THE BARRICADE

Expert Who Warned Levees Would Burst Fired

It has become clear over the summer that we are in a new stage of our long emergency.  Now is a good time to regard the signposts on this strange road.  The road to ruin or to redemption?  I don’t know yet, after all, sometimes it takes a truly ruinous crisis to change bad behaviour.  But for sure, social and political foundations are shaky, and we are ripe for some movement, some shock.  It looks more like Japan out here every day.  The imbalances are building up, and becoming more and more apparent. As my neighbor Carville said, “its the economy, stupid.”  But, of course, economic problems are the symptoms, not the disease.  The disease is a society devoid of values, and based on consumption.  And at this spot on the road, policy makers are doing whatever it takes to get more consumption going.  James Kunstler, author of  2005’s  The Long Emergency wrote in this week’s post:

“The greatest danger this society faces is its inclination to gear up a campaign to sustain the unsustainable at all costs — rather than face the need to make new arrangements for daily life.

So, what are we doing? Well, its two years since the “credit crisis.” What has changed?  We have fully socialized the risk of the biggest financial institutions, while allowing them to privatize their gains. Two years on, we see a system completely unreformed, returning to its old ways and habits fueled by government giveaways. We also see that none of the underlying problems: the housing market, leverage, securitization, moral hazard, exotic instruments, regulatory and political capture, debt and credit, fraud, and transparency and real accounting have even been touched. We have a system that is even more concentrated, where the books are more cooked, and where government and consumers are being ripped off to the tune of trillions by the most corrupt, least productive, and most wealth destroying sector of the economy. We are hearing a lot about an end to the recession, greenshoots, and recovery, but does anyone seriously think this can happen under these conditions?

Let’s start with the very first sign that we ever saw on this road, back in 2007: residential real estate.  Deutsche Bank (DBK GY) predicts 48% of US mortgages will be underwater by Q1 2011 vs. 26% Q1 2009, along with 61% of subprimes. So, the worst is not over, and we haven’t got to the bottom of the “L,” but don’t look for that to be reported by the most visible journalists. Dave Rosenberg wrote in today’s “Breakfast With Dave:”

The homeownership rate surged to nearly 70% during the bubble and has since fallen back to 67.4%, but still well above pre-bubble norms. A just-released study by the University of Utah shows that the rate of homeownership in the U.S.A. is poised to decline to 63.5% by 2020 (where it was in 1985). At a time when there are still some 800,000 units in excess that are vacant AND for sale, this secular decline in demand spells one thing and one thing only a secular deflation in residential real estate. The periodic months of “green shoot” stability will very likely prove to be little more than noise along a fundamental downtrend in pricing.

This analysis is simply being ignored by the mainstream, because their job-description has now become “cheerleader.”  The house-prices problem–not to mention the general real estate depression that includes more CRE properties every day–is only one aspect of the bigger problem: there is overcapcity in almost every part of the economy, almost everywhere in almost every business.  That means prices have to come down, that means that we need deflation, we need a downward adjustment.  Only by lowering “living standards” (read, consumption standards) across the board can we inhabit a system that is stable. Deflation is the solution, because it efficiently cures the gross economic imbalances that caused our viscous problems in the first place. A great post at Minyanville addressed the phenomenal overcapacity yesterday:

…I’m referring to the need to bring US economic capacity down to a much lower level of long-term domestic demand. Choose just about any industry in America and you will see too much capacity. Our debt excesses enabled it and now our debt destruction will require the elimination of it.

Just look, for example, at what’s underway with General Motors (GMGMQ), Chrysler, and Ford (F): Their entire supply and distribution chains are being downsized by at least one-third. And I’d offer that what’s happening at the auto companies is just the tip of a much larger economic iceberg. For what’s ahead, I think we need less, not more manufacturing; less, not more distribution; and particularly less, not more retail.

And it goes beyond typical industries. At the risk of encouraging hate mail, consider the current oversupply in private education, religion, golf courses, art museums – I could go on and on. There’s simply too much supply – and that’s even before one considers the changes in demographics and technology that are afoot.

