Paul Krugman says, We’ll be Repeating the Great Mistake of 1937

Paul Krugman

Paul Krugman

That 1937 Feeling

Published: January 3, 2010

Here’s what’s coming in economic news:  The next employment report could show the economy adding jobs for the first time in two years. The next G.D.P. report is likely to show solid growth in late 2009. There will be lots of bullish commentary — and the calls we’re already hearing for an end to stimulus, for reversing the steps the government and the Federal Reserve took to prop up the economy, will grow even louder.

But if those calls are heeded, we’ll be repeating the great mistake of 1937, when the Fed and the Roosevelt administration decided that the Great Depression was over, that it was time for the economy to throw away its crutches. Spending was cut back, monetary policy was tightened — and the economy promptly plunged back into the depths.

This shouldn’t be happening. Both Ben Bernanke, the Fed chairman, and Christina Romer, who heads President Obama’s Council of Economic Advisers, are scholars of the Great Depression. Ms. Romer has warned explicitly against re-enacting the events of 1937. But those who remember the past sometimes repeat it anyway.

As you read the economic news, it will be important to remember, first of all, that blips — occasional good numbers, signifying nothing — are common even when the economy is, in fact, mired in a prolonged slump. In early 2002, for example, initial reports showed the economy growing at a 5.8 percent annual rate. But the unemployment rate kept rising for another year.

And in early 1996 preliminary reports showed the Japanese economy growing at an annual rate of more than 12 percent, leading to triumphant proclamations that “the economy has finally entered a phase of self-propelled recovery.” In fact, Japan was only halfway through its lost decade.

Such blips are often, in part, statistical illusions. But even more important, they’re usually caused by an “inventory bounce.” When the economy slumps, companies typically find themselves with large stocks of unsold goods. To work off their excess inventories, they slash production; once the excess has been disposed of, they raise production again, which shows up as a burst of growth in G.D.P. Unfortunately, growth caused by an inventory bounce is a one-shot affair unless underlying sources of demand, such as consumer spending and long-term investment, pick up.

Which brings us to the still grim fundamentals of the economic situation.

During the good years of the last decade, such as they were, growth was driven by a housing boom and a consumer spending surge. Neither is coming back. There can’t be a new housing boom while the nation is still strewn with vacant houses and apartments left behind by the previous boom, and consumers — who are $11 trillion poorer than they were before the housing bust — are in no position to return to the buy-now-save-never habits of yore.

What’s left? A boom in business investment would be really helpful right now. But it’s hard to see where such a boom would come from: industry is awash in excess capacity, and commercial rents are plunging in the face of a huge oversupply of office space.

Can exports come to the rescue? For a while, a falling U.S. trade deficit helped cushion the economic slump. But the deficit is widening again, in part because China and other surplus countries are refusing to let their currencies adjust.

So the odds are that any good economic news you hear in the near future will be a blip, not an indication that we’re on our way to sustained recovery. But will policy makers misinterpret the news and repeat the mistakes of 1937? Actually, they already are.

The Obama fiscal stimulus plan is expected to have its peak effect on G.D.P. and jobs around the middle of this year, then start fading out. That’s far too early: why withdraw support in the face of continuing mass unemployment? Congress should have enacted a second round of stimulus months ago, when it became clear that the slump was going to be deeper and longer than originally expected. But nothing was done — and the illusory good numbers we’re about to see will probably head off any further possibility of action.

Meanwhile, all the talk at the Fed is about the need for an “exit strategy” from its efforts to support the economy. One of those efforts, purchases of long-term U.S. government debt, has already come to an end. It’s widely expected that another, purchases of mortgage-backed securities, will end in a few months. This amounts to a monetary tightening, even if the Fed doesn’t raise interest rates directly — and there’s a lot of pressure on Mr. Bernanke to do that too.

Will the Fed realize, before it’s too late, that the job of fighting the slump isn’t finished? Will Congress do the same? If they don’t, 2010 will be a year that began in false economic hope and ended in grief.

