The Ghost of Christmas Past

a DR Classique, revised and updated for 2002… God bless us, everyone!

Old Greenspan was not dead. Not dead as a doornail, nor dead as a doorknocker. Not even as dead as a laptop computer after the power goes out – not even John Maynard Keynes is that dead.

Nothing is as dead as a computer without power. For even a nail continues to provide good service after the spark of life has gone out of it.

But Greenspan? The Fed chief was still alive. Not only that, he still had the power to flood the economy with cash…and lift stock prices. Or so everyone thought.

At least, Ebenezer still thought so. He had seen Greenspan on television not long ago. The old Rand-worshipping jazzman had said as much. Ebenezer could remember his exact words: "The committee will continue to monitor closely the evolving economic situation." It sounded like mumbo-jumbo. But Ebenezer knew what it meant.

Of course, there were some – such as his old associate Bob – who said that Greenspan couldn’t do it…that merely reducing interest rates wouldn’t work. But what did they know?

"Bah," said Ebenezer to himself, "humbug."

"What reason is there to worry?" he asked, to no one in particular. "If I could work my will, I would have every idiot who goes about with ‘deflation’ or `recession’ on his breath forced to watch Wall Street Week and read the editorial pages of the International Herald Tribune."

His musing to himself was interrupted by the entrance of two gentlemen who introduced themselves quickly and proceeded to divulge the purpose of their visit.

"We thought that, perhaps, given the spirit of the Christmas season," said the leader of the two, "perhaps you could spare a farthing for the poor, the destitute and the needy."

"There are many people who need our help," added the second, "…the poor unfortunates who invested their money in dot-com stocks…or the big techs."

"Need our help?" questioned Ebenezer. "Are there no mutual funds?"

"Well, of course…" the first began to reply.

"And do they not accept small amounts?" demanded Ebenezer.

"Yes…but…" replied the second before being interrupted.

"And has not the bull market been a fact of life for nearly two decades? And hasn’t every dip turned into a buying opportunity?"

"Well, yes…"

"And has it not been shouted from every newspaper headline…every news report…every Internet chat room…and every conversation between even the most casual passers-by at even the most ill-informed and down-market drinking establishment in the most remote and out-of-touch region of the country?"

"Doesn’t everyone who is capable of long division now realize," continued Ebenezer, raising his voice, "that the recession is over…and that nothing beats investing in stocks over the long run?"

"Yes, we are aware…"

"Oh! Good. I was afraid that something might have happened…"

Then, misinterpreting the ensuing silence for approval, the second gentleman ventured, "Well, in this great time of trial, how much would you like us to put you down for?"

"My only wish is to be left alone so that I may continue to enjoy the fruits of the greatest episode of wealth creation in history," replied Ebenezer. "Stocks may be down, but so much the better. I take it as an opportunity to buy more of them for less money…and I suggest that others do the same. Good day, gentlemen."

And Ebenezer turned and walked away, muttering, "A poor excuse for picking a man’s pocket…"

That evening, Ebenezer slept poorly, under the fullest moon in more than a century. He had been startled earlier. Returning home from the office he had seen Alan Greenspan’s face in his doorknocker! An odd sensation, for Greenspan’s face was hardly one that he expected or hoped for. But there it was…for a fleeting moment, at least.

And now, after finally achieving the sleep he longed for, his rest was suddenly interrupted by the sound of ringing bells.

Yes, bells. The kind of bells they fail to ring at the top of a bull market. But why now…clanging like chains in the middle of the night?

The door to his bedroom blew open…and the clanging sounds seemed to mount the stairs.

"Humbug," he thought, "I won’t believe it. The bears have been hearing ringing in their ears for years. The poor fools. ‘Recession…bear markets…crashes…deflation…’ and now they’re at it again…more convinced than ever. Ha!"

His color changed though, when, without a pause, something came on through the heavy door and passed into the room before his eyes.

