Second Amendment Babes

The MoGu finds himself in ER. This time its serious. Get the life support machine and call in the priest in to administer the last rites. The problem? You guessed it, the usual sniveling socialist newspaper editors…

Oil is the big story at the moment. And everywhere I go people tell me how handsome I am and how I am the most charismatic person they have ever met. And when they have finished with their compliments, they go on to tell me that higher gas prices have the same effect as a tax.

So when I heard the argument that higher gas prices are not like a tax at all, I popped my head out of the Mogambo bunker and tried to hear what was being said. I found Caroline Baum of Bloomberg standing over me, with a look of pity on her face.

Caroline Baum was explaining that higher demand raises the price of oil, which stimulates production of oil. But that a higher oil price caused by tax add-ons – which is different from a higher oil price caused by increased demand – will NOT drive producers toward higher production.

She writes "Substantive reader challenges to my thesis fall into two basic categories. The first is that higher gasoline and heating oil prices act like a tax in that consumers have to allocate a higher proportion of their household income to them. That leaves less discretionary income to spend on other goods and services, reducing demand for the latter."

And yes, you could put me in that camp, since it is obviously true, as once you spend all your money on a tank of gasoline, there is no money left for this month’s issue of "Second Amendment Babes," which is our nation’s sole source of photos of naked women hand-loading armor-piercing bullets in a basement bunker.

Caroline Baum: This is Different from a New Tax How?

She even admits "That’s an entirely reasonable assumption if income is constant: more money for gas means less money for Wal-Mart."

But she cautions "Prices of those other goods would presumably fall in response, enabling consumers to purchase the same quantity of goods as they did before."

Huh? Producers of these other goods have such big margins that they can lower their prices? And the workers at those factories would not be getting any pay rises, and so the higher fuel prices hurt even more? And this is different from a new tax?

And because, even with lower prices, people still have less income, thanks to paying higher gas prices and not getting any pay rises, things will still be okay one day?

"Yes!" says Caroline Baum, this is all okay, since somebody made some money, and therefore all the money was recycled. You are broke from trying to fill up the tank on your car, but she advises you to relax and get with the program, since on some distant day in the future all this money will filter back around to you, thanks to the higher global growth, and your wages will be increased, and everything will be fine.

Now, of course, this immediately sent me in paroxysms of rage, and the next thing I know I am being roughly held down, while priests mumble Latin prayers while sprinkling Holy water on me and I am screaming "It burns! It burns!" and panicky Emergency Room people are trying to insert an IV needle into my arm and my wife is in the corner yelling "Pull the plug on him! Pull the plug!"

So I am kind of busy right now, and unable to directly respond and thus denounce the utter vacuity of this argument.

Caroline Baum: Missouri Rolled the Dice

So, as an alternative, we turn to an article by Rick Alm in the Kansas City Star entitled "Ten Years Ago Today Missouri Rolled the Dice."

This headline refers to the occasion when Missouri first allowed gambling. Everybody agrees that money has come rolling in and it pumped up state and local government treasuries, as the gambling revenue replaced all the tax revenues NOT being spent on other things. So far, Ms. Baum’s analysis is proving correct; the money DOES eventually come back around.

But the state still finds itself coping with annual budget shortfalls, and, according to one interviewee, "In 10 years, all we’ve shown is that there’s an illness side to this experiment with gambling … embezzlement, bankruptcy and the breakup of families."

You are broke from spending all your spare time in front of a slot machine, or trying to fill an inside-straight poker hand, but I am sure that Caroline Baum will soon appear on the scene, advising you to relax and get with the program, since on some distant day in the future all this money will filter back around to you, and your wages will be increased, and everything will be fine.

Caroline Baum: Take a Deep Breath and Relax

So Ms. Baum’s immortal advice is to take 1) a deep breath and 2) relax, because, on some distant day in the future, all this money will filter back around to you, and your wages will be increased, and everything will be fine. Yet, when you and I spend our money on things OTHER than gasoline or gambling, like yummy cookies, the money does NOT come back around, and it somehow disappears. Where do people get this stuff?

At this point we introduce Martin Dykman, who is the associate editor of my little leftist hometown rag, the St. Petersburg Times. Last Sunday Dykman published his latest laughable leftist lunacy entitled "Floridians can’t afford to fall for this homestead initiative scam."