Jim Rogers Says, Gold Will Hit $2,000 and USA Will Lose Status As The World’s Reserve Currency

Good Time To Buy Gold

Good Time To Buy Gold

Famed investor Jim Rogers is “quite sure gold will go over $2000 per ounce during this bull market.”Rogers’ confidence gold will continue to rally stems from a view the U.S. dollar is on its way to losing status as the world’s reserve currency.”Is it going to happen? Yes,” Rogers says. “I don’t like saying it [and] I’m extremely worried about it but we have to deal with the facts. America is not getting better [and] the dollar is going to be replaced just like pound sterling [was].”Rogers didn’t offer a timetable, and it’s likely gold would exceed $2000 per ounce if the dollar were to lose its reserve status.Still, “I wouldn’t buy gold today,” Rogers says. “I think I’ll make more money in other commodities, which are cheaper,” as discussed in more detail here.Among many others, Rogers is “worried about the fact the U.S. government is printing huge amounts, spending gigantic amounts of money it doesn’t have,” the investor and author says. “People are very worried [and] skeptical about paper money [and] looking for places to protect themselves. The best way is to buy real assets. [That] has always protected one during currency turmoil, and it will again.”

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The Economy Is Dying – It Will Be a Bloodbath; Says, Christopher Whalen

Stocks rallied to start the week thanks to a better-than-expected ISM services sector report and a Goldman Sachs upgrade of big banks, including Wells Fargo, Comerica and Capital One.But all is not right in either the economy or the banking sector, according to Christopher Whalen, managing director at Institutional Risk Analytics. In fact, Whalen says most observers are drawing the wrong economic conclusions from the stock market’s robust rally.”Why is liquidity going into the financial sector? It’s because the real economy is dying [and] everyone is fleeing into the stocks and bonds because they’re liquid at the moment,” Whalen says. “That’s not a good sign.”The banking sector’s assets shrunk by about $300 billion per quarter in the first half of 2009, a sign of banks hoarding cash in anticipation of additional future losses, according to Whalen. “The real economy is shrinking because of a lack of credit.”The shrinkage will continue into 2010, Whalen predicts, suggesting the banking sector hasn’t yet seen the peak in loan losses. Institutional Risk Analytics forecasts the FDIC will ultimately need $300 billion to $400 billion to recoup losses to its bank insurance fund. (In other words, the $45 billion the FDIC sought to raise last week by asking banks to prepay fees is just a drop in the bucket.)”Investors should think about this because the fourth quarter in the banking industry is going to be a bloodbath,” says Whalen, who believes smaller and regional banks like Hudson City Bancorp may come into favor vs. larger peers, which have dramatically outperformed since the March lows.”When you see the markets rallying when the real economy is shrinking that tells you this [recovery] is not going to be very enduring,” Whalen says.In this regard, Whalen finds himself in philosophical agreement with Nouriel Roubini, George Soros and Meredith Whitney, among other “prophets of the apocalypse” who’ve once again been raising red flags in recent days.

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“Astounded” by Goldman’s Upgrade Banks “Heading Into the Storm” Whalen Says: Tech Ticker, Yahoo! Finance

Goldman Sachs making headlines again. Today, it’s on two accounts.First, Bloomberg is reporting Goldman could earn about $1 billion should the troubled lender CIT Group, enter bankruptcy or otherwise end a $3 billion financing agreement. I’m sure it’s adding fuel to the fire for the “Government Sachs” conspiracy theorists, who probably see it as a repeat of what happened with the AIG bailout.For those that don’t remember, Goldman received $12.9 billion from AIG after the government rescued the world’s largest insurer. That raised suspicions of conflicts of interest and unfair treatment, since then Treasury Secretary Hank Paulson also happened to be a former CEO at Goldman.Chris Whalen of Institutional Risk Analytics is a Goldman conspiracy sympathizer and someone who “doesn’t like their politics.” But, in this case, he doesn’t necessarily think anything is askew. “Like any distressed lender they have a right to their payment. They took the risk,” he admits.What strikes Whalen as more curious is Goldman’s call on the big banks. Citing a positive outlook on earnings, Goldman analysts raised the outlook on banks from neutral to “attractive” this morning. They also upgraded Wells Fargo to “buy” from “neutral”, Comerica to “neutral” from “sell”, and added Capital One to their “conviction buy” list.Whalen is “astounded” Goldman would make such a move “when the banking industry is heading into the storm.” Contrary to the Goldman call, Whalen says the earnings outlook will get worse over the next two quarters, culminating in a bloodbath in the fourth quarter. Part of the problem for Wells Fargo, according to Whalen, is the bank still has plenty of write-downs to come associated with the Wachovia merger, as detailed here. But Goldman employees and shareholders have no fear. Whalen is confident the firm will fare better than those it upgraded today, “because they’re not a bank.” Instead, he says, you must consider Goldman, “a trading operation with a private equity firm attached.”If there is a risk for Goldman, it is political. “They are so visible and so high profile,” Whalen speculates, “that if the economy doesn’t recover next year I think Goldman is in for some severe criticism.”And that, no doubt, would please the Goldman conspiracy crowd.

