing stanza of Act I, Scene I of Macbeth, the three witches warn in unison:

Fair is foul, and foul is fair:
Hover through the fog and filthy air.

Watching Zimbawe Hyper-Inflation

WSJ carries an Op-Ed this morning from Roger Bates, who speculates that runaway inflation may put an end to Robert Mugabe rule in Zimbabwe. Here are some of the latest reports out of Zimbabwe via Bates:

Consumer prices have more than doubled every month this year, in some cases doubling every week. A conservative estimate provided by Robertson Economic Information Services, a Southern African consultancy, says that prices are now three billion fold greater than seven years ago. That's right, billion. The exchange rate is currently an astronomical 90 billion Zimbabwe dollars to one U.S. dollar.

When I first went to Zimbabwe in 1996, $1 would buy you eight Zimbabwe dollars – a depreciation in exchange rate of perhaps 10 billion fold in 12 years. A decade ago, 500,000 Zimbabwe dollars would have bought you a house; today it can't buy you anything...

Mr. Kipuru bought groceries with his debit card, which remarkably still works. The card, he explained, maxes out at just under 10 billion Zimbabwe dollars. So he had to run it 74 times, given that his food bill was nearly 730 billion Zimbabwe dollars.

Buying anything is a "bizarre experience," said Lucy Chimtengwende from Bulawayo, who spent $12 U.S. on lunch recently, with the bill in local currency being an astonishing 1.1 trillion Zimbabwe dollars. The menu had no prices on it, she told me by phone, prices are quoted to you and are constantly changing.

And here's how the economy is really able to function under these conditions, "greens":

Ms. Chimtengwende was breaking the law by paying for her meal in U.S. currency (or "greens" as they're known locally), as was the owner of the restaurant accepting it. But the economy is dollarizing as the local currency literally becomes worthless.

This underground dollar economy is actually helping Mugabe, as it is keeeping the economy from entire collapse.

Trichet On The Facts Of Life

Following a 25 basis point hike in interest rates, ECB president Jean Claude Trichet told reporters at a news conference that rising global prices might mean an unavoidable reduction in euro-zone living standards: “The shift in relative prices and the related transfer of income from commodity-importing countries to commodity-exporting countries have to be accepted.”

Certainly, what goes for the EU, also applies to the United States to an even greater degree, since inflation and currency depreciation are an even more significant problem in the U.S.

Those who are getting their hands on new dollars first will see their standard of living climb relative to those who receive new dollars later on in the new dollar timeline.

Harvard University Cashing In On Inflation

Fed Chairman Ben Bernanke recently spoke at Harvard University. He told Harvard College’s graduating class that "I see the differences between the [inflationary] economy of 1975 and the economy of 2008 as more telling than the similarities."

Meanwhile, elsewhere at Harvard, Harvard's money management team was witnessing huge profits from their bets on inflation.

The Harvard Crimson reports, "Harvard's endowment posted returns of approximately 9 percent through the first 10 months of this fiscal year, according to data from the University. The increase puts the endowment's value at around $38 billion as of this April, up from $34.9 billion as of last June."

During the same period the S&P 500 Index lost 8 percent. So how did Harvard do it?

Heavy bets on inflation.

The John Harvard Letter that was released last August shows that Harvard's investment in commodities was at 17 percent of the endowment for fiscal year 2008, making it their single largest investment by asset class. That number reflects a near tripling of the share of the endowment invested in commodities since 2000. Further, the endowment held another 7 percent of its portfolio in inflation-indexed bonds. Thus, a full 24 percent of Harvard's endowment was a bet on inflation.

With commodity prices soaring, it was the place to be, and Harvard was there.

What's Behind The Oil Price Climb?

Stefan M.I. Karlsson provides a thorough analysis of the oil markets in a column at LRC, today. He explains what is causing the current spike in oil prices, including a great analysis of why speculators are not the cause of the current price spike in oil.

My only slight quibble with Karlsson is that he seems to put a bit more emphasis on new demand factors, then on the Federal Reserve's monetary policy, for the spike in oil. He certainly mentions the money supply factor, I just think it should have been emphasised a bit more, given the seeming across the board hikes in commodity prices--which, to me, is an indication of a strong monetary influence.

Karlsson's column is here:

http://www.lewrockwell.com/orig6/karlsson9.html

No Apparent Inflation Concerns Displayed In Newest Fed Member's Significant Stock Portfolio

The U.S. Senate on Friday confirmed former Virginia bank executive Elizabeth "Betsy" Duke to the Federal Reserve Board.