What is this scam, and should you be alarmed? Well, the deal is that some people, like me for instance, want to raise the homestead exemption from $25,000 to $50,000.

With this exemption, the homeowner is not assessed ad valorem for taxes on the first $25,000 of the assessed value of his house.

The exemption has remained unchanged for decades despite the fact that most homes have more than doubled in price. This exemption obviously helps out the poor and low-income people, since it represents about $500 per household per year. And I don’t know about you, but there are lots of years that go by without me getting an extra five hundred bucks.

But helping the poor people, and the old people, and the sick people, and the lame people, and little puppies and helpless little kittens mewing pitifully will reduce tax revenues by an estimated $2 billion a year. This is money that the government will not receive next year should the ballot initiative pass.

A Robin Hood-type character is trying to return the money that the evil tax collector had taken from all of us! Hooray!

Caroline Baum: The People must Be Crushed

But back in Nottingham Castle – with a soundtrack composed of purely dark and moody notes, disquietingly inharmonious, playing dramatically in the background – Martin Dykman bends low to whisper in the ear of the evil King John.

"The government will lose $2 billion a year, your majesty! The dirty and smelly common people will take $2 billion right out of your pocket! Out of your pocket (he pokes the King in the vest pocket), Your Royal Highness, and the pockets of our little government friends. The people’s rebellion must be crushed, and they must be brought to heel!"

What this Dyckman fool forgets is that the $2 billion will be spent, one way or the other. Either government takes it, via ad valorem taxes, and spends it on the things it wants, or the taxpaying people take it, and they spend it on the things THEY want. Either way, it is spent.

Now us idiot commoners spend most of it on taxable things and some of it on investment things – both of which provide jobs – and the damn government ends up with a nice chunk of change either way. And all this is accomplished within the government’s usual framework of pecking the living guts out of anything that moves. Besides, the consumption of consumer things might even involve making some things that we can sell to foreigners, thereby reducing the trade deficit, which is now over $560 billion a year and growing.

But if the government spends it, all you get is bigger government and more calls for higher taxes by clueless editorial writers at Leftist newspapers.

The fact remains that all money is recycled somewhere. The point is to keep it circulating in the private economy and not let the stinking government get their hands on it. And whether you’re paying tax add-ons or ad valorem taxes makes no difference.

This is a fact that is somehow lost on most people, especially people like Martin Dyckman and Caroline Baum.


The Mogambo Guru
for The Daily Reckoning
June 7, 2004

—Mogambo Sez: Howard Ruff famously said that inflation is not rising prices, it’s falling money. And so working backward through that invaluable truism, the Fed is causing an unprecedented fall in the dollar by merely issuing so many of them, and so that means we will get rising prices, and finally, that means that we will have some huge inflation staring us in the face. Given the inexcusable monetary excesses that the horrible Alan Greenspan has engendered, inflation will be a problem for the rest of our lives.

Americans are getting carried away.

The ‘carry trade’ is a sophisticated gamble made, usually, by large banks, hedge funds and other financial institutions. It involves going long and short on two assets simultaneously – one of which is presumably mispriced – and pocketing the difference. Today, the sharpies borrow U.S. dollars short-term, at the Fed’s artificially low rate. (The Fed’s key lending rate, at 1%, makes borrowing cheaper than free; the inflation rate is at least twice as high.) Then, they lend the money long-term at higher rates. It is a winning bet as long as short rates don’t rise, for then, they are forced to borrow at higher and higher rates in order to pay back the short-term loans. Typically, this is how bankers go broke.

Now you too, dear reader, can go broke… just like a Wall Street financier. All you have to do is to buy a new house with an adjustable rate mortgage. You are borrowing at short-term rates in order to acquire a long-term asset. Even with no formal training, you have gotten into the ‘carry trade.’

At least for now, it looks like a can’t-miss proposition. Even if the Fed raises short-term rates, it has already announced that it will only do so with "baby steps" of, say, a quarter or a half-point at a time. Meanwhile, houses are rising at an average of nearly 10% per year – and 20% or 30% on the two coasts – while ARMs are below 5%. What an appropriate investment for America’s lumpeninvestoriat; it is a no-brainer!

