The Biggest Economic Threat Today

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Kind heaven, no! A fresh economic scourge is upon the land. Announces CNN:

“New Threat to the Economy: Americans Are Saving Like It’s the 1980s.”

Is a higher evil possible? Thus we are informed:

Americans are slashing their spending, hoarding cash and shrinking their credit card debt as they fear their jobs could disappear during the coronavirus pandemic…

Although caution is a logical response to that uncertainty, hunkering down also poses a risk to the recovery in an economy dominated by consumer spending. A so-called V-shaped recovery can’t happen if consumers are sitting on the sidelines…

The savings rate in the United States climbed from 8% in February to 13.1% in March. That was the highest savings rate since November 1981.

The article further reminds us that consumer spending constitutes some 70% of the United States economy.

And so the old bugaboo rises from the grave yet again — the “paradox of thrift.”

The Evils of Saving

The individual saver may be the model of prudence, of frugality, of forbearance… of thrift itself.

But if the entire nation tied down its money?

A savage cycle would feed and feed upon itself… until the economy is devoured to the final crumbs.

Consumption would dwindle to near-nonexistence. GDP would collapse in a heap. Waves of bankruptcies would wash through.

All this because the selfishness of savers. They refuse to untie their purse strings… and spend for the greater good.

This paradox of thrift is perhaps the mother myth of economists in the Keynesian line.

Yet no paradox exists whatsoever.

Today we maintain — again — that saving is an unvarnished blessing, at all times, under all circumstances.

Let us first plunge a stake through the squirming heart of another myth:

The myth that consumer consumption constitutes 70% of the United States economy…

Lying Statistics

Much of what goes under the banner “consumer spending”… is not consumer spending.

It is government spending. Medicare and Medicaid, for example, are included.

Meantime, official GDP calculations do not include tremendous piles of economic doings.

These piles include business investment and spending on “intermediate” goods.

These of course are inputs required for the production of final goods — hence intermediate. They must first come in before consumer goods can go out.

The steel in the automobile, the sugar in the candy, the wood of the furniture… these are intermediate goods.

Consumer Spending Is Only 30% of GDP?

Yet their purchase does not classify as consumer spending — else they would be double-counted. Explains economist Mark Skousen:

GDP only measures the value of final output. It deliberately leaves out a big chunk of the economy — intermediate production or goods-in-process at the commodity, manufacturing and wholesale stages — to avoid double counting.

Now mix in expenditures on intermediate goods. What do we find?

We find that consumer consumption only constitutes perhaps 30% of GDP. Skousen:

I calculated total spending (sales or receipts) in the economy at all stages to be more than double GDP… By this measure — which I have dubbed gross domestic expenditures, or GDE — consumption represents only about 30% of the economy, while business investment (including intermediate output) represents over 50%.

We might add that Americans purchase heaps of foreign goods. These purchases add little to the gross domestic product.

Perhaps consumer spending accounts for less than 30% of GDP. We speculate of course. We have not interrogated the figures.

We now revisit our central claim — that saving is an unvarnished blessing, at all times, under all circumstances.

Remember Say’s Law

“From time immemorial proverbial wisdom has taught the virtues of saving,” wrote Henry Hazlitt 74 years ago, “and warned against the consequences of prodigality and waste.”

But to the anti-savers… prodigality and waste are near-virtues at times as these.

They have forgotten their Say’s law — perhaps purposefully.

Say’s law holds that supply creates its own demand. “Products are paid for with products,” argued Jean-Batiste Say over two centuries ago.

Production must precede consumption.

Here we return to an example we have previously cited…

The Baker and the Shoemaker

One man produces bread. Another produces shoes.

Let us say the baker bakes a baker’s dozen — 13 loaves of bread. He consumes two of them.

The remaining 11 loaves represent his savings. He can peddle them for other goods: shoes in our little example.

Meantime, the cobbler cobbles together 13 pairs of shoes. He requires one new pair for himself. He further sets aside two pairs for his growing children.

This fellow “consumes” three pairs of shoes, that is. The remaining ten constitute his savings. Like our baker, he can exchange his savings for goods.