Duke began her banking career as a part-time teller, helped organize a Virginia Beach community bank and later served as its chief executive officer. She also worked on mergers while an executive vice president of Wachovia Bank and was the first woman to chair the American Bankers Association. She was also at one time a director of the Federal Reserve Bank of Richmond.

Her disclosure statement for 2007 suggests that she didn't have any inflation fears, given the stock positions she held.

Although she maintained a number of money market funds, checking accounts, savings accounts and mutual funds, she also held over 50 stocks in her portfolio, 8 were banks stocks, including Wells Fargo, Wachovia, Bank America and Bank of Hawaii. She was apparently bullish on the overall market as she held a position worth more than $1 million in the Vanguard Index Trust 500 Fund.

Her total net worth is somewhere between $8 million and $35 million, according to the filing. Other stocks in her portfolio included Harley-Davidson, Harrah's Entertainment, Nike Class B, and Sirius Satellite Radio. She apparently had no major inflation concerns. Outside of a minor position in Exxon-Mobil, she held no stocks that would be clear beneficiaries of inflation. No gold stocks for this new Fed member.

Let The Show Trial Begin!

Billions upon billions in mortgage losses, and the Feds bust these two poor saps, Matthew Tannin and Ralph R. Cioffi--subprime fund managers at the defunct Bear Stearns....

While the real criminals, Alan Greenspan and Ben Bernanke, get away...


...and the counterfeiting, that will really take out the middle class, goes on to this day!

Last look Bernanke is printing new money (M2NSA) at a 10.0% plus rate...and you wonder why prices are climbing? When the inflation rate hits 20%, and it will, can you imagine the price collusion show trials we will have?

To the execs reading this blog, keep in mind what the show trial expert of all-time, Eliot Spitzer, said, before he got busted for his own (heh, heh) private shows:

Never write when you can talk. Never talk when you can nod. And never put anything in an e-mail.

So Just How Did ‘Core Inflation’ Come About?

‘Core inflation’ takes food and energy out of the inflation index. Many mainstream economists and Fed members pray at the ‘core inflation’ altar. So what economist came up with the wacky notion. Was it some Einstein type creating a concept that few other earthlings can understand? No.

‘Core inflation’ was created at the behest of Tricky Dick, himself, Richard Nixon.

Kevin Phillips, a political and economic commentator for more than three decades and onetime Nixon strategist, reports that President Richard Nixon asked his Federal Reserve chairman, Arthur Burns, to concoct a new inflation number that would be split off from traditional headline CPI, dubbed “core” inflation—and thus make inflation look less threatening.

Writes Phillips:

Richard Nixon, besides continuing the unified budget, developed his own taste for statistical improvement. He proposed albeit unsuccessfully—that the Labor Department, which prepared both seasonally adjusted and non-adjusted unemployment numbers, should just publish whichever number was lower. In a more consequential move, he asked his second Federal Reserve chairman, Arthur Burns,to develop what became an ultimately famous division between "core" inflation and headline inflation. It the Consumer Price Index was calculated by tracking a bundle of prices, so-called core inflation would simply exclude, because of "volatility," categories that happened to he troublesome: at that time, food and energy. Core inflation could he spotlighted when the headline number was embarrassing, as it was in 1973 and 1974. (The economic commentator Barry Ritholtz has joked that core inflation is better called "inflation ex-inflation"—i.e., inflation after the inflation has been excluded.)

But, they all mess around with the numbers

In 1983, Phillips says the Reagan administration monkeyed around even more with inflation data, when the Bureau of Labor Statistics decided that housing, too, was overstating CPI.

Phillips says in the 1990s, the CPI has been subjected to three other adjustments, all delivering a downward bias and all dubious:

*Product substitution: If flank steak gets too expensive, people are assumed to shift to hamburger, but nobody is assumed to move up to filet mignon, he says;

*Geometric weighting: Goods and services in which costs are rising most rapidly get a lower weighting for a presumed reduction in consumption

*And, most strangely, hedonic adjustment: An unusual bit of monkeyshines by which the government says that product improvements in things like computers, cell phones or television actually amount to a reduction in price, so a $2000 laptop with a built in camera is less expensive than a $1500 laptop without one.

Under Bill Clinton, Phillips says, the nation’s employment figures were massaged.

In 1994, the Bureau of Labor Statistics redefined the work force to include only that small percentage of what it called “discouraged workers” who had been seeking work for less than a year, Phillips says. The longer-term “discouraged”-some 4m U.S. adults who simply are not working-fell out of the main monthly tally. Some now call them the “hidden unemployed.”

Bernanke Tells Harvard: Things Are Different This Time

Federal Reserve Chairman Ben Bernanke ’75 spoke to Harvard College’s graduating class today in Tercentanary Theatre at Harvard.

