Blowing Bubbles

It has been widely reported that Mr. Greenspan spends an hour a day in the bathtub.

There, the most powerful man on the face of the earth… indeed, more powerful than any asleep in its bowels too… must do his important work. Surely, he studies the same figures and reports we do, though sometimes a day or so before we get to see them. He must also have to squint his way through the blizzards of data that blind so many economists, journalists and investors.

But then, you can imagine that the moment must come when, with a dripping hand, he puts down his papers and pauses to think.

At that moment, were it not for the delicate scent of jasmine bubblebath and the womb-like comfort of the tub…he might panic. For he must realize, as you and I do, that he has helped create the biggest debt bubble the world has ever seen. And all it would take for the bubble to pop into a messy recession…which might take years to clean up…is a shift of consumer sentiment. What if people suddenly began to act like the Japanese – working hard, saving their money, paying off their debts?

A shiver must pass over the Fed chairman when he thinks about these things. He knows that a credit bubble only lasts so long as people are willing to spend more than they can afford. If the “group feel” of Americans ever turns toward thrift – Pop!

“There is a precedent for a such a return to frugality,” writes David Tice. “In the 1980s, it was the Japanese consumers who were spending like crazy…The Japanese were such avid spenders that from ’82 to ’90, consumer credit jumped 130% while disposable income rose just 27%.”

Then, the ‘group feel’ of the Japanese shifted away from debt, and has not returned.

If that were to happen here, he…Alan Greenspan…will be transformed as quickly and as completely as the bubble itself. Instead of being viewed as a maestro, he will be seen as a musician who can’t get on-key. Instead of being loved by investors, they will detest him. Instead of enjoying the whole world’s esteem in the final years of his career, he will be regarded as a fool.

And yet, if he can just pull off another rescue – as he did in 1998 – his reputation and career will end on a note so high that none of his successors are ever likely to match it.

“This IS a lot like ’98,” he must think to himself: “Then, it was Thailand. This time it is Turkey. And what did we do? We did what we always do,” he must reflect, perhaps running a little more hot water into the tub, “introduce more liquidity…it always works.”

Most people are ready to believe…in fact they are desperate to believe…that the trick will work again.

“We know where Alan Greenspan is headed,” writes Robert S. Salomon, Jr. in Forbes, “down the rate-cutting path, potentially leading to a record number of mortgage refinancings and other benefits. He will be joined by the Bush Administration, which will succeed in getting a tax cut… In addition to fiscal and monetary stimuli, look forward to declining oil prices in the spring, giving consumers an additional break. Soft economic landings and stock market rebounds are made from all that.”

Almost all leading strategists and analysts on Wall Street expect a recovery of stock prices in later in the year. And “of 54 economists recently surveyed,” writes Marc Faber, “52 are looking for a powerful rebound in the second half of 2001.”

Or as Jim Cramer puts it, appealing directly to the sentiments of mob investors: “Quit moping about last year’s market meltdown. That’s ancient history. The time to get on with the rest of your investing life is right now…Now that Greenspan has taken his foot off the brake and begun to force interest rates down, you want exposure to the stock market…This is the lowest risk, highest reward environment possible. You have the Fed – and history totally on your side.”

There is no doubt that the Fed is on Cramer’s side. But history?

“Didn’t [rate cuts] work magnificently in 1998?” asks Dr. Kurt Richebacher. “Apparently, this happy memory of highly successful Fed magic in the past is playing quite an important role in banishing any gloomy thoughts about the U.S. economy in the present…”

But the memory of ’98, with which Mr. Greenspan may comfort himself in his bath, may be defective. Dr. Richebacher recalls the period: “Under the shadow of the Russian crisis, culminating in the crisis of the LTCM hedge fund, expectations about the U.S. economy had turned more and more gloomy…The Dow index had lost almost 20% within 6 weeks [and] according to Mr. McDonough, chairman of the New York Fed, ‘the developing financial crisis had the potential to become the worst in the post-WWII period.'”

The crisis disappeared, perhaps Mr. Greenspan even believes it himself, because of hasty Fed rate cuts.

“Mr. Greenspan’s rescue operation looked like a great achievement,” continues Richebacher. “The recession that many had feared never materialized.”