To proceed…

Buying Is Actually a Form of Barter

The cobbler who requires bread for his dinner appears before the baker. And the baker who must clad his feet comes before the baker.

They may transact in money — direct barter is primitive. But upon closer examination we see their transactions in fact constitute an indirect barter.

Money merely throws an illusory veil across the transactions.

Ultimately the baker purchases his shoes with the bread he has baked. And the cobbler purchases his bread with the shoes he has cobbled.

That is, each has paid for his items through savings.

Concludes Monsieur Say:

Money performs but a momentary function in this double exchange; and when the transaction is finally closed, it will always be found that one kind of commodity has been exchanged for another.

What is more, the goods a man acquires through savings sees him through… and allows him to produce more loaves, more shoes.

We must conclude that there can be no excess of savings. Savings equal stored wealth.

To argue that savings injure society is to argue that wealth injures society.

And savings spring from production.

“Lack of Demand”

Yet the enemies of savings turn Say’s law upon its head. They sob not about a lack of production but a “lack of demand.”

That is, they place the wagon cart of consumption before the draft horse of production.

The government must race the printing press to make the shortage good, to furnish the lacking demand.

But no new production accompanies the flood of money. The additional money merely chases the existing stock of goods.

It is the pursuit of alchemy, of lead into gold, of the free lunch. It is the half-conscious belief that the print press is the spark plug of prosperity.

It neglects production.

“But what about times like these?” counter the author of the CNN article. “If everybody saved, the economy would collapse. Remember the paradox of thrift. If government doesn’t step in and spend, who will?”

But the old dead economists argue there is no paradox whatsoever…

No Paradox of Thrift

What applies to the individual applies to society at large, they insist. What is society but a collection of individuals, after all?

If saving during depressed times is such a vicious economic crime… how has any economy gotten back up?

The standard logic assumes all such economies corkscrew down and down into oblivion.

Yet as history demonstrates abundantly, they recover. As we have also explained before…

When society saves in lean times, it is not eliminating consumption — it is merely delaying it.

The demand that is supposedly lost is not lost at all. It is simply shifted toward the future.

Today’s savings are therefore tomorrow’s spending, tomorrow’s consumption. By reducing consumption today… society allows greater consumption tomorrow.

Or according to Hazlitt:

“‘Saving,’ in short, in the modern world, is only another form of spending.”

Perhaps someone can whisper those words into the ear of a certain CNN economics writer…


Brian Maher
Managing editor, The Daily Reckoning

The post The Biggest Economic Threat Today appeared first on Daily Reckoning.

“We’ll Never See the March Lows Again”

This post “We’ll Never See the March Lows Again” appeared first on Daily Reckoning.

“We’ve seen the lows in March and we will never see those lows again.”

So concludes Dr. Jeremy Siegel. Dr. Siegel is a finance professor at the superexcellent Wharton School of Business.

But why will we never see March lows again?

Is it because the economy has loads of latent energy packed in? That it will come snapping back when freed… like a coiled spring let go?

No. That is not the reason. What then is the reason? MarketWatch:

According to Siegel, unprecedented support for the economy by the Federal Reserve and the U.S. government make it nearly impossible for the stock market to revert to its late March lows.

What is more, the professor ladles out free investment advice. Fix your sights on 2021:

I think 2021 could be a boom year. With the liquidity that the Fed is adding — unprecedented — it could be a really good year.

It may well be a good year… and for the reason given.

But will 2021 be “a really good year” for the economy? We harbor the severest doubts…

Stuck in a Ditch

We hazard the economy will require years to climb from its current ditch.

Thousands and thousands of businesses — and their millions and millions of employees — may never come up.

Besides… the Federal Reserve’s vast machinery of credit creation worked little economic improvement before.

Why should it work now?

For years we have hollered that the stock market was a false economic indicator. It could not stay up without generous central bank nurturing, we argued.

The Wall Street cheer section disagreed.

It insisted instead the stock market went along under its own steam, that it packed its own oomph. Look at unemployment, they would croon. Not in 50 years had it been so low.