What we’re seeing is the end of an 80-year expansion fueled by debt.  The current policy response injects more debt than ever into the system, to keep the  expansion going.  Growth for the sake of growth: the ideology of the cancer cell.  We will paper-over all problems with cheap money, while giving a big healthcare head-fake. This is creeping New Dealism.  But I don’t think it will continue to creep much longer–it will roar.  Exhibit “A” is the Clunkers.   Rosenberg:

We couldn’t believe this when we saw this quote from the U.S. Transportation Secretary (Ray Lahood) in yesterday’s NYT (page B3) on the “Cash for Clunkers” program: “There obviously is a real pent-up demand in America … people love to buy cars, and we’ve given them the incentive to do that. I think the last thing that any politician wants to do is cut off the opportunity for somebody who’s going to be able to get a rebate from the government to buy a new vehicle.”

Are you kidding me? If there is pent-up demand for autos why do we need a rebate? If there are 20% more vehicles than there are licensed drivers, why the need to perpetuate this cycle of overspending? Why is it a politician’s job to create incentives to spend? Shouldn’t they be focusing their attention on health, education, defense, infrastructure, public safety, job skills and productivity growth (and perhaps the youth unemployment rate of around 20%)? We’re not exactly espousing an Ayn Rand libertarian view but at a time when the deficit is running at 13% of GDP, at what point is enough? These rebates are not manna from heaven ? it’s a future tax liability to hasten a decision that the auto buyer would have made in any event.

This is just a desperate form of bubble reflation and it will prevail as none of the current policy makers will allow the necessary deflationary forces to take hold.  Quite the opposite.   As Paul Krugman told RTVE:

“We have the money to invest in another bubble, and sincerely, a bubble right now would help us a lot even though we would have to pay the price later. This would be a good time to invest in another bubble, and I think we have the resources to do so, and because there is a massive unemployment right now.

That pretty much sums up what Congress, the President, and the Fed are doing now, and expect it to ramp up steadily.  Why? Because, to follow the lesson of history would be politically unpopular in the short term.   After all, its the economy, stupid.  We need another bubble because we have no national savings, so we are attempting to create wealth by inflating asset prices and devaluing debt.  That ends poorly.  That ends in collapse.

At this point on the road, its more clear than ever that our country has failed its savers.  We need savers, yet we won’t raise interest rates to induce savings.  We keep rates low so week can speculate with damning leverage on houses, cars, and pure shit.  So leverage and specualtion are our national occupation, while our national motto has become “asset prices uber alles”

So, where are we going? Kunstler:

Attempting to maintain anything on the gigantic scale will turn out to be a losing proposition, whether it is military control of people in Central Asia, or colossal bureaucracies run in the USA, or huge factory farms, or national chain store retail, or hypertrophied state universities, or global energy supply networks….

Anything can happen now.  I certainly wouldn’t rule out international mischief as we arc around into fall.  The air is so full of black swans that the white swan now seems like the exceptional thing. Whatever else happens, it sure will be interesting to see the public’s reaction to Wall Street’s announcement of Christmas bonuses.  The folks at Rockefeller Center better be thinking about getting a fireproof tree.

We’ll see where we end up.  But where ever we do, its doubtful that we will get there without seeing the barricades go up, then aflame.  You know its bad when the Whitehouse is acknowledging that BLS UE will go over 10%.  What do you think that means for the real unemployment rate? Would you believe 16.5%?

Redux: Some  UE signposts:

Prehaps the best out there from Mish today: Dismal Unemployment Situation in Chart Form. See also, Bloomberg: American Incomes Heading Down.

The unemployment numbers are being manipulated, as its a critical part of the game of creating impression in the mind of the general public.  Joe Six Pack doesn’t analyze the numbers, he just hears them and takes them at face value.  However, you can keep telling everyone that things are getting better, that things will be fine, but as the real economy become more and more disconnected from the electronic one and the one presented on TV, then people will just get more saddended and discouraged by such incredulous dissonance.

For instance, how do we keep having net job losses and the unemployment rate drops? Who are they leaving off here? Are unemployed folks being exterminated to lower the rate?  No, they just stopped counting millions of them because that would make the numbers–and therefore the general perception–worse.  My vanilla ice cream tastes like chocolate because its brown. Unemployment fell by 267,000 to 14.5 million. The labor force declined by 422,000, which means the jobless rate fell because people dropped out of the work force, not because they got jobs.  There are just many millions of people out there who are not reporting to the unemployment offices but are yet jobless.

From the ZH chat board:

So what’s this slush bucket? Another 3 million not counted? And going up. Y/o/Y by 1mil. And Now we got the BO every day interpreting the economic news. With this much leeway getting an estimate so close to the numbers as GS did, is highly unlikely?