But this time it may be different. Why? “In reality,” explains Dr. Richebacher, “the U.S. economy never slowed down. Quite the opposite, its growth, sharply accelerated from 2.9% in the second quarter and 3.4% in the 3rd quarter to 5.6% in the 4th quarter [annualized rates]. Mr. Greenspan was successful in fighting a recession that never existed. Nor was there any true credit crunch. America experienced its greatest credit deluge ever…”

Instead of cutting back their borrowing and spending, Americans rose to the bait of easier credit. The credit bubble, which had begun inflating in 1995 began to swell at an even faster pace. By mid-2000, nominal GDP, measuring all the goods and services the economy produces, had risen $2,720 billion during the 5-year period. But corporate and consumer debt rose almost twice as much – up $4,750 billion. And the financial sector added another $4,150 billion…bringing total credit and debt creation to $8.9 trillion for the period.

“The rate cuts obviously had their true cause in nothing but full-fledged panic on the part of Mr. Greenspan and the Wall Street elite…” concludes Dr. Richebacher.

Three years later, Mr. Greenspan can be counted on to do as he has always done. He will lower rates. But it is a different world. Consumers are far more deeply in debt than they were in ’98. They own less of their homes. Oil is more than twice as expensive. The inflation rate is more than twice as high as it was in ’98. Mortgage rates are still more than 50 basis points higher. Real incomes are growing at 2.7% rather than 4.6%. The saving rate is already negative; it was still over 3% in ’98. And the Wilshire 5000 stock index fell 12% last year rather than rising 21% as it did in 1998.

Consumers may want to accommodate the Fed chairman…but thanks to his previous rate cuts, they may be unable to afford it this time.

That thought must cross Mr. Greenspan’s mind too – when he is alone in his tub, with his bubbles.

Bill Bonner Paris, France March 1, 2001

*** Spirits sank as the news spread up and down Wall Street: Field Marshal Alan Greenspan spoke to the civilian authorities in Washington yesterday and seemed to indicate that the situation was not yet grave enough to warrant sending a relief column.

*** “Greenspan to Wall Street: Drop Dead” as one journalist put it. Was Wayne Angell wrong? Probably, but there are still 2 days left in the week.

*** There were a lot of casualties yesterday, as the Dow fell 141 points. The Nasdaq dropped 55, bringing it to a 13% loss for the year.

*** Investors continue to listen for the sound of artillery and advancing tanks…but all they can hear is the continual sniper fire from Mr. Bear…and an explosion from time to time as yet another Big Tech blows up.

*** “The market is looking for positives and there just haven’t been any,” said Eugene Profit of Profit Funds.

*** Instead, in addition to rate cut that didn’t happen, Wall Street got more bad news yesterday – growth didn’t happen in the 4th quarter either. GDP growth was revised to just 1.1%, the slowest rates of growth in more than 5 years.

*** Plus, Intel’s CEO, Craig Barrett, gave voice to what many are beginning to suspect: there is no reason to think that business might recover in the 2nd half. Intel’s stock was hit for a 1.5% loss.

*** The worst damage yesterday was among the Internets. Poor Jeff Bezos! His stock fell into the single digits before rebounding to close a little over $10.

*** Cisco fell below $24…amid the typical whining and hand-wringing of a bear market.

*** But the most dangerous Big Tech, says John Crudele in his NY Post column, is IBM. “Dell’s profit forecasts are down 11.5% for the month, and 31.5% over 3 months. Hewlett Packard’s down 7.5% for the month and 21.1% over 3 months. And Gateway, down 3% for the month and 60% over 3 months.” Gateway, for example, warned investors that it would be lucky to ‘break even’ in the first half of the year. But IBM and its shareholders have still not recognized that computer makers are in a major bear market.