No, the stock market merely reflected the rambunctious economy beneath it.

Yet now — with 33 million jobless and the stock market up 25% — even Wall Street’s loudest boosters must concede our point.

The Truth Comes Out

We present, for example, money man David Zervos. This fellow is chief marketing strategist for investment banking outfit Jefferies. He concedes:

Since there is a robust Fed liquidity backstop and we do not know the depth or duration of the current economic downturn, spending any time looking at economic data releases or focusing on corporate earnings is a colossal waste of time.

For economic data, the signal-to-noise ratio is essentially zero, and for corporate earnings… results are meaningless… The item to focus on is the Fed and its direct support for the financial and nonfinancial [investment-grade] corporate sectors.

What is this but an admission? An admission that the Federal Reserve has set the stock market and the economy going in two separate directions?

“Wall Street Has Very Little to Do With Main Street”

The stock market — in theory — should fairly mirror the economy from which it springs.

It was never a perfect reflection. At times Wall Street might distort the image… as a funhouse mirror distorts the human image before it.

But now the image has nearly inverted.

Main Street moves one way, Wall Street shifts the other. Main Street frowns, Wall Street smiles. Main Street tumbles, Wall Street jumps.

“Wall Street has very little to do with Main Street,” affirms Joachim Klement of Liberum Capital…

“And less and less so.”

Less and less so strikes us as just about right. Why less and less so?

More Quantitative Easing, Less Economic Gain

BMO — a bank — has shoveled through the data. Its riddle-solvers have concluded that each dose of quantitative easing kicks less than the last.

As the addict requires ever-increasing stimulant to attain a lift… the economy requires ever-increasing quantitative easing.

Explains BMO’s Daniel Krieter:

QE has fed through to the real economy in a slower manner than previous QE campaigns… The expansionary policy thus far has mostly resulted in increased asset prices.

Here Zero Hedge deepens the diagnosis. QE1 and QE2 proved equal to purposes, they maintain. But the potion wore off with QE3:

As QE leads to a direct increase in bank reserves, only a fraction is translated into money supply growth, and thus potentially consumption and investment. QE1 was highly effective and an important factor behind pulling the economy out of recession. QE2 had a marginally lower but still high follow-through… We observe elevated inflation and personal consumption rates during the period of QE2 as evidence of its effectiveness. However, during Q3… [it] resulted in very little inflation of GDP growth. Through this lens, the impact of QE on the real economy has diminished over time.

“Hyperinflation for Asset Prices Even as the Broader Economy Collapses”

And now the Federal Reserve has inflated its balance sheet from a QE3 high of $4.5 trillion… to a truly fantastic $6.7 trillion.

It will likely swell to $10 trillion or higher.

Yet each dollar does less duty than the last. In conclusion:

The marginal utility of debt is collapsing, with ever more debt required to generate an increase in underlying GDP…

The marginal utility of every new QE is now declining to the point where soon virtually none of the money created by the Fed out of thin air will enter the economy and instead will be stuck in capital markets, resulting in hyperinflation for asset prices even as the broader economy collapses.

And so we confront a dangerous gap:


Monetary Policy Yields to Fiscal Policy

Will Main Street take another decade of scraps while Wall Street feasts?

We are not certain it will — far from certain it will.

The Federal Reserve’s economic medicine has proven a weak brew. This is why we are convinced monetary policy will give way to fiscal policy.

The federal government will shoot adrenaline directly into the bloodstream. That is, it will attempt to jolt the economic heart through spending.

But not even direct government spending may generate a beat…

All Buck, No Bang

The United States government borrowed some $12 trillion between the last financial crisis and last June.

The American economy expanded only $5.1 trillion across that frame. That is, GDP increased 35%. But the national debt rose 122%.

Pre-COVID-19, the Federal Reserve Bank of San Francisco estimated the “new normal” for economic growth would range between 1.5% and 1.75%.

Now the United States has entered a newer, more abnormal normal. It is an inverted normal of skyshooting debt… and shrinking growth.

This year’s budget deficit may run to $4.2 trillion. And GDP may shrivel 8%.