The face: it was the same face he had seen on the doorknocker earlier in the evening. And on the television a few weeks ago. It was the face of Alan Greenspan, the Fed chief. His body was transparent, ghostly, but there was the source of the clanging. For the spectral figure was wrapped up in chains, to which were attached various metals – gold, copper, silver…both coins and nuggets, all clattering and banging against one another.

Ebenezer had heard it said that Greenspan lacked guts. But there they were. In this ghostly form Ebenezer could see all of him, inside and out. It was as strange as it was unappealing.

"Who are you?" asked Ebenezer, his voice cold and caustic.

"Ask me who I could be," replied the phantom.

"Okay…who might you be?"

"That is a different question," said the specter, "but I will answer it anyway. I have no time for word games. I am the spirit of Alan Greenspan…"

"I thought so…" whispered Ebenezer.

"…and it is required of every man that he walk among men…"

"But you are not even dead yet," protested the old man. "I would know if you were dead…I would have read about it in the paper…

"And what are these chains you wear?"

"They are the chains you forge for yourself. But instead of gold and silver, yours are laden with computer terminals, stock certificates, portfolio statements, the New Era… mortgage refinancings. You will be fettered not just for your life, but for eternity. And they grow heavier with each passing month. Unless, that is, you heed the ringing of these chains…"

"I am here tonight to warn you," the ghost went on, "that you may have a chance of escaping your fate. Rise and walk with me."

"I am mortal…"

"Come," said the ghost, taking Ebenezer’s hand…The two of them rose as if weightless and slipped through the mist of time:

"Here, look…" said the apparition, "Christmas Past: 1980."

Ebenezer could see for himself.

There before him was the face of another Fed chief. It was Paul Volcker himself. And there, what was that? A crowd of people were burning him in effigy.

But why? Then Ebenezer began to recall what that Christmas was really like:

Inflation, measured by the CPI, rose at 13% that year.

Volcker’s job was to reduce that figure. He did so. But it was not fun for anyone – except short-sellers.

The Dow fell 24% after Volcker held his famous Saturday press conference and announced a change of direction. Volcker threw out the WIN buttons and targeted reserve requirements. Interest rates soared. Twenty-year Treasury bonds yielded 15%. The prime rate hit 21.5% percent. Homebuilders and farmers – and perhaps some Wall Street brokerage houses – threatened his life.

The Dow fell to 776. Adjusted for inflation, a generation of capital growth was wiped out.

But not everyone was hurt. Investors who bet heavily on gold stocks, oil and collectibles did well – at least, until Volcker’s purposes began to be realized.

Ebenezer recalled the predictions of 20 years ago:

** Oil would go to $100 a barrel
** Inflation would be at least 6% – forever
** Gold would rise through the end of the century
** Bonds were "certificates of guaranteed confiscation"
** Stocks were dead (a death that was confirmed by `Business Week’ on Aug. 13, 1980 – the very bottom)
** The whole key to investing was to avoid risk

"Let us look a little further," said the ghost. And with that, Ebenezer saw a new scene. In this one, he saw himself. But it was not himself as he was…but as he had been.

There was the young Ebenezer. Full of enthusiasm and eagerness to make his fortune. He had plenty of hair, too. And, look, you could see the muscles bulging beneath his polyester shirt.

"These are but shadows of the things that have been," said the Ghost.

And there he was, the young Ebenezer. Standing alone and neglected at a Christmas party several years after Paul Volcker had taken charge of the Fed.

He looked quite sad…but Ebenezer knew why at once.

"I won’t make that mistake again," said the young investor to himself.

"What mistake had he made?" asked the ghost of his guest.

"Why does he reproach himself? For the right thing or the wrong one?"

Ebenezer made no reply.

Bill Bonner
December 23, 2002

Tomorrow: The Ghost of Christmas Present…

"Gold" was the word on everyone’s lips last week.

