Of Alchemy and Other Farces

Mogambo on Monday! In today’s episode, the mighty Guru makes clear his distain for imaginary money…and real money that has no business existing.

I had a horrible feeling something truly awful would happen last week, and I was right. The Federal Reserve – which will in the future be known by foreigners as "The Filthy Toilet That Flushed Our Money" – found it could not restrain itself a moment longer. And so, they ramped up Fed Credit by another $10 billion last week.

Now this is not just ordinary money! No, sir! This is the fabled High-Powered Money of story and song (S&S). This is pure, raw credit, the stuff that is literally created out of thin air, and then used by the banks to expand by a hundred-fold via the fractional-reserve multiplier! In his film, "The History of the World, Part One," we saw the King of France, played by Mel Brooks himself, winking at the camera and saying "It’s good to be king!" Which is, I gotta admit, a lot better than being the Mogambo, since I can’t call down to my Treasury Department and say "Hey! I’m in a spending mood! Bring me a few billion dollars. In cash! And make it snappy!"

The good news is that I have decided to invest some money in biologically engineering a Golden Goose that will lay eggs of pure gold. Seems like a tech-savvy, hipper and safer way of creating gold than what those guys who practiced alchemy used to try. Remember? They breathed poisonous fumes trying to turn base metals into gold via chemistry and superstition and gossip, and they all ended up insane and broke. And dead, you’ll note, because nobody believes that stuff anymore. Or maybe the jobs as Alchemists have been out-sourced to India or something. I dunno.

Fiat Money: Base Metals into Gold

But now that I think about it, I look at my watch and I see it is time for a little childish bit of ridiculous farce, and ask how that old-time alchemy stuff is any different from what Alan Greenspan is doing? He is trying to convert base metals (fiat money) into gold (a prosperous economy) via alchemy (using a little math, a little stupidity, unreliable computer models, and rigid adherence to a stupid and demonstrably false theory that disregards everything we know for sure about how economics works, which is clearly taught by Rothbard and Mises and that whole Austrian School of Economics, which is the camp that I put myself in, although when I go there and ask to come in, they turn off the lights and pretend they aren’t home, but I know they are in there because I can hear them snickering and poking each other and trying to suppress their laughter at my expense).

Now all we have to do is find out who is going to end up insane and broke. Who? Or whom?

Well, it ain’t a-gonna be me! And if you listen to me, it ain’t a-gonna happen to you, either, because I know what is going to happen, and thus I own gold and commodities, and therefore I will end up with the riches of a king, just like all the other guys in history who faced what we are facing and who did what I did, and if you are taking my advice, do what I do, because those guys ended up owning everything and having all the money after the inevitable collapse, and they ended their lives rich and happy and actually squealing in delight at all the fun they were having, and calling all the shots, and making themselves into kings, and I’ll bet if you could talk beyond the grave to one of them right now, they would say "Mel Brooks was right! It IS good to be king!"

Meanwhile, getting back to the Fed, which is what we were talking about before I rudely interrupted myself, the Fed is also allowing the banks to loan out everything they can get their hands on, by reducing required reserves to the point of silliness, as they try as hard as they can to get this economy perking again. I thought that by last week we would have seen the reserves/deposits ratio break the 1% barrier, but it is still hanging out just above that absurdly low figure.

Why do I care? Well, you let some of those assets of the bank go south, and you will be given a Real Lesson In Life (RLIL) about why the ratio of reserves to deposits has never been allowed to get this laughably low. One percent! I snort, and the sight of the snorting of the Mogambo is not any prettier than it sounds, which has really damaged my Hollywood career, but I don’t want to get into that right now, thank you.

And another reason begs to be mentioned, and that is, of course, that all this absurd creation of Fed Credit and the power of fractional banking turning it into Suddenly Exponential Credit and the lowering of the reserves/deposits ratio turning it into Unbelievably, Horrendously Gigantic Credit, all that Credit action will only lead to one thing – inflation. And you know what THAT means…and if you don’t, just see how you like paying your utilities bill this month.

Fiat Money: Prices Will Go Up

Notice that the consumer price index came out last week, and prices were up 0.5% in a month. Most of it was blamed on the rise on energy prices. A guy named Kevin Logan, who says he is the senior economist at Dresdner, Kleinwort, Wasserstein, opines that "Inflation still looks very low, and it’s likely to remain low. Most of the rise was energy, and that’s not likely to be repeated."