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Buffett Says, We Are Doomed – We’re Going to Be Crushed Under A Mountain of Debt

A highly influential American has finally hit the panic button about the tremendous mountain of debt the country is piling up.Last year, Warren Buffett says, we were justified in using any means necessary to stave off another Great Depression. Now that the economy is beginning to recover, however, we need to curtail our out-of-control spending, or we’ll destroy the value of the dollar and many Americans’ life savings.Some not-so-fun facts from Buffett’s editorial today in the New York Times: * Congress is now spending 185% of what it takes in * Our deficit is a post WWII record of 13% of GDP * Our debt is growing by 1% a month * We are borrowing $1.8 trillion a year$1.8 trillion is a lot of money. Even if the Chinese lend us $400 billion a year and Americans save a remarkable $500 billion and lend it to the government, we’ll still need another $900 billion.So, where’s it going to come from? Most likely the printing press. And, ultimately, Buffett says, that will destroy the value of the dollar.

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Robert Prechter Says Dollar’s Hit a “Major Bottom”

Forget all the talk about the dollar being in terminal decline. The recent rally in the greenback is for real, says Robert Prechter, president of Elliott Wave International. The man who correctly predicted the 1987 crash and last year’s peak in oil prices now says we’re “going to be up for a year or two in the dollar.”Reuters and other mainstream news outlets attribute the recent uptick in the dollar versus other major currencies to an improving economy signaled by Friday’s “stronger-than-expected U.S. jobs numbers.” Prechter, ever the contrarian, says the U.S. dollar has put in a major bottom but not for the reasons everyone else is pointing to.

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Slumping Treasury bond prices send stocks lower – Yahoo! Finance

Slumping Treasury bond prices send stocks lower – Yahoo! Finance

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Can The US Federal Reserve Go Broke?

RGE Monitor

RGE Monitor

Can Central Banks Go Broke? Fed Refuses To Disclose Collateral Composition And Recipients Of $2.8 Trillion Loans

  • The U.S. government is prepared to lend more than $7.4 trillion on behalf of American taxpayers, or half the U.S. GDP, to rescue the financial system since the credit markets seized up 15 months ago. Bernanke’s Fed is responsible for $4.4 trillion of pledges, or 60% of the total commitment of $7.4 trillion. The unprecedented pledge of funds includes $2.8 trillion already tapped by financial institutions

  • The commitment dwarfs the only plan approved by lawmakers, the Treasury Department’s $700 bn Troubled Asset Relief Program (TARP)–> Regulators refuse to disclose who is receiving how much while Congress starts pushing for transparency and give authority over taxpayer money back to elected officials.


  • see Cumberland Advisor’s real-time graph of Fed’s balance sheet and the contributions of different lending programs.
  • The bailout includes a Fed program to buy as much as $2.4 trillion in short-term notes, called commercial paper, that companies use to pay bills, begun Oct. 27, and $1.4 trillion from the FDIC to guarantee bank-to-bank loans, started Oct. 14.
  • Buiter: Can the central bank become insolvent? How and by whom or by what institution should the central bank be recapitalized, if its capital were deemed insufficient? These are relevant questions today wherever central banks have taken on large exposures to private credit risk as in the U.S., the Eurozone, and the UK.
  • Nov 5, RGE: Fed Balance Sheet Expansion: Change in Formula for Interest Paid on Reserves –> banks are providing the reserves for the Fed’s balance sheet expansion themselves.
  • Sep 17: Treasury Announces Supplementary Financing Program to fund the Federal Reserve’s Liquidity Facilities and to manage the balance sheet impact of these efforts.