The yellow metal soared…then eased off $5.50 on Friday. Who could fail to notice? The Dow is down 15% for the year. S&P 500 stocks have lost 22% of their value. The Nasdaq has dropped a full 30%. Gold, by contrast, is a big winner. The bulls are not yet foaming at the mouth but they are encouraged; James Sinclair predicts it will go to $450-$550 in 2003.

The dollar had been stable for 133 years, Alan Greenspan observed last week, until the U.S. went off the gold standard in 1933. In that year, said the central banker, a dollar would have bought about as much as it did in 1800. But then, things started going downhill for the buck. In the following 2 decades, it lost half its value. In the next 4 decades the dollar lost a further 80% of what was left.

The most celebrated and most prolific issuer of paper money in the history of the world seemed to be warming up to reconsider gold’s role in the international monetary system; perhaps abandoning gold was not such a good idea, after all, listeners must have begun to wonder.

But the speaker arrested their hastening thoughts like a gendarme stopping a car full of suspected terrorists; he could scarcely stop congratulating himself.

Since Paul Volcker had brought inflation under control "progress in reducing inflation was largely preserved," said the Fed chairman.

"A prudent monetary policy maintained over a protracted period can contain the forces of inflation," he continued, patting himself on the back so hard his glasses practically fell off.

Here at the Daily Reckoning we have no doubt that the chairman is right; a prudent monetary policy can contain inflation. Where we differ is about whether a group of central bankers can maintain a prudent policy for very long…and whether they would know one if it jumped up and bit them on the derrière!

Japan’s central bankers are no less smart than Greenspan & co. Nor were America’s central bankers in the half a century between Franklin Roosevelt and Bill Clinton. All of them – as bright as they were – must have slipped into imprudence at one time of another. Because inflation or deflation bedeviled them all.

Greenspan feels he has mastered inflation. And deflation? "The U.S. is nowhere near close to sliding into a pernicious deflation," he said last week.

We don’t know. But in many thousands of years, central bankers have never been able to maintain a prudent monetary policy for very long. The world may have changed, but we doubt that central bankers have.



Eric Fry in New York City…

– The Dow kicked off last week’s action with a rousing 193- point rally on Monday and ended it with a 147-point advance on Friday. But the middle three trading days all but erased these gains. For the week, the blue chips added a meager 78 points to 8,512, while the Nasdaq inched ahead one point to 1,363.

– "With just six trading days mercifully remaining in 2002," Barron’s observes, "the Dow is off 1,510 points, or 15.1%, for the year, and barring a miracle will extend its losing streak to three years." The beleaguered Nasdaq Composite is nursing a painful 30% loss for the year. This is not the way things were supposed to go.

– At this time last year, Wall Street’s permanently bullish strategists were predicting – as they always do – that stock prices would rise and commodity prices would fall. Gold, in particular, would remain irrelevant. According to these idiotic savants, stocks were supposed to rally along with the dollar, while gold and oil both drifted ever lower.

– The strategists were a little off, to put it charitably. Stocks and the dollar have both tumbled, while commodities have skyrocketed. As we have observed numerous times in this column, the "inflation trade" is catching fire. $100,000 invested in a broad range of commodities at the beginning of this year would now be worth about $124,000. That same $100,000 invested in the S&P 500 would be worth only $78,000 today.

– Will the good times in the commodity pits keep on rolling? That seems a reasonable bet, given the broad-based nature of the advance under way, not to mention the wacky, inflationary banter issuing from the mouths of Federal Reserve governors.

– "Arguably, we are in the midst of the most powerful commodity move in the last 22 years," Bridgewater Associates asserts. "Unlike many recent commodity moves, prices are rising across all major commodities…96 percent of all major commodities that Bridgewater tracks are up year-to-date; that is the highest breadth reading the we have seen since the 1970s. Something more than a supply squeeze in a few commodities is going on here. Combined with dollar weakness, the commodity move supports the case that the Fed may be starting to create some monetary inflation…A monetary inflation scare coinciding with weak economic growth is the Fed’s nightmare."