Last year, Americans pulled about twice as much new income out of their homes – by refinancing at lower rates – than they got from their jobs. Household debt hit a new, all- time high at 85% of GDP, 20 percentage points higher than a decade ago. Over the last ten years, also, the ratio of debt to income rose 35%, and the percentage of mortgages financed on short-term adjustable rates tripled.

We have become a nation of financial sophisticates… a whole country of know-it-alls, so sure we know what is going on we’re willing to bet the ranch on it.

Everybody likes to see bankers go broke. Will it be as amusing when ordinary people lose their homes?

We will see…


– The stock market’s blue-chip contingent staggered to its second straight winning week, as the Dow Jones Industrial Average added 54 points to 10,243. But the high-tech contingent, as represented by the Nasdaq Composite, stumbled half a percent to 1,979.

– A surging oil price, on Monday of last week, restrained the market’s animal spirits. But even after oil prices had tumbled to one-month lows later in the week, the stock market displayed all the vigor of a giant sloth.

– Friday’s delightful jobs report also failed to enliven the market for long. The Dow jumped more than 100 points shortly after the news crossed the wires that payrolls had expanded by 248,000 jobs in May, and that April and March had delivered 74,000 more jobs than originally reported. But the rally faded into the closing bell.

– Something more than jobs and interest rates and earnings seems to be affecting Mr. Market’s mood. Perhaps that troublesome something is the uncertain price of crude oil and the economically debilitating possibility that oil prices might continue to climb – after taking a little rest, of course.

– To be sure, Mr. Market displays no obvious anxiety over oil prices… tech stocks still possess lavish valuations; oil stocks do not. For the year to date, ExxonMobil shares have gained an uninspiring 6%, while most of the other major oil company stocks have gained less than 10%. That’s better than the average S&P 500 stock, but much worse than the 22% jump, year-to-date, in the price of crude oil itself.

– The reason oil stocks are lagging so far behind crude oil prices, says Barron’s, is that "there’s widespread agreement that current oil prices aren’t sustainable."

– Hmmm… "Widespread agreement that current oil prices aren’t sustainable?" The phrase arouses our contrarian instincts. We too agree that current prices aren’t sustainable, but we are not certain that $30 a barrel is more likely than $50 a barrel. One analyst, cited by Barron’s, asserts that the current $40-a-barrel oil price includes a "fear premium" of $10-$12 a barrel that would disappear in a less-hostile global environment.

– Maybe so, but when might the global environment become less hostile? And when might terrorists become less eager to blow up a pipeline?

– Furthermore, could a "fear premium" ever become a PERMANENT feature of any commodity market? Wouldn’t the fear-driven stockpiling or panic buying or whatever else created the so-called fear premium eventually subside, allowing demand to revert to its "natural" level? Eventually, simple supply and demand would again dictate pricing. The fact that oil prices have been rising steadily for several years and have continued rising appreciably over the last 18 months, suggests to this market observer that something more than fear is at work in the oil markets… something that is more akin to robust demand colliding with constrained supply.

– Bruce Lanni, an oil analyst with A.G. Edwards in San Francisco, reminds Barron’s that "global oil demand is getting an unexpected boost this year from the synchronous economic recoveries in the U.S., Europe and Japan at a time when demand is booming in China and India. And it’s happening at a time when supply appears increasingly constrained.

– "Non-OPEC countries are ‘producing full-out,’" Barron’s reports, "while OPEC has an estimated unused capacity of 2.1 million barrels a day. That’s the thinnest level of unused capacity, he says, since the oil crunch of the 1970s. Over the last decade, OPEC’s spare capacity has ranged from five million to seven million barrels a day."

– Barron’s continues: "Given the current rates at which the capacity of existing oil fields is declining, says Lanni, the world needs to generate four million barrels a day in new oil just to keep up with the current demand of about 80 million barrels a day. Factor in an annual increase in demand of 1.5%, he says, and over 10 years the world will have to replace more than 40 million barrels a day – about half of current production.

– "Lanni also warns of the dangers in the world’s reliance on Saudi crude – the country has about half of OPEC’s unused capacity, and produces about 12% of the world’s oil. Any disruption in Saudi production could make $40 oil look cheap.

