Status Quo-Oh

There are many repercussions when there is even a slight hiccup in the farming industry. That’s why, according to James Howard Kunstler, Iowa in 2008 will be an even slower-motion disaster than Hurricane Katrina in 2005.

A catastrophe for Iowa farmers will not be just a catastrophe for Midwestern Americans. In the Iowa floods, we’ll see more evidence of how the problems of weird weather (climate change) combine and ramify the problems associated with Peak Oil. In this particular case they lead to an inflection point sometime around the 2008 harvest season, which will also be our time of political harvest.

These are not your daddy’s or granddaddy’s floods. These are 500-year floods, events not seen before non-Indian people starting living out on that stretch of the North American prairie. The vast majority of homeowners in Eastern Iowa did not have flood insurance because the likelihood of being affected above the 500-year-line was so miniscule – their insurance agents actually advised them against getting it. The personal ruin out there will be comprehensive and profound, a wet version of the 1930s Dust Bowl, with families facing total loss and perhaps migrating elsewhere in the nation because they have no home to go back to.

Iowa in 2008 will be an even slower-motion disaster than Hurricane Katrina in 2005. Beyond the troubles of 25,000 people who have lost all their material possessions is a world whose grain reserves stand at record lows. The crop losses in Iowa will aggravate what is already a pretty dire situation. So far, the US Public has experienced the world grain situation mainly in higher supermarket prices. Cheap corn is behind the magic of the American processed food industry – all those pizza pockets and juicy-juice boxes that frantic Americans resort to because they have no time between two jobs and family-chauffeur duties to actually cook (note: reheating is not cooking).

Behind that magic is an agribusiness model of farming cranked up on the steroids of cheap oil and cheap natural-gas-based fertilizer. Both of these “inputs” have recently entered the realm of the non-cheap. Oil-and-gas-based farming had already reached a crisis stage before the flood of Iowa. Diesel fuel is a dollar-a-gallon higher than gasoline. Natural gas prices have doubled over the past year, sending fertilizer prices way up. American farmers are poorly positioned to reform their practices. All that cheap fossil fuel masks a tremendous decay of skill in husbandry. The farming of the decades ahead will be a lot more complicated than just buying x-amount of “inputs” (on credit) to be dumped on a sterile soil growth medium and spread around with giant diesel-powered machines.

Like a lot of other activities in American life these days, agribusiness is unreformable along its current lines. It will take a convulsion to change it, and in that convulsion it will be dragged kicking-and-screaming into a new reality. As that occurs, the U.S. public will have to contend with more than just higher taco chip prices. We’re heading into the Vale of Malthus – Thomas Robert Malthus, the British economist-philosopher who introduced the notion that eventually world population would overtake world food production capacity. Malthus has been scorned and ridiculed in recent decades, as fossil fuel-cranked farming allowed the global population to go vertical. Techno-triumphalist observers who should have known better attributed this to the “green revolution” of bio-engineering. Malthus is back now, along with his outriders: famine, pestilence, and war.

We’re headed, it seems, toward a fall “crunch time,” and that crunching sound will not be of cheez doodles and taco chips consumed on the sofas of America. I think we’re heading into a season of hoarding. As the presidential campaign moves into its final round, Americans may be hard-up for both food and gasoline. On the oil scene, the next event on the horizon is not just higher prices but shortages. Chances are, they will occur first in the Southeast states because oil exports from Mexico and Venezuela feeding the Gulf of Mexico refineries are down more than 30 percent over 2007.

Perhaps more ominous is the discontent on the trucking scene. Truckers are going broke in droves, unable to carry on their business while getting paid $2000 for loads that cost them $3000 to deliver. In Europe last week, enraged truckers paralyzed the food distribution networks of Spain and Portugal. The passivity of U.S. truckers so far has been a striking feature of the general zombification of American life. They might continue to just crawl off one-by-one and die. But it’s also possible that, at some point, they’ll mount a Night-of-the-Living-Dead offensive and take their vengeance out on “the system” that has brought them to ruin. America has only about a three-day supply of food in any of its supermarkets.

The yet-more-ominous thing here is that shortages of food and oil are two fiascos that are pretty clearly predictable for the second half of the year. That’s bad enough without figuring in the “unknowns” that could kick up American hardship a few more notches. The hurricane season just got underway – obscured for the moment by the bigger weather story in Iowa. The fate of the banks is a train wreck still waiting to happen. As it occurs – also heading into the high political and hurricane seasons – we could find ourselves not only a nation wet, hungry, and out-of-gas, but also completely broke. I’m sorry that Tim Russert will not be here to talk us through it all.