Huh? Says who? I say the exact opposite on both counts! But then I am not a typical American economist, which is a euphemism for "moron," a term that I use when some bozo cuts me off in traffic, as in "Hey! Watch where you are going, you filthy little American economist!" or when I am advising visitors at my house to "Watch your step in the back yard, as I have a dog and I have not gotten around to cleaning up all the piles of American economist opinions."

Well, I am here to tell you, and this Logan fella, that the prices of everything else will also go UP, because energy prices are UP, and will keep on going UP, and so prices are NOT expected to remain "low," as far as I am concerned, and to tell you the truth it is my considered opinion that prices are NOT low now, and are in fact going UP at alarming rates, and if I have to I can bring in experts with impressive credentials from prestigious, big-name universities and colleges who can tell you, with eye-catching graphs and charts and all that stuff, that prices that are rising higher and higher are not, as you have heard, "low," and furthermore, are not going to "remain low," either.

And suddenly the music stops and I abruptly put my fingertips to my temples, and in my mind’s eye I can see, yes, it’s getting clearer and clearer, I can see through the Parting Veil of Time, and I see that energy prices will continue to go up, because oil producers will be perpetually loath to keep selling us their oil in return for increasingly worthless dollars, because everybody is laughing at them for doing that. "Ha ha! Stupid OPEC will trade oil for less real, devaluation-adjusted dollars! Nyah hyah hyah! OPEC is stoo-pid! OPEC is stoo-pid! Ha ha!" Especially when China’s economy is growing like gangbusters, and when its appetite for oil is increasing every single day, and will continue to increase exponentially for a long, long time. And so it is child’s play to forecast higher and higher prices for oil until, and you might want to get out your calendars and write this down, March 27, 3455 at, oh, around just before lunch, I figure.

And don’t laugh at the ridiculous exercise of forecasting out that far! The government, your own government, at the request of guys you elected, is providing forecasts of the American economy 75 years out. 75 years! Hahahaha! 75 years! Hahahaha! Let’s see; that means we can go into the dusty archives and take out the government’s 1929 forecast for the next 75 years, which is, coincidentally, 2004, which is also, coincidentally, today. Perhaps it will prove instructive to see how well the government economists of 1929 predicted what is happening today!

Fiat Money: Acting Like Drunken Sailors

Oops. Just got back from the dusty archives where I looked for that 75-year forecast, and boy, am I dusty! But as far as I can tell there is no "Government Economic Forecast For The Next 75 Years" published in 1929. And in talking with historians of that era, the reason is that it was always considered laughably stupid to even suggest such a stunt, much less to waste time doing it. Sort of like alchemy, and see how that references a previous section, pulling this little essay together?

In short, the damnable Fed and the damnable Congress are acting like, and have acted like, and promise to continue acting like drunken sailors for the rest of your life. And one of the Iron Laws of Economics, and I am sure that you remember the Iron Laws of Economics, is that printing excess money and credit has the effect of always destroying the value of money, and in this case the dollar.

Now, if you are Alan Greenspan or any of the deliberately obtuse dolts who work for the Fed or the U.S. government, then this means absolutely nothing to you, or if it does, then you are careful not to say anything. But if you are a person who buys anything priced in dollars, then it almost surely means a great deal to you, or it will very soon.


The Mogambo Guru
for The Daily Reckoning
March 1, 2004

P.S. Gold had a nice sell-off recently, and that was a Gift From Above, and all you had to do was walk over there and pick it up. You did? Good!

Editor’s note: Richard Daughty is general partner and C.O.O. for Smith Consultant Group, serving the financial and medical communities, and the editor of the Mogambo Guru economic newsletter, an avocational exercise the better to heap disrespect on those who desperately deserve it.

The Mogambo Guru is quoted frequently in Barron’s, The Daily Reckoning, and other fine publications.

We had just turned up a big rock on Friday.

Under it was a slimy, repulsive animal with an empty, deflated head and a puffy, deflated body. It is neither fish nor fowl…neither the deflation of America in the ’30s nor Japan in the ’90s…but not your typical inflation, either. Instead, it has the worst characteristics of each, mixed together in some terrible mutant shape so horrible to look at, we just couldn’t bear it – at least, not while we were still on vacation.

We dropped the stone immediately.

But now it is a new week, a new month, and our holiday is over. So we return to work with a hoe in our hand – ready to bruise the head of the serpent should it get out of line.

And what an odd beast it is!

Last week, GDP figures for the last quarter were revised to over 4%. Alan Greenspan appeared in public and said the U.S. was on the road to sustained growth. Stocks went nowhere, but they didn’t have to; they were already at boom-time levels.