The Broken Keynesian Multiplier

Meantime, evidence indicates fiscal policy does not stimulate when the debt-to-GDP ratio exceeds 90%. The United States debt-to-GDP ratio scales 105%. And it is increasing.

From what direction will the growth come in?

Each dollar of new debt yields under $1 of economic growth. Thus the Keynesian “multiplier” has taken up division… as we have written before.

What is more, much of today’s debt is unproductive. It goes to the service of “entitlements.”

That is, it holds no theoretical promise of return.

But it is too late to turn around. “Inflate or die,” as our co-founder Bill Bonner enjoys saying.

The authorities have chosen to inflate. We all may die regardless…


Brian Maher
Managing editor, The Daily Reckoning

The post “We’ll Never See the March Lows Again” appeared first on Daily Reckoning.

Don’t Believe the Happy Talk

This post Don’t Believe the Happy Talk appeared first on Daily Reckoning.

Nothing like what we’re witnessing has ever happened before. Even the savviest analysts cannot yet internalize what happened.

As I explained earlier, comparisons to the 2008 crisis or even the 1929 stock market crash that started the Great Depression fail to capture the magnitude of the economic damage of the virus. You may have to go back to the Black Plague of the mid-14th century for the right comparison.

Unfortunately the economy will not return to normal for years. Some businesses will never return to normal because they’ll be bankrupt before they are even allowed to reopen.

Businesses like restaurants, bars, pizza parlors, dry cleaners, hair salons and many similar businesses make up 44% of total U.S. GDP and 47% of all jobs. This is where many of the job losses, shutdowns and lost revenues occurred.

The U.S. government response to the economic collapse has been unprecedented in size and scope. The U.S. has a baseline budget deficit of about $1 trillion for fiscal year 2020. Congress added $2.2 trillion to that in its first economic bailout bill. A second bailout bill added an additional $500 billion. Another bill may add another $2 trillion to the deficit.

Combining the baseline deficit, enacted legislation and anticipated legislation brings the fiscal 2020 deficit to $5.7 trillion. That’s equal to more than 25% of GDP and will push the U.S. debt-to-GDP ratio to as high as 130% once the lost output ($6 trillion annualized) is taken into account. The previous record debt for the U.S. was about 120% of GDP at the end of World War II.

This puts the U.S. in the same category as Greece, Lebanon and Japan when it comes to the most heavily indebted countries in the world.

The Federal Reserve is also printing money at an unprecedented rate. The Fed’s balance sheet is already above $6.7 trillion, up from about $4.5 trillion at the end of QE3 in 2015. The first rescue bill for $2.2 trillion included $454 billion of new capital for a special purpose vehicle (SPV) managed by the U.S. Treasury Department and the Fed.

Since the Fed is a bank, it can leverage the SPV’s $454 billion in equity provided by the Treasury into $4.54 trillion on its balance sheet. The Fed could use that capacity to buy corporate debt, junk bonds, mortgages, Treasury notes and municipal bonds and to make direct corporate loans.

Once the Fed is done, its balance sheet will reach $10 trillion.

That much is known. What is not known is how quickly the economy will recover. The best evidence indicates that the economy will not recover quickly, and an age of low output, high unemployment and deflation is upon us.

Here’s why the economic recovery will not exhibit the “pent-up demand” and other happy-talk traits you hear about on TV…

The first reason the economic downturn will persist is the lost income for individuals. Unemployment compensation and PPP loans will only scratch the surface of total lost income from layoffs, pay cuts, reduced hours, business failures and individuals who are not only unemployed but drop out of the workforce entirely.

In addition to lost wages through layoffs and pay cuts, many other workers are losing pay in the form of tips, bonuses and commissions. Even a fully employed waitress or salesperson cannot collect tips or sales commissions if there are no customers. This illustrates how the economy is tightly linked so that problems in one sector quickly spread to other sectors.

In addition to lost individual income, there is a massive loss of business income. Earnings per share of publicly traded companies are not only declining in the second quarter (and likely the third quarter) but many are negative.