Bernanke spoke to the class about the year 1975, the year he graduated from Harvard. He told the class:

Then as now, we were experiencing a serious oil price shock, sharply rising prices for food and other commodities, and subpar economic growth. But I see the differences between the economy of 1975 and the economy of 2008 as more telling than the similarities.

Oh yeah, they are different alright.

Bernanke again:

Economists generally agree that monetary policy performed poorly during this period. In part, this was because policymakers, in choosing what they believed to be the appropriate setting for monetary policy…

Sure, it is real different this time, for the worse. In 1975 money supply (M2) grew at 8.0%, today it is growing at 10.2%.

Bernanke again:

For a central banker, a particularly critical difference between then and now is what has happened to inflation and inflation expectations. The overall inflation rate has averaged about 3-1/2 percent over the past four quarters, significantly higher than we would like but much less than the double-digit rates that inflation reached in the mid-1970s and then again in 1980.

The inflation rate in 1975 was 9.0%. According to John Williams at Shadow Government Statistics, if you calculated the inflation rate now, the same way it was calculated in 1975, the CPI is near 12% this year.

Bernanke then had the chutzpah to add:

The Federal Reserve and other central banks have learned the lessons of the 1970s… as a central banker, I would be remiss if I failed to mention the contribution of monetary policy to the improved productivity performance.

Me and My Cabbie

On a recent business trip to New York, I hailed a taxi at the airport to take me to my mid-town Manhattan hotel. Upon entering the taxi, I gave the driver the address to my hotel and, in a perfunctory fashion, I asked the cabbie, "How's it going?"

In reply, he told me that prices were too high.

Gas prices for his taxi were climbing, he told me.. Food prices were climbing. And they just raised the price at a storage locker facility where he was renting space.

Since I follow prices for a living, I knew of what he spoke. "Yeah," I agreed, "prices are climbing. Most people don't realize it yet, but they are climbing and it is only going to get worse."

"You should buy some gold to protect yourself, if you can," I advised.

He then proceeded to lecture me for the rest of the trip on why he would not buy gold.I didn't say anything. I just let him talk. Gold, he told me, has very little use. It has some use as jewelry but outside of that it has no use, was the gist of his argument.

"You can't even eat gold," he said. He labored on the fact that you couldn't eat gold, for some time. This seemed to prove to him that gold was nearly useless.

As we arrived at my hotel and since I had an unopened Nestle's Crunch bar in my briefcase, I offered to pay my fare with the bar. "Heh, heh," he laughed.

"No," I said "take it. Why would you want paper dollars? You can't eat them,you can't even make jewelry out of them."

He laughed nervously again. "No, no," he said "I don't eat candy."

"But you can't eat any dollars I give you either," I said.

I then decided to give him a short lecture in economics to help bail him out of his predicament.

"You see some things sometimes have value simply because of their exchange value," I said. " You and I both accept dollars in payment for our services because we know we can exchange them for other goods and services we want. When something is widely accepted in exchange, economists call it a medium of exchange. It doesn't necessarily have to to have any other use. Dollars are a medium of exchange. We can't eat them, but we accept them in exchange because once we have them, we can buy
food with the dollars or we can exchange the dollars, as you know, for many, many other things."

"Now the one drawback of dollars is that the government can print more of them any time it wants. By printing more dollars and spending them, it is competing against you for things you want. That's where gold comes in. To increase the gold supply you have to dig it out of the ground.This is hard and expensive work. The government can't print more gold. The government can't produce gold at will. That is why the government has always maintained a propaganda campaign against it. FDR even made it
illegal to own gold. This legislation stayed on the books for decades. But
despite all this, many people still respect gold as the ultimate medium of exchange. And when the government begins to aggressively print more paper dollars, more and more people choose to hold some of their monetary reserves in the form of gold. That is why gold is valuable. No, you can't eat gold, but it's exchange value can't be corrupted by the government either, and exchange value is very important."

"Now again I am going to offer to pay this fare two ways. One with this bar which you can eat, or with these dollars which have no value outside of exchange value. Now if you accept these dollars, you are at least implicitly acknowledging that exchange value exists and I think you are a smart enough man to know that prices are going up because more of these dollars are being printed. Now if you are a real smart man, now that you understand exchange value, you should go and do something smart and hold some of your reserve funds in a medium of exchange that the government can't print at will. That's gold."

"Now, as far as this cab fare, will it be something you can eat or something that only has value in exchange?"

"I understand," he said "I see why dollars have value, and why gold has even more stable value."

I paid him the fare in dollars. As he counted it, he asked, "How many new dollars are they printing?"