James Howard Kunstler
for The Daily Reckoning
June 24, 2008

James Kunstler has worked as a reporter and feature writer for a number of newspapers, and finally as a staff writer for Rolling Stone Magazine. In 1975, he dropped out to write books on a full-time basis.

His latest nonfiction book, The Long Emergency describes the changes that American society faces in the 21st century. Discerning an imminent future of protracted socioeconomic crisis, Kunstler foresees the progressive dilapidation of subdivisions and strip malls, the depopulation of the American Southwest, and, amid a world at war over oil, military invasions of the West Coast; when the convulsion subsides, Americans will live in smaller places and eat locally grown food.

The beat goes on – one sector gets pumped up…and then it gets whacked.

Jim Cramer says he’s never seen anything like it…

Not the crash of Drexel Burnham Lambert in the ’80s…not the Asian currency crisis…not the LongTerm Capital Management blowup…not the dotcom bust…

Now, he says, the mood of gloom on Wall Street just gets worse and worse…with no sign of let up. Thousands of layoffs. Stocks in steady decline.

That makes us a little sad, here at The Daily Reckoning headquarters. We don’t like to kick an industry when it is down…and we like kicking Wall Street.

But you can see why the former Masters of the Universe are so blue – their bonuses are falling. So is the value of their stock options.

“Banks struggle to get capital,” begins an article in the Wall Street Journal.

When JP Morgan bought Bear Stearns, for example, everyone thought they had stolen the company. It was clearly the bottom – or so they believed. And they had a $30 billion guarantee from the feds. What could go wrong?

But the whole financial sector has continued to sink…and now J.P. Morgan’s deal is looking less sure.

(Even the best of companies – such as Warren Buffett’s Berkshire Hathaway – are getting beaten down. Berkshire traded at over $1,500 last December. Now, the share is down to $1,220.)

Yesterday, the Dow held steady. But last week was a bad one…with stocks losing 3.8% and the Dow falling below 12,000. Oil gained another $1.38, bringing the going rate for a barrel of crude to $136.

The dollar gained against the euro, and gold fell $16.

What is amazing about Cramer’s point of view is that he seems to be surprised. What did he think? That the bubble in the financial industry could expand forever? Or that the Fed could pump it up again, even after it sprung a major leak?

Sorry, Jim, it just doesn’t work that way.

The financial industry used to represent about 10% of the entire stock market’s earnings. Then, as credit grew, the financial sector invented new ways to separate people from their money. During the period known as the Great Moderation, the percentage of earnings coming from Wall Street rose to 40% of the total. Now it’s coming back down. It’s over.

We don’t have to tell you, but the ‘Great Moderation’ was a big fraud. There was nothing moderate about it. Instead, it was a period of extravagance…excess…over-the-top consumption and borrowing…and outlandish claptrap. It was claimed, for example, that the Wall Street firms were “adding value” by packaging subprime mortgages into securities and peddling them to towns in Norway. And it was believed that the Fed really had learned how to smooth out the business cycle and could henceforth avoid serious downturns. And inflation? That was a problem of the ’70s…not of the 21st century.

But every bubble pops. And the force of a correction is equal and opposite to the deception that preceded it. Naturally, the correction in the financial industry would have to be substantial. Nor is the Fed able to stop it. When a bubble bursts, the Feds can pump as hard as they want; the new cash and credit will go into a new bubble, not the old one.

You haven’t seen another bubble in the dotcom industry, have you? That one blew up eight years ago. It hasn’t come back – despite the best efforts of central banks all over the world. And don’t expect another bubble in housing either. We’ve seen the highest prices for housing – in real terms – that we will probably see in our lifetimes.

Bubbles…busts…bubbles…busts…the beat goes on. One sector gets pumped up…and then it gets whacked.

What’s up next? See below…

*** The next bubbles are probably coming in oil…commodities, and – many experts believe – in emerging markets.

We see the hot air flowing into the oil market, for example. Barron’s reports that $260 billion has gone into indexed commodity strategies – up from only $13 billion at the end of 2003.

And looking at a chart of the NASDAQ, 1990-2000, we find it looks familiar. Yes, dear reader, the oil market 1998-2008 looks a lot like the dotcom market (traded on the NASDAQ) eight years before.

Of course, many are the reasons why you might think oil will get more and more expensive. But so were the reasons that you might have expected the dotcoms to keep going up. And prices of Miami condos to keep going up. And tulip bulbs.

