Arnold’s Ramblings 12-07-2011

Last Wednesday the major central banks in the world decided to reduce interest rates and add substantially more liquidity into their respective counties as a further way to forestall the inevitable. The reality that the central banks do not seem to understand (or want to understand) is that either money borrowed has to be paid back (and interest payments made on the debt), and/or if the money is created, then that money causes dislocations and various mal-investment. In the 1990’s it was the tech bubble, in the early 2000 to mid-2000’s it was residential real estate, in the later 2000’s it was commodities and in 2011 it is U.S. Treasuries, and some commodities still. All of this money has to go somewhere, and in each case the result is worse than just accepting the markets discipline. In other words, the medicine is worse because the side effects can and will kill you.

The U.S. (and most of the rest of the world) binged on debt for the past 20 years or more. In order to have a growth economy, we need to wash out the debt. Japan has been in a net zero growth economy since 1989 because Japan refuses to write-off bad debt and liquidate their debt problems. Japan has a much worse national debt (about 200 percent debt to GDP versus ours of about 70 percent debt to GDP). But until last year virtually all of the debt was held by Japanese citizens, unlike the U.S. debt which is held at least 50 percent by non-U.S. citizens. If we do not allow the debt to be properly liquidated, then the U.S. will have an economic situation similar to Japan as a best case scenario, more likely much worse. Real estate pricing is down in Tokyo by up to 90 percent. The Nikkei stock index is still down by almost 80 percent – 22 years after the high in 1989.

Now that Arnold was upbeat, let us really be upbeat! Congress and our president in their wisdom have continued with the same philosophy of finding ways for the American people to spend. So, the new Democrat proposal for reducing payroll taxes will increase the benefit from 2 percent to 3.1 percent, thereby putting more money into consumer’s hands. But all of these plans have a cost. Even if Congress passes a legitimate basis by which the legislation is “paid for,” it will take 10 years to pay for what will be spent in one year, thus interest costs and the unlikelihood that the legislation would stay in effect for 10 years is certainly real. We are continuing to spend today and pay for it the day after never.

  • The DJIA should continue to rise into year end then watch out below!
  • The dollar is still doing remarkably well and should do more so.
  • Gold has been sputtering around and may have one more gasp up to $2000 or so before a major correction down to $1000 the ounce or less.
  • Interest rates (30 year Treasuries) have been rising somewhat, and should rise much more into the new year.
  • Oil is now over $100 a barrel and could hit maybe $120.
  • Real estate pricing is down in most markets and will start another leg down in price after the New Year.
  • The economy appears stronger for the time being, and will fall by the end of the first quarter.



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Arnold Goldin
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