– The risk of disrupted Saudi supply is very real, says Kevin Kerr, contributing editor to Outstanding Investments. A weekend email from Kevin relates a fascinating anecdote from the oil-rich kingdom:

– "Eric, I got a call from a friend who used to work with me at Intercapital London on the Commodity Derivatives Desk. The guy was a senior engineer for Chevron at one point and is now on assignment in the Saudi oil fields. He called to tell me he is scared, terrified actually. He says that nobody trusts anybody anymore. He said that going to work is so stressful people are having mental breakdowns. He told me that when he gets up in the morning, he really doesn’t know if: A) He will be kidnapped and beheaded, B) Blown up in the oil facility where he works or, C) Have a heart attack from the stress…

– "My friend said that the pipelines are patrolled by thousands of security guards, but that there are simply too many workers to monitor. All it takes (and he should know – he helped build it) is one well-placed bomb on the pipeline grid and that would be enough to wipeout the production facility, as well as convince the majority of workers to seek other employment immediately."

– Maybe Mr. Market is also feeling the stress… and maybe for good reason. To be continued… [Ed. Note: As you’d expect, we immediately set about figuring out a plan to make money from the current situation in Saudi Arabia. Our resident resource expert, John Myers, has some excellent ideas]


Bill Bonner, back in Paris…

*** Yesterday, France was America’s friend. Magazines, newspapers, TV… all paid homage to the brave men who came ashore in Normandy 60 years ago. "After the first wave had landed, the waters already ran red with blood," said a magazine report, "but the Americans kept coming."

The French are grateful, but not idolatrous.

*** "Americans are great when the situation is simple," said an old man over coffee yesterday. "That is why Ronald Reagan was a great American president. He kept things simple. He had the right attitude. And he had good advisors around him.

"But Americans are naïve. They just don’t do well when put in complex or ambiguous situations. That’s why they’re making such a mess of things in Iraq; it’s not a simple matter of good guys against the bad guys."

The man lecturing us had come to a book fair in Montmorillon where your editor was signing his books. Apart from a loyal Daily Reckoning reader, who made the trip down from Poitiers, few people seemed interested in macroeconomics. Still, we had some interesting conversations.

"You can’t imagine what it was like for us during the war," continued the old man. "We didn’t know who was right, who was wrong, who was an enemy and who was a friend, or even who was a winner and who was a loser. We had not just one Resistance; we had several. Some were okay. Some were just gangsters. Some were communists who just wanted to replace the Nazis with their own brand of oppression. No one will admit it, but many people actually preferred the Huns to the local scoundrels.

"That’s the real reason we welcomed American soldiers. It was not because we wanted American-style democracy. We just wanted an end to the confusion. When the allies arrived, all of a sudden, everything was clarified. It was clear to us who was right… who was going to win the war… and which side we wanted to be on. And when de Gaulle got here, we knew we had a great leader, too.

"But it’s not the same in Iraq. The girls didn’t come out of their apartments to kiss American soldiers when they marched into Baghdad. They should have known they made a mistake; it was time to go home."

*** Everyone knows America is losing factory jobs to low- wage foreigners. Fortunately, we tell ourselves, we still have an edge in high-tech. When it comes to new innovations, nobody comes close to the U.S.

The trouble is that not many innovations actually work out as expected… and those that do aren’t new for very long. They’re already making silicon chips in Asia… and now comes word that high-tech America now has a trade deficit. That is, we now import more high-tech gear than we export.

*** Well, at least there is still Hollywood. But wait, what’s this? "Foreign Films Gaining Ground," said a headline from the Cannes Film Festival. Filmmaking technology has gotten cheaper while the skills needed to make good movies have spread around the globe. India now turns out dozens of blockbusters. And here in France, the movies seem to be getting better. "Amelie" was a hit in France and America two years ago. Now, "Choir Boys" looks as though it might be an even bigger hit. We saw it on Friday, an endearing French film about a ghastly boys school in the post-war era. If it makes its way to the U.S., be sure to see it; it is a marvelous movie. No sex. No violence. No stupid, vulgar jokes. Just a charming story well told.

The Daily Reckoning