‘Oil is different,’ we can hear you saying. The economy can’t function without it. More and more people are buying it. The Nigerians are blowing up pipelines. Production has peaked out. T. Boone Pickens says it’s going up. The Chinese are hoarding for the Olympics, and so forth.

Maybe so. But human beings err, said Rosmini. The more reasons they have to believe something…the more they tend to believe it to excess. And the sadder they are when their beliefs are proven incorrect.

As to emerging markets, Alan Abelson, in Barron’s, believes they are in bubble-mode too. “Decoupling” is hooey, he believes. When the world economy heads down, they’ll go down with it.

But many emerging markets are already down – big time. Shanghai is off 50%. Vietnam even more. Are they bubbles that have burst…and can’t be reflated? Or are they still bubbles-to-be…waiting for the next gush of hot air?

Today’s paper tells us that Vietnam has done something extraordinary. It has banned gold imports in order to try to reduce its trade gap. Vietnam has an inflation rate of 25%. So, the Vietnamese try to protect themselves in the way people always have – by trading paper currency for gold. So great was this traffic that Vietnam became the world’s largest market for gold – bigger than China or India. And so great was pressure on the Vietnamese economy and its currency, that government officials moved decisively to make the situation worse – by banning gold imports.

Still, colleague Manraaj Singh, for example, thinks Vietnam is a buy:

“Vietnam’s Ho Chi Minh City share index continues to be a leader this year. Once it led on the way up, this year it’s been leading global markets on the charge down. The index fell every on trading day in May and in early June as well. It’s now down by 60 per cent since the beginning of the year.

“…Which begs a simple question: are we stark raving bonkers to still be in love with Vietnam?

“At the end of May, inflation in the country hit 25 per cent – the highest level since 1993.

“And then there is the trade deficit. It is expected to be above $15 billion for the first five months of this year. That’s a considerable increase on the 2007 deficit of $12 billion.”

But the Bank of Vietnam is serious about fighting inflation, he says. It raised rates from 12% to 14% last week – still more than 10% below the level of CPI.

Manraaj continues:

“That was the second interest rate rise in just three weeks and makes the highest in Asia. Investors were looking for a sign that the government was serious about tackling inflation and they got one.

“Better yet, the government has indicated that it may raise rates even further in order to bring inflation down to single-digit figures by the end of next year.

“In Vietnam, food accounts for almost 43 per cent of the consumer price index. And the rise in food prices has been a global phenomenon. The global rise in rice prices this year has had a huge impact on Asian countries. In the Philippines, armed soldiers were required to guard the countries rice supplies.

“Even here in London, the Chinese restaurant across from our office has put a 30p ‘temporary surcharge’ on all its rice dishes. …

“But Vietnam’s finance minister, Vu Van Ninh, says that the country now has sufficient supplies to avoid further price increases, while still exporting 4.5m tonnes of rice this year. So we should see a sharp drop in food inflation in Vietnam this year.

“Just look at the other great bugbear that has spooked international investors – Vietnam’s soaring trade deficit. It isn’t anywhere nearly as dire as it sounds either. Far from it…

“Vietnam’s biggest import items are machinery and equipment (‘M&E’), construction materials and refined fuel. These are all items that are vital to the development of an emerging economy. Most of them still have to be imported, but that’s changing fast. A lot of these capital goods are being used to build-up domestic manufacturing capacity – factories and infrastructure. It won’t be long before it is able to locally produce a lot of what it now imports. Take steel, for example. Vietnam is a net importer of steel today, but it’s expected to have enough pr, but it will soon have sufficient production capacity to satisfy domestic consumption.

“There’s a world of difference between a country that has a trade deficit because it is importing equipment and material to build factories, power plants and roads, like Vietnam is doing; and one that has a deficit because it is addicted to imported Sony Playstations, iPods and cheap sneakers.

“Again, we’ve seen global markets reeling under the impact of surging energy prices. But what very few people realise is that Vietnam is actually self-sufficient in terms of crude oil production. What’s been missing is a domestic oil refinery. So the country has actually had to export 100 per cent of its crude oil and then re-import it as refined fuel. That’s been a major contributor to its trade deficit and it’s also been a major driver of inflation. But the country’s first oil refinery is going to come on-stream in 2009 – and that should have a massive impact on both inflation and trade deficit.

“Vietnam’s government is obviously on a steep financial learning curve – remember that this is still a Communist country – but they’re learning fast. And, crucially, they’ve shown that they’ve got the will to act.”

Until tomorrow,

Bill Bonner
The Daily Reckoning