*** Mr. Greenspan said yesterday that there was no cause for alarm, because “the forces contributing to the long term productivity growth remain intact.” But just in case:

*** “Just how hard Greenspan is pushing on the accelerator pedal,” noted Marc Faber recently, “is evident from the recent bulge in money supply. In most recent weeks, the MZM aggregate of money supply has been increasing at an annual rate of more than 19%; on a 13-week measure it is rising at an annual rate of close to 10%, and at a rate of 8.2% year- over-year. This wouldn’t be disconcerting if it wasn’t for the fact that the last few years have seen one of history’s greatest credit expansions.” (see: The “Desperado’s” Last Race )

*** “Greenspan said that he doesn’t really watch the money supply,” Bill Fleckenstein points out. “That should come as no surprise, since he’s already admitted that he doesn’t know what money is. Anyone who has watched his behavior for the last few years already knows that he doesn’t watch the money supply, or anything else, except for spurious things he makes up like the ‘quit ratio,’ P* (P-star), and the ECI, which stands for Employment Cost Index, to name a few. And now he is watching consumer confidence. He ought to do the world a favor and resign, but that’s a topic for another day.” (Mr. Magoo Lays An Egg )

*** While U.S. investors are desperate for a rate cut and disappointed, Japanese investors actually got one – and are still disappointed. The Japanese equivalent of the Fed Funds rate was cut to 0.25% – that’s one quarter of one percent, or effectively nothing.

*** But American investors might want to reflect on what good these rate cuts actually do. Japan’s central bank has been giving away money for years…and it’s government has been spending money it didn’t have at such a pace that it became the world’s biggest debtor. And to what effect? Yesterday, the Nikkei Dow dropped below 13,000 – its lowest level in 15 years. Since 1986, in other words, stockholders in Japan have earned exactly zero on their stocks (not including dividends, which have been marginal).

*** Yale Economics professor Robert Shiller, recently interviewed in Barron’s, said he saw a similar fate in store for the U.S. “Stock prices clearly have a long way to go on the downside,” said he, “At a minimum, I think that we will face a decade or two of desultory price action in the stock market…such as the Nikkei has suffered since its collapse… That’s what happened after past U.S. stock- market bubbles burst in 1901, 1929, and 1966. Twenty years of grind and substandard returns.”

*** Shiller does not believe the Information Age offers much of a boost to productivity. He argues that the National Highway System, begun by the Eisenhower Administration, was much more important. The Interstate, not the Internet, changed the face of the country, and made it easier for business and consumers to get around. Even so, during the 20 years in which the Interstate system was being built, S&P earnings grew at a substandard rate.

*** “Capacity Utilization” – a stodgy term economists use to indicate how efficiently factories and businesses are using their equipment – has dropped below 80%. “That’s historically a sign of deflation,” says The Fleet Street Letter’s Lynn Carpenter. “The last time we saw this number was in 1991. The Fed cut its benchmark rate from 6% to under 4% over the next year, and still utilization fell… for another three years. Then it rose slowly. It didn’t climb back above 80 until 1995.”

*** Gold lost 60 cents yesterday. From a recent column in the Financial Times: “Gold has become a marginalized currency that is still in search of a new – and probably much lower – fair value.” The dollar fell too, with the euro rising above 92 cents.

*** John Myers: “Technically gold is coming off a double bottom in mid-February and looks one heck of a lot better than it did a week ago. Meanwhile Canada’s Gold and Precious Metal Index rose almost 4% on Monday and now sits at 4386, up 26% from its lows last autumn. During the same period the NASDAQ has fallen from just under 4,000 to 2300. Canadian golds have been a leading indicator for the gold market all the way back to the ’70s.”

*** GE – a stock in which a lot of people are destined to lose a lot of money – fell $1.50.

*** Here’s an opportunity for an idiot. Dr. Ego-ebo Michael sends an “Urgent Business Proposal” by mail. “I am the special adviser on arms control and acquisition to the current Republic of Sierra-Leone,” writes Dr. Ego-ebo. The letter then goes on to explain how he was given $25,300,000 and sent to the Netherlands to buy weapons but decided to defect (with the money, of course.) He now asks my help in transferring the money into a different account and offers to pay $5 million for the service, plus a couple of million (!) to cover hotel and fax bills. If you feel like being fleeced by this scam you may contact Mr. Ego-ebo at

*** Yesterday, in 1849, a ship called California docked in San Francisco and dropped off the first boatload of miners seeking to find ‘gold in dem dar hills.’

The Daily Reckoning