Go to:  http://www.rgemonitor.com for all the details. (Excellent Financial Site – You will recognize the writer, because he has been all over the TV recently.

Going for Broke – By ALAN ABELSON

MONDAY, SEPTEMBER 22, 2008
UP AND DOWN WALL STREET
Run and Hide

Run and Hide

Going for Broke

Uncle Sam plans to spend like there’s no tomorrow to cure what ails the credit markets and rev up investors. Will it work?

BABY, IT’S COLD OUT THERE. So let’s toss another billion on the fire.

What’s that make it? Well, let’s see: $29 billion for Bear Stearns, somewhere between $1 billion and $100 billion each for Fannie and Freddie (a nice narrow range), $85 billion for AIG, a couple of hundred billion to keep stray banks, brokers and their errant kin from asphyxiating themselves by swallowing toxic paper. And then there’s the proposed reincarnation of the Resolution Trust Corp., which all by itself may mean shelling out $800 billion, perhaps even as much as $1 trillion.

While we’re at it, we might as well include the $400 billion with which the Paulson-Bernanke grand plan envisages endowing the Federal Deposit Insurance Corp. so it can insure money-market funds.

But, please, understand those mind-boggling sums in no way, shape or form are to be construed as designed to aid and abet a bailout. Instead, they are merely the essential ingredients of an “intervention,” or, if you prefer, a “rescue” — just about anything, in other words, that’s semantically sweeter than bailout, with its ugly connotation of a sinking ship.

Besides, we have it on the best authority that none of this largess will cost the taxpayer a cent over the long run, which, if nothing else, speaks volumes about what constitutes the best authority these days. The reasoning is simple (or perhaps simple-minded is more accurate), namely that deep-pockets Uncle Sam can sell off the assets of the foundering companies on which he has bestowed that bounty and come out whole.

Surely, they jest. For a heap of those so-called assets might easily be confused with liabilities since even those that can be sold will likely fetch a feeble fraction of what their possessors now claim they’re worth.

This is not to say that until the powers-that-be pounded the panic button last week, the billions they had already thrown at the problem as well as taking a big step further and making the wretched companies soaking up those billion de facto vassals of the government were completely in vain. They undeniably had an instant impact. Unfortunately, an instant was about as long as the impact lasted, and it failed miserably to becalm the frantic credit markets or rekindle investor confidence.

The sad truth is that just about every one of Messrs. Paulson and Bernanke’s previous brainstorms — and they seemed to come with increasing frequency as Hank and Ben’s agitation mounted — touched off a brief spasm of exhilaration among investors, only to evaporate in very short order as the credit crisis resolutely morphed into a credit calamity. Or, to change the metaphor, what had been a slow-motion train wreck picked up demonic speed.

That little chart that adorns these gray columns offers an eloquent description of how bad things had gotten until the clouds parted and the sun finally came out as the week wore down. It depicts the yield on three-month Treasury bills going back to 1930. On last Wednesday, investors were so gripped with fear and desperate for a haven that they poured into the bills even though the yield was nonexistent. In effect, they were willing to pay the government for keeping their money safe. As a glance at the chart shows, that hasn’t happened since the Depression.

[chart]

Then, everything changed, at least for now. And the soaring rise in the stock market that began Thursday afternoon and extended through the final bell on Friday had Ben and Hank whooping with joy, exchanging high fives and just venting their pleasure with cat-that-swallowed-the-canary smiles, a welcome change from the funereal faces they had donned for the past few months.

While we’re in a generous mood, we might as well add Christopher Cox to the cheerful circle of celebrants. The SEC chief has been the target of a steady stream of slings and arrows directed his way by John McCain, which rather than nailing Cox’s inadequacies (and they’re bountiful) once again demonstrated that McCain and his advisers haven’t much of a clue how markets work.

