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Reply #27: Neutering the Markets [View All]

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Demeter Donating Member (1000+ posts) Send PM | Profile | Ignore Tue Apr-01-08 07:16 AM
Response to Reply #22
27. Neutering the Markets
What the commentators, pundits, and policymakers are thinking about is how to fix problems in the capital markets. Most of them couldnt fix a flat tire, of course. But that doesnt stop them. They imagine that they can find the hole in the worlds money system...and patch it.

U.S. readies overhaul of financial regulation, is todays big headline in European version of the Wall Street Journal . The article goes on to tell us that a whole group of changes are coming our way. As near as we can tell, these changes mean nothing they are simply rearranging the bureaucrats desks. This is the plan put forward by Hank Paulson, former Goldman chief executive and now head man at the Treasury.

Critics charge that it doesnt go far enough...that it is really an extension of the deregulation trend that got us into trouble in the first place. A whole chorus of whiners is now calling for re-regulation of the financial institutions with heavy emphasis on mortgage lending.

Free market thinking takes hit from U.S. economic crisis, reports an AFP story. Bush mortgage bailout in the works, adds the New York Post .

Alas, improvements seem unavoidable.

March 14th, 2008, was the day the dream died, according to Martin Wolf in the Financial Times . The dream was the dream of global, free-market capitalism, says the report. The worlds wake-up call came, it continues, when the Fed decided to bailout Bear Stearns.

The dream was more like a hallucination, in our opinion. We can imagine that we live in a free market world. But the worlds central banks have been fixing the price of credit, fudging the numbers on inflation, and printing money all along. Now that we have a crisis on our hands embellished and exaggerated by central bank planning the long knives are out for free enterprise.

The Anglo-Saxon model as full of illusions, conceits and absurdities as it is is still the best model, because it allows fools and their money to part company relatively quickly. Every other model merely slows it down...gumming up the gears with special privileges, protections, and government-granted larceny. The real problem in todays capital markets is not that the machinery of capitalism is broken, but that its working. And that is what the reformers aim to stop. They want to fix the markets... like you would fix a stray cat so it couldnt have kittens. What they really want is to neuter the market...spay it, so it is a cuddly pet, but one that doesnt give you any trouble.

So far, U.S. homeowners have lost probably about 12% of the wealth they thought they had in their houses. The total capital value of the residential housing market is about $20 trillion. So, a 12% loss is equal to about $2.4 trillion. A few foreign housing markets have been hit harder Ireland, Spain and Iceland, for example.

The equity markets have been hit by similar losses. Equity funds alone have seen $100 billion of cash pulled out by nervous investors. But here something curious In an ugly global crisis, U.S. markets not so bad, another WSJ headline.

In 2008, the Dow is down 7.9%. But foreign markets are down more. France has lost twice that amount. Germany has dropped even more 18.7%. But the biggest losses are in the go-go markets of the East. Indian stocks have lost nearly 20% of their value. The Shanghai stock market has fallen 32%.

Overall, non-U.S. and Canadian markets are down about 15% meaning, that the worlds equities have taken a loss of about $4.5 trillion in local currency terms...or about $3 trillion when measured in dollars. (The dollar has gone down so that dollar-based investors have lost less on foreign markets than local investors.)

We have been pointing out that these huge reductions in the implied wealth of the worlds investors weigh heavily on the deflation side of the scales. The money people thought they had is disappearing. To a hedge fund investor, the vanished money may mean nothing more than a missing digit on his portfolio report. But to a marginal homeowner, the losses force him to change his standard of living cutting back on expenses so as to balance his family budget. For not only does he have less money, his costs keep going up. Every three months the American Farm Bureau buys a typical bag of groceries. This quarter, the price was up 8.9% over a year ago. And gasoline? Its up 64 cents a gallon over the last 12 months.

Economic downturn worsens in March, says Money Watch.

A good part of the world economy seems to be drifting into a slump despite the efforts of the feds to keep the money flowing.

Capital shortage lingers despite Feds latest steps, reports the WSJ . The banks are rebuilding their balance sheets; theyre not taking on more risky credits.

Analysts will take aid and comfort from the performance of the U.S. market so far this year; they will see it as a sign of strength that American equities have sunk less than others. But it is really a sign of weakness. While foreign markets soared over the last 10 years, U.S. stocks went nowhere. Having not gone up, now theyre not going down. And while they are not going anywhere, the value of the dollar continues to fall wiping out stockholders real wealth. In terms of what they can buy on world markets, U.S. stock market investors have lost 25% to 30% of their purchasing power over the last decade. Theyll probably lose another 30% over the decade ahead.

And so, we turn our weary eyes back to Japan. The sun set on the land of the rising sun 18 years ago when the air went out of Japans bubble and the Nikkei crashed.

Japanese authorities have been pumping ever since but the air leaks out about as fast as it goes in. This year alone, the Nikkei has lost 16% of its value, bringing it down to a level that is less than one-third its peak in 1989.

In real terms, we suspect that that is where U.S. stocks will end up too maybe five years from now...maybe ten years.

But not without a fight!

Japans lost decade offers dire pointers for the Fed, says a headline in the Financial Times today. The pointer is that the Fed should act fast and aggressively to bailout the banks and homeowners. According to legend, Japanese officials dithered. They failed to react quickly enough so that by the time they finally got moving, it was too late...a deflationary slump was already underway and impossible to reverse.

Ben Bernanke went over to Japan years ago to offer advice on how to get out of the deflationary trap. Now, he has a chance to show the world how its done. Will he succeed? We doubt it.
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