If it were true that the U.S. economy really was headed towards another impressive growth spurt, you might expect a spurt in employment, interest rates and consumer prices, too. Or to put it another way, investors should prepare for inflation; that is what you usually get when you juice up the economy with easy money.

But this weird thing in front of us looks very different from a typical inflation cycle.

Some prices are up sharply. The cost of shipping, for example, has risen 550% since 2001. It takes a long time to build a ship, and with the new Asian trade, it appears that there aren’t enough of them. But the prices of the goods shipped are not necessarily going up. Commodities on their way to China have gone up…but the finished goods coming out of Chinese factories have actually gone down.

House prices, too, are up sharply. But rents are going down…for an obvious reason: rising house prices have encouraged production of homes and apartments.

And while we are supposedly a year and a half into a recovery, employment still hasn’t bounced back…and bonds still act as though the economy were in a slump.

"January’s mass layoffs set record," reports the Kansas City Star.

Consumers may have reached the limit of their ability to add new debt and new expenses. We know we have said this before…but we are bound to be right sooner or later. And when consumers can no longer spend what they don’t have…prices on what they don’t need are likely to fall, not rise. Plus, about a quarter of factory capacity in America is still unused. So, there is a long way to go before supply limitations force price increases.

Prices that are rising seem to be doing so either because of unique circumstances – such as shipping – or because the dollar is falling. The dollar may fall much further…which will put up energy costs. But this is not the inflation of an ‘overheating’ business cycle. This is the inflation of a falling dollar…which could get worse as the U.S. economy goes into a prolonged Japanese-style slump.

What can we call it? Rising prices and falling ones too…inflating prices in the midst of a recession…? What name can we give this hideous new beast? Aha…let’s call it INDEFLATION, a period in which American consumers watch their costs of living go up…even as their economy collapses.

More on indeflation tomorrow…

Now, here’s Eric with more news:


Eric Fry, on the ground in Manhattan…

– "See Dick take. Take, Dick. Take." Former New York Stock Exchange Chairman Dick Grasso is refusing to return a single cent of the $140 million compensation package that led to his resignation last September. To the contrary, Grasso may seek $50 million more that he says he is "owed."

– Grasso’s attorney, Brendan Sullivan Jr., says that his client has done nothing wrong in accepting the compensation and "has no intention of returning any portion." True enough; but did Grasso ever do anything that was so supremely right that it deserved a $140 million windfall?

– Meanwhile, down on the same exchange that Grasso used to fleece…ah…oversee, investors struggled this week to reap even a single dollar. The Dow Jones Industrial Average fell 1.1% to 10,584, although it still managed to close out the month of February with a slim gain. The Nasdaq Composite dropped 1.7% for the month to 2,030.

– While the stock market drifts aimlessly, the economy continues to sail a steady course. Friday morning, the Commerce Department confirmed that U.S. GDP expanded at a 4.1% rate in the fourth quarter. That’s a notable pullback from the too-good-to-be-true 8.2% pace of the third quarter, but still not too shabby. A few moments after the GDP report crossed the wires, the University of Michigan disclosed that consumer sentiment rebounded slightly in late February.

– Meanwhile, the National Association of Purchasing Management’s reports that business conditions in New York City improved for the sixth straight month in February and improved for the 10th straight month in Chicago. "Overall, purchasing managers were optimistic," the NAPM noted. "Nearly 75% of those surveyed said they plan to increase technology spending in 2004."

– The spate of bullish economic data powered the dollar to one-month highs, while keeping pressure on the gold price. The dollar ended the week at $1.249 per euro. April gold slipped $1.20 for the week to $396.80 an ounce. Somewhat surprisingly, however, gold stocks GAINED about 2% last week. Are gold stock buyers onto something?…or are they on something?

– The highest-flying commodities on the planet continue to be the lowly base metals. Week after week, they’re stealing the shine from their precious counterparts, gold and silver. Zinc advanced to a new 3-year high last week, while copper soared 3% to a new 8-year high of $1.343 a pound.

– "Steel prices are soaring," your New York editor was informed on Friday. The source of the observation is a life-long friend who earns a handsome living selling specialized steel products on the West Coast. "We’re seeing some huge price hikes," he says. "Some products will be going up 40% over the next two months…It really sucks."