"A lot," I said, " an awful lot."

An Open Letter to Alan Greenspan

Dear Chairman Greenspan,

I note in your most recent testimony before the U. S Senate Joint Economic Committee meeting that you are not that concerned about inflation. In fact you said at that hearing:

More broadly, however, although the recent data suggest that the worrisome trend of disinflation presumably has come to an end, still-significant productivity growth and a sizable margin of underutilized resources, to date, have checked any sustained acceleration of the general price level and should continue to do so for a time...As yet, the protracted period of monetary accommodation has not fostered an environment in which broad-based inflation pressures appear to be building.

Chairman Greenspan, I think you need to get out more. You have been Federal Reserve Chairman for nearly 17 years now and it is must be hard to remember what it is like to be a common man. I wonder when was the last time you drove your own car, or pumped gas into one.

In the near 17 years you have been Fed Chairman, you have increased the money supply (as measured by M2) by some 3.4 trillion dollars. Yes, time goes by fast, doesn't it? But when you started to run the show in 1987, M2 money supply stood at only 2.7 trillion dollars, now it is at 6.1 trillion dollars.

Fortunately for you, foreigners have been absorbing a lot of these dollars or we would be having near hyper-inflation by now. China, Japan, Germany, Russia, everyone is seeing their dollar reserves explode. U. S. dollar denominated debt is also being absorbed overseas. Japan, for example, has been buying $20 billion of Treasury debt every month. They now own nearly $600 billon in Treasury debt. China owns about $170 billon. You are one lucky Chairman to have them around. Former Fed Chairman Paul
Volcker calls it the munificence of strangers.

But I think the Europeans and Asians are finally starting to get tired of absorbing all these dollars and, in addition, you are still pumping them out. Since the start of this year you have pumped in another 170 billion dollars. Because of this, inflation is starting to creep up. And one thing we all learned from the inflation of the 1970's is that once prices start to creep up, more and more people become less interested in holding dollars and much more interested in getting rid of them by bidding up assets--any kind of assets.

We are probably in the very early stages of this happening, right now.

In an attempt to put you more in touch with the experiences of the common man, I have put together a list of simple tasks that you might want to complete. I hope you try these. Once these tasks are completed, I would like to know if you still hold the same opinion about inflation as you did before you completed the tasks.

Your first task is to go by a gallon of milk. If you haven't done this in 17 years, it is going to be quite a shocker. Milk prices are high but it looks like they are headed even higher.

According to the Los Angeles Times, milk prices will probably hit record highs of $3. 50 per gallon soon.

Once you have the gallon of milk, make sure you stop to pump some gas into your car. And you guessed,it, gasoline prices are climbing also.

According to Reuters

There is no relief for U.S. consumers at the gasoline pump, as the national price for motor fuel hit a record high for the fourth straight week,
increasing 2.7 cents over the last week to $1.813 a gallon on Monday, the government said.

Now that you have your tanked filled it is time to take a drive out of Washington D.C. Drive over to Maryland and do a little house shopping. Here is what the Washington Post is saying about the current real estate market in Maryland:

[The] market is spinning beyond crazy toward unattainable... [One house
recently] attracted 15 contracts and sold for $100,000 over list price. [A] second house also fetched multiple contracts and sold for $1.1 million, also $100,000 over the asking price.... a builder recently paid $750,000 for a tear-down in Bethesda -- three-quarters of a million dollars for the land alone..."The only people who are selling are people who are dying, getting divorced or moving into nursing homes."

Once you have recovered from the sticker shock of housing prices and head back into Washington D. C., you should grab a meal. Now, don't head over to the Fed where you have your own private dining room. I want you to go out, have a meal, and reach into your wallet and pay for the meal yourself. Head over to Smith and Wollensky's, it is a first class dining spot. And I am sorry to say prices are up there also. Here's what the Washington Times reported about restaurant prices:

Restaurants are raising menu prices, reducing portion sizes and steering customers to less expensive items to offset the high costs of beef...Smith & Wollensky raised prices three times in 2003... "We've had no choice because it's been outrageous,"

Get a good nights sleep tonight because I have one more project for you tomorrow, Chairman Greenspan. Tomorrow, I want you to imagine that you have to fix up your house yourself, or that you are putting on an addition to your house. We are going to head over to Home Depot to do this. Here's what the New York Post is reporting about prices at Home Depot:

Prices have risen tremendously."...building wire prices jumped 25 percent to $500 for a 500-foot roll... I-beams cost $560 per ton versus $300 in April 2003, up 86 percent. Cut plate, the key structural for walls, is $650 vs. $320. Rebar is $420 vs. $300 a year ago...Lumber prices exceed $400 per 1,000 board feet.

