Bill Bonner

What a nuisance! Our laptop computer collapsed this morning. Hours were wasted trying to revive it. We were like a carpenter without a hammer…a clown without a red nose…an idiot without a village.

Meanwhile, the financial world seemed to be on the verge of collapse too. Stocks rose 161 points on the Dow yesterday…after a big drop the day before. Gold rose a bit too.

This is the kind of market nervousness that usually resolves itself – in a big drop. Yes, our “Crash Alert” flag – tattered, faded, and frayed – is out. Ignore it at your peril!

The Fed is still pumping $4 billion of new money into the system every day. And the federal government is putting in another $5 billion of deficit spending every day.

With this kind of support, you wouldn’t expect asset prices to fall. Instead, they should be soaring.

“Don’t fight the Fed,” the old timers warn.

But watch out. The Fed might have lost control.

The Great Correction isn’t going away. It’s intensifying.

As you know, it’s been war out there. The feds against the market. The market wants change. The feds fight to protect the status quo.

It’s an ancient struggle. But this phase of it has been going on for more than 10 years. The markets try to go down…to correct their mistakes…to reduce the amount of debt in the system. And the feds fight back with overwhelming firepower – forcing prices back up…adding more debt…preventing bankruptcies. And now the battle is heating up.

What to make of it? First, the feds can destroy wealth. They can prevent it. They can move it around. But it’s only the private sector – and market forces – that create it.

Second, the more the feds meddle in the markets, the more distorted and grotesque the outcome becomes. Regulation, rigged credit markets, bailouts and subsidies – all pervert the natural outcome of market forces.

Third, the feds’ current use of overwhelming force to block a market correction is creating overwhelming unforeseen and pernicious problems. They put money into the system to try to encourage spending and investment. The money pushes up stocks – giving investors more “wealth” to spend. But it also tempts speculators into risky trades…and pushes up oil prices…giving business and consumers higher energy prices…and less money to spend on other things.

Let’s look at what happens next.

No, the feds didn’t cause earthquakes in Japan or revolutions and civil wars in North Africa. But they created such a rickety financial structure…so top-heavy with debt…that almost any calamity can bring it down.

As it happens, political troubles in the Arab states…and Japan’s nuclear problems…both grip the world’s single most important market – oil – like the jaws of a vise.

The Arab world produces the stuff. Japan consumes it. Without its nuclear reactors, Japan will rely even more heavily on other forms of energy…leaving more people standing in line with gas cans in their hands.

And here’s where the feds come in – their funny money had already sent the price of oil from a low near $30 at the bottom of the ’09 crisis…to a high over $100 before the first coffee cup started to rattle in Japan.

Where the price will go next, we don’t know. But it’s being squeezed on both sides – supply and demand – simultaneously.

And here’s something you should know:

According to Nomura Securities, every time there is a big increase in the price of oil – 170% or more – there is also a recession.

We mean every time in the last 40 years – ’74, ’79, ’90, and ’00.

And don’t forget, it wasn’t just subprime debt in the US that spelled doom for the economy in ’08. It was also skyrocketing oil prices…that pinched household budgets all over the world.

And guess what? The price of oil has already risen more than 170%. It had hit the critical point even before the revolutions in North Africa or the earthquakes off the coast of Japan. Now, under even more pressure, we can expect a higher price of oil…until the bottom falls out again…

Bill Bonner
for The Daily Reckoning

Bill Bonner

Since founding Agora Inc. in 1979, Bill Bonner has found success in numerous industries. His unique writing style, philanthropic undertakings and preservationist activities have been recognized by some of America's most respected authorities. With his friend and colleague Addison Wiggin, he co-founded The Daily Reckoning in 1999, and together they co-wrote the New York Times best-selling books Financial Reckoning Day and Empire of Debt. His other works include Mobs, Messiahs and Markets (with Lila Rajiva), Dice Have No Memory, and most recently, Hormegeddon: How Too Much of a Good Thing Leads to Disaster. His most recent project is The Bill Bonner Letter.

  • John

    It takes stable petroleum prices to run a modern industrial economy. I foresee a future for America where speculators drive the price of oil up, the economy collapses, price of oil drops, economy recovers…sortof, oil prices escalate again and then the whole cycle repeats itself. This sobering cycle of economic events was predicted years ago by peak oil officiandos, looks like they may have been right.

