Don't Put Your Money on a US Recovery

The future cometh…

Cash for bankers! Cash for Detroit’s clunkers! From one scam to the next…

But first, let us turn to the latest market update.

The Dow rose again yesterday – up 33 points, to close at 9,320. We set 10,000+ as our objective for this bounce. We’ll stick with it for a while longer.

Make no mistake though. No one knows how long this rally will last – certainly no one here at The Daily Reckoning vacation headquarters. It will continue until it runs out of gas. That could be tomorrow. It could be months from now.

It will run out of gas sooner or later, and probably this fall. A real, durable bull market would require an economic boom – a genuine recovery. We don’t see that happening…

But people must think it is happening…

“There are signs of a recovery in the US…” was a popular line at last night’s cocktail party. Several friends mentioned it. Each time, we had the same reply – we wouldn’t bet on it.

Yesterday, the price of oil rose; it ended the day at $71. And the dollar stayed where it was – at $1.44 per euro. Investors are betting on recovery – despite our advice.

And when the recovery turns out to be a clunker, they’ll probably put these trades into reverse. Oil will go down; the dollar will go up.

You want to speculate, dear reader? Sell oil…buy the dollar. Wait for another crash this autumn.

Why will there be another crash?

Because people believe something that isn’t true. People believe that there is a recovery…and that it is the result of stimulus efforts by the feds. The results from the second quarter show the economy still contracting…but at a slower pace, just –1% annually, rather than the -6.4% recorded in the first quarter. This is heralded throughout the world as proof that the crisis is receding.

“It if weren’t for stimulus spending, the contraction [in the 2nd quarter] would have been closer to 4%,” says the editorial in the International Herald Tribune. “The stimulus is helping…and more stimulus would help even more.”

Oh? Would it? Let’s look at stimulus-in-action:

‘Cash for Clunkers’ is a hare-brained scheme…but that doesn’t make it unpopular. The idea is to stimulate demand by, well, giving people money. But instead of just giving them money and letting them choose what to do with it, the feds decide they need a new car. In order to the get the money, people have to buy one.

According to the press reports, the program has been a great success wherever it has been put in place – in France and Germany, as well as in the United States.

If so, why not apply the concept elsewhere? How about cash for houses? Cash for liquor? Cash for newspapers? Cash for trips to Europe?

What’s so special about autos, in other words? And why is it a good thing for people to buy cars?

Oh c’mon, dear reader…don’t pretend you don’t know. The auto industry is huge…with many lobbyists and many organized groups interested in its wellbeing. It is an old and well-established industry with plenty of political clout.

Tomorrow’s industries, by contrast, have no lobbyists…no organized labor…no pet congressmen…no political action committees. So who gets the money?

Here’s the problem: the meddlers are not only up against tomorrow’s industries…they’re up against tomorrow itself. It’s not as if Americans needed cars. Not at all. They’ve got plenty of wheels already. Three car households are typical. And they’re fairly new cars. Americans were on a buying spree during the bubble era, 2001-2007; they bought new cars along with everything else.

So, the goal of the ‘Cash for Clunkers’ scheme is not to increase the size of the US auto fleet, it’s to make it newer. People don’t need more cars. They only need to replace cars that get worn out. If they bought a car five years ago, they may be ready to buy another one. Or, they could probably wait until next year. Along come the feds with cash…and the buyer decides to replace his car this year rather than next.

This is heralded as a success. The feds have stimulated demand. But what about next year?

We’ll have more to say about this on Friday…but the auto example helps us see what a scam these stimulus schemes really are. They claim to boost demand. But they can’t really increase demand. All they can do is roll next year’s buying into the present year.

Sound familiar? That’s the very thing that has been happening for the last two generations. Consumers didn’t want to wait until they’d made the money to take their vacations or buy their houses. They turned to credit. They borrowed against future earnings. They spent money they hadn’t earned yet…thus bringing forward purchases that should have been made in the future. That’s why we have a depression; now, we’re in the future!

It had to come sooner or later. After drawing consumption forward for decades, Americans had to stop. Time had to catch-up. Homeowners had to pay down debt. Ken Rogoff, Harvard professor of economics, believes it will take them 6-8 years to do so.

But consumers spent more than they could reasonably be expected to pay back. They out-spent the future! They bought a ticket to somewhere beyond the future…to a place where they would never actually arrive. In many cases – especially in the housing market – lenders discovered they couldn’t get their money back, which is what led to the credit crunch and the collapse of Wall Street. Of the big five – Bear, Lehman, Goldman, JPMorgan and Merrill – only two survived intact. And we know now that Goldman only survived because Henry Paulson, former CEO of Goldman, then Treasury Secretary, arranged a hidden bailout. He had the government step in to save AIG, which owed Goldman $13 billion.

From one scam to another…that’s the way the feds do it. From bailing out Wall Street they now turn to bailing out the entire world economy – in a similarly fraudulent way. Tim Geithner told the Chinese last week that the United States would revive thanks to increased private demand. But the feds cannot really increase demand in the private sector. Increasing real demand would mean increasing real wages. And there’s no sign of that. To the contrary, incomes are going down.

Yesterday’s news tells us that personal incomes went down 1.3% in June. Incomes had gone up in May, by precisely the same amount – 1.3%, thanks to stimulus payments. Then, too, commentators saw it as a sign of recovery. But what the feds gave in May was taken away in June. The future caught up with the Obama administration’s stimulus efforts within 30 days. Net result = zero.

The June number reflected the biggest drop in income in four years. It is not surprising. We’re in a depression, remember? Salaries and wages fell 0.4% in June…the 9th drop in the last 10 months.

“It looks like there are finally some signs of recovery in the US,” said more than one person we talked to last night.

The occasion was a cocktail party…held on the grounds of a stately chateau. The summer social season is underway in Poitou. We are attending dinners, plays, cocktail receptions, barbecues and weddings.

Last night, waiters in tuxedos passed out champagne, foie gras canapés, and desserts while hundreds of guests milled about and talked.

“You might want to hedge your bets on this recovery,” we told one Daily Reckoning reader. “It’s probably not going to work out.”

“But I’m confused about something,” he continued. “You’ve been urging me to buy gold for years. And now you seem to be changing your mind.”

“No…no…not at all. I’m still a gold bug. It’s just that I expect this rebound to end…and for stocks to go down, possibly down a lot. The dollar is what people want when they are frightened. The dollar is going down now because they think there’s no longer anything to be frightened about. But when this recovery disappoints them, investors are going to be more frightened than ever. Because they’ll realize that we’re faced with a depression…and that the feds can’t do anything about it. They’re going to rush to the safety of dollars…at least for a while. Probably long enough to shake out a lot of gold buyers.”

Until tomorrow,

Bill Bonner
The Daily Reckoning