– Happily for us all, Chairman Greenspan has assured the nation that inflation is non-existent. That’s a good thing too; otherwise we might have reason to be worried about the surging price of steel and crude oil and gasoline. Crude futures closed above $36 per barrel for the first time in almost a year, and ended the week with a gain of nearly $2. Average retail gasoline prices jumped to a 5-month high.

– Even if Alan Greenspan can’t see any inflation through his bifocals, the Chairman’s employer might soon feel the pinch of rising metals prices.

– "In 2004, the U.S. Mint will likely lose money minting pennies and nickels," observes our learned colleague, Dr. Steve Sjuggerud, editor of The Investment U E-Letter. "Starting this year, pennies and nickels may be worth more for their metal content than for their purchasing power…So it might be time to start burying pennies and nickels in your back yard," Sjuggerud suggests.

– "In 2003, it cost the U.S. Mint 0.98 cents to make a penny. This used to be an easy profit game for the government… In 2002, it cost 0.88 cents to make a penny. And in 2001, it cost 0.80 cents. But now, in 2004, it is almost assured that the government will lose money minting pennies.

– "The U.S. Mint counts September 30, 2003 as the end of its fiscal year. Since then, the price of copper has risen by 62%. Copper, you may be surprised to learn, is the main ingredient in a nickel. In 2003, it cost the government 3.78 cents to make a nickel. Easy profits right? But the government didn’t count on the dollar crashing. If the price of copper, the main ingredient in a nickel, stays the same, it’s possible that the cost of could rise by 62% in 2004. Then it’ll cost the government over six cents to produce a nickel.

– "The situation is similar with the penny. The main ingredient in pennies is not copper, but zinc. Actually, zinc makes up 97.5% of a penny. Zinc is up nearly 40% since the end of the 2003 fiscal year. So if the cost of producing a penny rises by 40%, it’ll cost the government 1.38 cents to make a penny.

– "How can the government get out of this mess?" Sjuggerud asks rhetorically. "Oh that’s an easy one…change the metal content of the coins. I’m sure it’s only a matter of time. Maybe next year we’ll be spending poker chips instead of pennies. And just think, someday down the road, even those poker chips will have more intrinsic value than a paper dollar."

– Please be advised, however, to prevent rotting you must wrap poker chips in thick plastic bags before burying them in the backyard.


Bill Bonner, back in Paris…

*** The price of gold rose slightly on Friday – to $396.80. Still below our buying target…

*** A new book by economist Lawrence Kotlikoff puts the present value of the federal government’s future financial commitments, obligations and debts at $45 trillion – more than 4 times the size of the entire annual GDP. How can Congress come up with that kind of money? We don’t know, but it won’t bring it up from the ground, an ounce at a time.

*** The dollar hit a new low against the European’s money last month – at $1.29 per euro. We remember when U.S. 88 cents would by a euro. At the time, we guessed that the dollar would fall…to $1.50/euro. We still think so.

*** At about the same time you could buy a euro for 88 cents, you could also buy an ounce of gold for $253. Now it is close to $400. What happens next? We don’t know. But just as there has not yet been a satisfyingly catastrophic bear market in stocks, neither has there been a satisfyingly pleasant bull market in gold. Gold buyers are still kooks. Our advice: stick with it until they are geniuses.

*** Poor Samuel Huntington. The man sees civilizations clashing everywhere. And if there are no clashes…his friends and followers whip up the mob to create them.

It was Huntington who invented the "Clash of Civilizations" concept that got neo-conservatives lathered up for war in the Mideast. He saw the Islamic world as a competing ‘civilization’ in need of a whooping. And now, in Foreign Policy, a magazine that has provided a refuge for big-thinking scoundrels for many years, Huntington sees another clash coming:

"The persistent inflow of Hispanic immigrants threatens to divide the United States into two peoples, two cultures, and two languages. Unlike past immigrant groups, Mexicans and other Latinos have not assimilated into mainstream U.S. culture, forming instead their own political and linguistic enclaves-from Los Angeles to Miami – and rejecting the Anglo-Protestant values that built the American dream. The United States ignores this challenge at its peril."

Of course, every group of immigrants to America soon acted as if it owned the place. The Powhattan and Pomonky tribes of Maryland must have resented the arrival of English settlers in the 17th century. Then, the English worried when the Germans, Italians, Irish and Jews showed up. Efforts were made both to keep them out…and to prevent them from seeming so foreign. But each group that came ruined the place in its own peculiar way, and then sought to keep out the next group of immigrants. Now it’s the Latinos’ turn. Advice to Huntington: learn to speak Spanish.

The Daily Reckoning