BLS:
About 2.3 million persons were marginally attached to the labor force in July, 709,000 more than a year earlier. These individuals, who were not in the labor force, wanted
and were available for work and had looked for a job sometime in the prior 12 months. They were not counted as unemployed because they had not searched for work in the 4 weeks preceding the survey.

Among the marginally attached, there were 796,000 discouraged workers in July, up by 335,000 over the past 12 months. Discouraged workers are persons not currently
looking for work because they believe no jobs are available for them. The other 1.5 million persons marginally attached to the labor force in July had not searched for work in the 4 weeks preceding the survey for reasons such as school attendance or family responsibilities.

This is not the Great Depression–its something more insidious.

Denninger:

How can you have a healthy economy with this kind of debt level? You can have a succession of bubbles, ponzi schemes, but not anything financially sound or sustainable.

This shows total non-government debt going from 150% of GDP (approximately) in 1981 to 350% of GDP (approximately) last year.

In 1981 GDP was $3.128 trillion, so the total amount of debt in the system (non-government again) was approximately $4.5 trillion.

In the last year GDP was $14.264 trillion, so total debt in the system was approximately $50 trillion.

This is an increase in the outstanding (not taken and paid-off) debt of roughly $45 trillion dollars.

In the same period of time the aggregate gross output (GDP added over all years) was approximately $218 trillion dollars.  That is, if you sum the GDP of all years in the dollars of the day (not constant dollars) from 1981 to the present, you get about $218 trillion.

The growth in debt outstanding is therefore responsible for pulling forward demand - that is, increasing GDP - by about 21%.

That is on average in each year since 1981 the addition to the current debt incurred by private parties (again, not including the government!) has resulted in GDP being 20% higher than it would have otherwise been over the entire 30 year period.

The parabolic nature of the above graph however makes clear that at the start of the period the “pulled forward” amount of demand was smaller than 20%, and as such it is clear that the “contribution” now is greater than 20%.

But since we live in the here and now, and it is only fair to bias our discussion in the direction of not facing the apocalypse, we will use the 20% figure.

This recession began due to the impossibility of consumers and businesses paying their debt down.  Remember - the recession did not start with job losses and a business slowdown - it began with people defaulting on mortgages and credit cards, and businesses defaulting on lines of credit. That in turn led to a business slowdown which then fed back and caused even more defaults.

Bernanke and everyone else knows this.

They know that we cannot “stuff” the debt channel any more, because we are up against the wall where people cannot pay.

This means that GDP must contract until equilibrium is restored, which is likely to be significantly more than 20%, because (1) we’ve intentionally understated the recent-year impact of this “pulled-forward” demand and (2) as the economy contracts and people are laid off this results in a spiral of less spending, which then feeds back to even more business contraction.

The total de-leveraging of debt by the consumer so far, since January 09 (which was the top in consumer credit outstanding) has totaled three percent - or about 10-15% of the total amount that is required to restore balance just in the consumer lending space.

You have not and will not see this reported in the mainstream media or discussed by Ben Bernanke, but it is in fact the crux of the problem - the only way “out of the box” is to try to ramp lending somewhere so as to create yet more debt to maintain final aggregate demand.  The amount of debt required to do so has gone parabolic and cannot be paid down privately; ergo, the attempt to shift it all to the government via the alphabet soup programs.

This is doomed to fail despite any transient appearances of success as the amount of debt required to maintain the pulled-forward demand is now growing exponentially.

Yet there are only two choices: Face this reality, default the debt and accept a 20% or larger GDP contraction, or keep trying to stuff the federal government (since the private sector has hit the wall and cannot absorb any more credit) and when THAT blows up we lose our government and political system.

The math is irrefutable and Bernanke is fully aware of it, as are the wonks in Wahington DC.

They simply don’t care about the truth and neither does the mainstream media.

If you’re wondering why I go after the media and government so aggressively, this is the reason: The facts are right in front of their face and require nothing more complicated than a 4-function calculator to add it all up.

You are being intentionally misled by all of them.

Zero Hedge, in collaboration with David Rosenberg, Chief Economist & Strategist, Gluskin Sheff + Associates, Inc., is pleased to release the attached analysis “The End Of The End Of The Recession”

A lucid exegisis and a most welcome tonic, too…