Cox, in any case, deserves some of the credit for the smashing rally that boosted the Dow comfortably nearly 800 points in two sessions. For he proudly announced a ban on shorting 799 financial stocks and sparked talk of banning short selling entirely, and that scared the dickens out of the shorts who en masse rushed to cover. The resulting buying burst, we haven’t a scintilla of doubt, played a significant role in the great market lift-off.

Frankly, it seems to us, Cox, in taking out after the shorts — whom nobody loves except their immediate families (and we’re not even sure about them) — was more interested in covering his derrière than in protecting investors. As an early-warning sounder, keeping markets reasonably honest and offering a way to hedge against the inevitable mistakes or bad luck that investors are prey to — short selling serves a valuable function, and messing with it is apt to yield a lot more harm than good.

And we say that fully aware short selling has its quota of bad guys who do wicked things, but also aware that there are rules and regulations aplenty to curb untoward practices, if somebody would only enforce them.

But then, if regulators hadn’t been asleep, banks probably would have had real trouble finding ways to go belly-up, those innovative weapons of mass destruction called derivatives might have been defused long before they blew up, and those speculative bubbles, as in housing, might not have made the Guinness Book of Records for sheer size.

Just think of all the fun we’d have missed.

WILL THE GRAND PLAN WORK? Will piling on all those billions on billions atop a budget deficit that’s already a cinch to shoot up to over half a trillion next fiscal year allow the badly winded economy to start a sustainable recovery?

Ben, remember, vowed to use helicopters to drop money from the sky, but now he seems to be gearing up to use 747s. Can the Fed run its printing machine full-time to churn out all those billions without a substantial infusion from increasingly pinched taxpayers? And won’t priming the pump like mad drive the dollar back into the pits and force interest rates higher?

The plan, in all its extravagance, seems to have been thrown together on the fly, and once Congress gets a whack at it in the waning days before the lawmakers scurry off to the hustings, it may bear only passing resemblance, for better but probably for worse, to Paulson and Bernanke’s handiwork.

Obviously, the unknowns greatly outweigh the knowns, which make those and myriad other questions tough or downright impossible to answer.

We’re willing to concede that some forceful action was necessary, if only so the Fed can pay penance for its critical part in creating the incredible credit-cum-housing disaster.

As Merrill Lynch’s David Rosenberg observes, the fact that the government is suddenly so aggressive in coming to grips with an epic credit collapse is eloquent testimony to how the Fed and the Treasury “have consistently underestimated the severity of that collapse from the get-go.”

He reminds us, moreover, that the original Resolution Trust Corp. was strictly about buying bad mortgages. So he wonders whether the new incarnation will also undertake the purchase of Level 3 assets, whose value is extremely problematic and, in any case, more than a little difficult to gauge, and which are a sizable and not particularly desirable presence in many banks’ portfolios. And will the new RTC also buy credit-card debt, commercial real estate, leveraged loans “or the other mountains of bad debts out there?”

David cautions that the entire credit collapse to date has “reflected the unwind of the largest bubble of all time — residential real estate. Meanwhile, a consumer-led recession is taking hold this very quarter for the first time in 17 years, and every consumer recession in the past was followed by a negative credit cycle of its own.”

As to the euphoric market reaction, he thinks it’s a bit much. In their stampede to buy, investors seem to be ignoring the depressing fact that what prompted such drastic action was the sorry state of the financial system, which isn’t likely to change overnight no matter how vigorous the government exertion.

After the RTC was set up in 1989, he notes, it took two years for the economy to turn around, three years for housing to recover and a year for the stock market to bottom.

So what’s the rush?

The Price for Food and Fuel Will Only Go Up

Prepare for Tough Economic Times

Excerpts of Post:

“Our problem is a toxic U.S. dollar. Printing funny money steals from the poor and middle class.”

“As long as the Fed is allowed to wield its power at will, the prices for food and fuel will only go up.”

“Some are calling for gold and silver to go over $2,500 and $200 an ounce”

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Why the Rich Get Richer: Robert Kiyosaki

Most of us are aware of the sacrificial slaughter of Bear Sterns. Some people call it a bailout, but I call it a handout — a government handout to some of the richest people on Earth, paid for by American taxpayers.

It’s the survival of the richest, and the poorest be damned. There’s something dismal about a society that operates by those values.

The Economy on Life Support Continue reading