– Illustrating the renewed vitality in the commodity markets, oil jumped least week to a new two-year high and gold rocketed to a new 5-year high. The formerly earth- bound metal took wing last week by soaring – temporarily – above the $350 level for the first time since 1997. Gold for February delivery closed at $341 on Friday, up more than $7 for the week and more than $22 over the past seven trading sessions…

– Now that the stock market has three losing years under its belt, is anyone ready to bet on four in a row? I made that brazen prediction – just for kicks – during a recent appearance on CNNfn. I don’t have any particular insight, of course, other than the fact that stocks still aren’t cheap. For the last three years corporate profits have been falling almost as precipitously as the stock market, which means that stocks are still very richly priced based on historical norms. What’s more, corporate profit growth is still questionable.

– Doug Cliggott is also betting on an unprecedented fourth straight year of falling share prices. The bearish former strategist of JP Morgan Chase expects the Dow to end 2003 at 7,000, or about 18% below current levels. Cliggott, who is currently an advisor with the boutique investment management firm, Brummer & Partners, hit 2002 right on the button by predicting that the Dow would wind up the year at 8,500. "It’s still a very, very expensive market," Cliggott told an incredulous CNBC newsman last week. "We just need to have meaningfully lower valuations for the risk-return (premium to become) rewarding."

– Cliggot is, of course, among the extreme minority of Wall Street professionals to forecast a falling stock market in 2003. Bears remain a distinct minority. In fact, a recent Business Week poll queried "66 thinkers on the front lines of business…to divine the economic future." Not a single one predicts falling GDP in 2003 – 1.5% growth in the most pessimistic of the 66 forecasts. Furthermore, only two "thinkers" out of the 66 surveyed expect sliding corporate profits next year. In other words, bullishness remains the leading macro-economic fashion. And when a fashion becomes this popular, it is susceptible to becoming abruptly démodé.


Back in Ouzilly…

*** "Technology went bust on the Nasdaq," said a friend visiting last night, "but it is changing the world anyway. And what it means is that Americans and Western Europeans are going to have tighten their belts…

"This is something most people haven’t realized. So far, we’ve seen the deflationary effects of China and India only in the manufacturing sector, among blue collar workers. Wages for manufacturing workers have not increased, in real terms of course, in 30 years. Factories get shut down in the U.S. all the time. And factory utilization has been dropping for the last 4 years.

"But the next phase is going to affect white collar workers. It’s already happening. I’m working with companies that do e-learning. Well, they’ve found that they can hire people in India who speak good English…and offer educational opportunities…via live internet…at a fraction of the cost of other alternatives.

"It’s possible because the cost of telecommunications keeps falling. The telecommunications revolution is real…and it’s only barely begun.

"Already…you won’t believe this, but when you apply for a mortgage in the U.S. or make an insurance claim or something that involves paper processing – like a credit card application – the work is likely to be done in India. In fact, there is a whole industry in India where people learn to speak English with a Midwestern accent. They even learn to do small talk…you know, they ask how the weather is and things like that. You think you’re talking to a neighbor, but it’s really someone in Delhi or Bombay…

"Well, these people will work for $1 an hour…or less…and what they’re going to do is to reduce the cost of the service industries in the western world.

"Deflation, so far, has been confined to manufacturing, where the Chinese and Indian can undercut costs. But the service sector has been fairly immune. Now, it’s going to begin to see competition too. The barriers that have kept wages high in America are coming down. Already, globalization has knocked down a lot of the trade barriers. You can ship physical items across borders with not much trouble. The U.S. and Europeans try to protect their markets from time to time, like import quotas on steel and lumber, for example, but it generally doesn’t work very well.

"Now, the second barrier is coming down. I mean the barrier against immigration. Only, people don’t have to physically immigrate…thanks to low-cost communications, they can work from where they are. And a lot of office-style work is going to go down in price. This is not just a blip on the screen, but a trend that will last for decades – just as deflation in manufacturing has been going on for the last 3 decades."