And The Post didn't stop with it's reporting at Home Depot. Here is how they finished that story:

Soybeans and soy oil have been the strongest components of the Dow
Jones-AIG Index average. Beans hit a record of $9.52 per 60-pound bushel.

So,it's not only beef buyers that are seeing higher prices. Vegetarians are
feeling the pinch also, The Post continued:

Shoppers pay $4.19 for 5.25 ounces of soy-based vegetarian bacon vs.
$3.29 in July 2003.

So you see Chairman Greenspan, what most people do on a regular basis is something like this: They drink milk, fill their car tanks with gasoline, have an occasional dinner out and head back home. The only problem, Mr. Chairman, is that milk prices, gasoline prices, food prices and home prices are all headed higher. In other words, while your statistics may not indicate that there is much inflation, people that have to live daily normal lives are seeing it everyday.

I have seen reports that you like to go over these statistics (the ones that are leading you to believe there is no inflation) at night while soaking in the tub. Chairman Greenspan, I think it is time you get out of the tub.

Your 17 years of irresponsible money printing ( Paul Volcker calls it:

"Stimulus beyond anything I have ever heard of in history.") is about to make it very difficult for the average person to make ends meet as inflation kicks into high gear.

I know you are in a real bind, because the minute you start fighting inflation you are going to hurt all those people that have been speculating in the real estate bubble that will surely coming crashing down. On the other hand, if you don't start fighting infaltion, you know the inflation will only become worse, hurting pensioners,savers and laborers. You have certainly created a mess.

My only advice to you would be to stop playing politics. You are 77 years old, do what is right and end this money madness. Stop printing money. You know this is the right thing to do. You in fact explained the problem very well in 1966:

But the process of cure was misdiagnosed as the disease: if shortage of
bank reserves was causing a business decline-argued economic interventionists-why not find a way of supplying increased reserves to the banks so they never need be short! If banks can continue to loan money indefinitely-it was claimed-there need never be any slumps in business. And so the Federal Reserve System was organized in 1913....The law of supply and demand is not to be conned. As the supply of money (of claims) increases relative to the supply of tangible assets in the economy, prices
must eventually rise. Thus the earnings saved by the productive members of the society lose value in terms of goods...The financial policy of the welfare state requires that there be no way for the owners of wealth to protect themselves.

This is the shabby secret of the welfare statists' tirades against gold. Deficit
spending is simply a scheme for the confiscation of wealth. Gold stands in the way of this insidious process. It stands as a protector of property rights. If one grasps this, one has no difficulty in understanding the statists' antagonism toward the gold standard.

Yes, Chairman Greenspan, "the law of supply and demand is not to be conned." The money explosion you have created is starting to be reflected in prices. Yes, just like you wrote in 1966 "prices must eventually rise."

I hope you do the right thing and stop printing money. But I am not betting on it. I'm putting a good chunk of my money in gold. You see. You had it right in 1966, "Gold stands in the way of this insidious process [An insidious process you are now controlling!]. It stands as the protector of property rights."

Sincerely,

Robert Wenzel

Greenspan, The Slasher

A song memorializing Alan Greenspan's interest rate cuts, with apologies to Billy Joel.

He cut it once, he cut it twice
He cut it twelve times before
But still they believe to the core
That this cut was needed even more

But oh, there's no market bounce
And they should know it's time to buy the Mapleleaf gold ounce

Yet they stand there pleadin'
With their portfolios bleedin
'Cause deep down they want even more

Then he says he wants to fight deflation
It's such a clever obfuscation

He's so good with his explanation
They don't even see the looming disastrous inflation

He cuts so hard, he cuts so deep
He's got so much skill
He's so fascinating that they'll still be there waiting
When he comes back with the bill
They' ve been slashed in the face
Their portfolios a disgrace

But still they want more

'Cause he gives them what they need
While their stocks bleed

Then he says he is fighting deflation
What a clever obfuscation

He's so good with his explanation
They even think he is a sensation

He cuts a quarter, he cuts a half
As he carves up the economy’s life
But they won't do nothing
As he keeps on cutting
'Cause you know they love the knife

The market’s been overbought, the market’s been oversold
But they stand there pleadin'
With their portfolios bleedin'
'Cause deep down they want even more

From this Randian phony to the core

Then he says he is fighting deflation
What a clever obfuscation

He's so good with his explanation
They even think it is good for the nation

But the truth is the slasher
Is carving up a big time disaster

Inflation is ahead
You need gold under your bed
Use your head

Crudele, Rogers, Paul and Volcker have got this right
It is not going to be a pretty sight.