  • John

    Maybe it’s time to start looking into a post-industrial, post-big oil America and develop a new economic model based on……..what?

  • http://www.investorsfriend.com The InvestorsFriend

    Bill says the Fed is pumping money into the system which has driven up the price of financial assets including stocks and oil.

    True enough…

    Let’s review how it works…

    The Fed buys existing Treasury bonds held by banks. The bank creates cash out of thin air to pay for the stocks. The banks now have less money invested in treasury bonds that earned the banks little but at least something. They now have more cash which earns nothing.

    So the banks tend to lend that money out on easier terms so they can earn some interest.

    A big investor borrows a swack (a technical term) of money and buys stocks.In the process of buying he bids up the price of stocks in order to pry some loose from a seller(s). Now he has stocks but the sellers of the stocks have money. Those sellers now have cash and so they go look for something to buy, they bid up the price of some other stocks. But then the new sellers have cash. And they go buy something. This creates a virtuous cycle, the same cash gets passed back and forth and stocks keep getting bid up in price, higher and higher.

    It’s a wondrous process.

    It’s scary though to think how all this works in a deleveraging. I decide to pay off a loan so I sell stocks and get cash but in order to entice a buyer I need to offer my stocks at a lower price. The buyer reluctantly buys when the price is low enough, parting with his cash. Then he needs to pay his loan or otherwise wants or needs cash and so he sells pushing the price of stocks down some more.

    It’s a wondrous process a vicious cycle of price declines. That is how deleveraging would be working if it were not for the Fed offsetting this by blowing fiercly creating a storm of cash from thin air.

    When the (Fed) wind (stops) blows(ing),and the bough (the market)breaks, down will come (the market) baby, cradle full of wealth effect and all…

  • scotty

    “We were like a carpenter without a hammer…a clown without a red nose…an idiot without a village.”

    Sometimes I think I read your column not just for the sound economic advice, but for your scintillating humor.

  • jess

    2005-gas prices spike and never quite come back down. Lots of people with big mortgages and big SUVs living check-to-check. They hadn’t planned on hundreds per month extra in gas. They max out credit and cut back (causing others to lose their jobs). By 2008, this starts showing up as defaults/foreclosures and job losses.

    Now the system is weaker: less credit, less wealth-the delay from price shocks to recession will be shorter.

    Makes sense to me.

  • Scott Walker hanging on a lamp post

    You make the free market sound like a mess.

  • Mike O’Connor

    There is essentially no flexibility in the power plant business. That is, it would take Japan years to get new plants on line that burned oil instead of nuclear fuel.

    Thus I don’t quite get how demand for oil is to pick up due to the quake, so as to make the other half of the “squeeze” along with Arab state troubles reducing supply.

    Short-term the reaction was oil price reduction due to Japan’s coastal oil facilities being destroyed, including a refinery near Tokyo that caught fire.

    I can see, again short term, the import demand of Japan shifting from oil to gasoline as the latter is already-refined oil… making up for the loss of the refinery refinery. That is, there are gasoline tankers and it would be easier to quickly develop facilities to receive them than it would be to construct a new refinery.

  • Scotty 1

    “We were like a carpenter without a hammer…a clown without a red nose…an idiot without a village.”

    Sometimes I think I read your column not just for the sound economic advice, but for your scintillating poetry.

  • nowChildren!

    what is the matter with you children?
    pay attention!

    john…you say, Maybe it’s time to start looking into a post-industrial, post-big oil America and develop a new economic model based on……..what?

    reflation! reflation is good! the oil price has been successfully reflated! all is well.
    c’mon! how can people miss this? forget that naysayer stuff. this is PLANNED! the FED is saving all the bacon and we sure don’t need folks criticizing the obvious success of Monetary and Fiscal Genius.
    i think we all are beginning to see that to erode confidence is to undermine America, herself, and make the Homeland less secure, too!

    ok, now it’s naptime…

  • Children to an adult child

    Old baby-boomer, how much your wasteful obese life and attitude have made the planet secure ?

    You sleep as your Fed-age gets over.
    We remain awake to bring our gold-age over.

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