Deferring Recession: A Short History of the "Age of Bubbles"

The Dow fell 41 points yesterday…for no particular reason.

Gold went up $9…again, for no particular reason.

So, we will continue our description of what is really going on…for no particular reason other than curiosity. And self-protection. And personal enrichment. And bragging rights.

Future historians, when they finally get a grip on it, will no doubt dub our time as the “Age of Bubbles.”

The feds created a bubble in the ’90s – a bubble in tech stocks. That bubble was driven not just by the US feds…but by the Japanese feds too. The Japanese were in a major correction. They tried to get out of it using the same old tricks – cheap money, deficit spending, massive borrowing and even QE. This led to the “yen carry trade,” in which speculators borrowed yen at zero interest rates and invested the money in the hot market of the time – Wall Street! It was the go-go era.

The Dow bubbled up…and then popped.

We thought – wrongly – that the game was over. We expected stocks to go down, down, down…until they finally reached a trough at real values. Then, with the mistakes wrung out of the system, and equities at good prices, a new bull market could begin.

Instead, the feds stalled the correction, reversed the bear market, and created an even bigger bubble – this time in housing and finance. The US feds followed the Japanese model. Faced with even a feeble recession, the Fed dropped rates to below the level of consumer price inflation – and left them there for years. The Bush administration, meanwhile, took the budget deep into deficit territory.

Do you remember the “Recession that Wasn’t”? That was the failed mini-recession of ’01. The authorities attacked it with so much new money and credit it was over before it had barely begun. Consumers kept borrowing and spending. Investors went right back into the stock market. Speculators moved on to the next hot market.

This time speculators borrowed to buy mortgage backed securities – and derivatives that only the mathematicians seemed to understand.

Result: Bubble II. After tracking inflation for nearly 100 years, house prices suddenly doubled. The Dow went over 14,000. Wall Street went wild.

This bubble sprang a leak in ’07. By ’09 it was losing air fast.

Once again, the feds got out the pumps. We’ve been following the story for the last 5 years…and yet another bubble is taking shape.

Food prices are rising so fast they are causing riots. Gold is edging back up towards $1,400. Stock prices are still going up too – nearly 2 years after the rally began on March 9th of 2009.

David Rosenberg explains (in The Financial Times) what it means for the stock market:

Just as the prior bear market rally was built on a shaky foundation of unsustainable credit and house price appreciation, the current bear market rally has been built on an even shakier ground of surreal public sector intervention.

But no use telling investors. They go for whatever is hot. And stocks are hot. Commodities are even hotter.

Practically everyone believes that the economy is recovering…inflation rates will go up…and that the hot markets will get even hotter.

“Don’t fight the Fed,” they say to one another. And everybody knows what mischief the Fed is up to. It used to be a crime to print money without any backing whatsoever. Now, the Fed is doing it in broad daylight. It’s pledged to add $600 billion to the nation’s monetary base before the end of June.

“If that ain’t a guarantee of more inflation,” says one investor to another, “I don’t know what is.”

But is it? Has there ever been a bubble that hasn’t popped? Not that we’ve ever heard of.

Stick with the program, dear reader…sell stocks on rallies (like this one)…but gold on dips.

That was our advice for the last decade. It’s still good advice.

Or, if you want to move into this decade’s advice, here’s the formula:

Sell Japanese government bonds on rallies, buy Japanese small cap stocks on dips. The bubble in Japanese government bonds will blow up too. When it does, Japanese investors will rush to low-priced equities. Count on it.

Okay, so it’s a little harder to do. But who said investing was going to be easy?

Bill Bonner
for The Daily Reckoning

The Daily Reckoning