Lost business income will be another source of lower stock valuations and a source of dividend cuts. Reduced dividends are also a source of lost income for individual stockholders who rely on dividends to pay for their retirements or medical expenses.

Programs such as PPP and other direct government-to-business loans will not come close to compensating for the losses described above. The loans (which can turn into grants) will help for a month or two but are not a permanent solution to lost customers.

For still other firms, the loans won’t help at all because the firms are short of working capital and will simply close their doors for good and file for bankruptcy. This means the jobs in those enterprises will be permanently lost.

From these straightforward events (lost individual income, lost business income, dividend cuts and bankruptcies) come a host of ripple effects.

Once the government aid is distributed, many recipients will not spend it (as hoped) but will save it. Such savings are called “precautionary.” Even if you are not laid off, you may worry that your job is still in jeopardy. Any income you receive will either go to pay bills or into savings “just in case.”

In either case, the money will not be used for new spending. At a time when the economy needs consumption, we will not get it. The economy will fall into a “liquidity trap” where saving leads to deflation, which increases the value of cash, which leads to more saving. This pattern was last seen in the Great Depression (1929–40) and will soon be prevalent again.

Even if individuals were inclined to spend, there would be reduced spending in any case because there are fewer things to spend money on. Shows and sporting events are called off. Restaurants and movie theaters are closed. Travel is almost nonexistent, and no one wants to hop on a cruise ship or visit a resort until they can be assured that the risk of COVID-19 is greatly reduced.

This will guarantee a continued slow recovery and persistent deflation, which makes the slow recovery worse.

In addition to these constraints on demand, there are serious constraints on supply. Global supply chains have been seriously disrupted due to shutdowns and transportation bottlenecks. Social distancing will slow production even at those facilities that are open and can get needed inputs.

One case of COVID-19 in a factory can cause the entire factory to be shut down for a two-week quarantine period. Companies that depend on the output of that factory to manufacture their own products will also be shut down.

Beyond these direct effects of lost income and lost output, there are significant indirect effects on the willingness of entrepreneurs to invest and of individuals to spend.

First among these is the “wealth effect.” When stock values drop 20–30% as they have recently, investors feel poorer even if they have substantial net worth after the drop. The psychological effect is to cause people to reduce spending even if they can afford not to.

This means that spending cutbacks come not only from the middle class and unemployed but also from wealthier individuals who feel threatened by lost wealth even if they have continued income.

Finally, real estate values will collapse as tenants refuse to pay rent and landlords default on their mortgages, putting properties into foreclosure.

None of these negative economic consequences of the New Depression are amenable to easy fixes by the Congress or the Fed.

Deficit spending will not “stimulate” the economy as the recipients of the spending will pay bills or save money. The Fed can provide liquidity and keep the lights on in the financial system, but it cannot cure insolvency or prevent bankruptcies.

The process will feed on itself expressed as deflation, which will encourage even more savings and discourage consumption. We’re in a deflationary and debt death spiral that has only just begun.

Based on this analysis, investors should expect the recovery from the New Depression to be slow and weak. The Fed will be out of bullets. Deficit spending will slow growth rather than stimulate it because the unprecedented level of debt will cause Americans to expect higher taxes, inflation or both.

The U.S. economy will not recover 2019 levels of GDP until 2022. Unemployment will not return even to 5% until 2026 or later.

This means stocks are far from a bottom. The S&P 500 Index could easily hit 1,870 (it’s 2,943 as of this writing) and the Dow Jones Index could fall to 15,000 (it’s 24,360 as of this writing).

Those are levels at which investors might want to consider investing in stocks.

Any effort to “buy the dips” in the meantime will just lead to further losses when the full impact of what’s described above begins to sink in.

Got gold?


Jim Rickards
for The Daily Reckoning

The post Don’t Believe the Happy Talk appeared first on Daily Reckoning.

Rickards: This Time IS Different

This post Rickards: This Time IS Different appeared first on Daily Reckoning.

Stocks stumbled out of the gate today, at least partially on fears about a resurgence in coronavirus cases.

South Korea, which did an excellent job containing the virus, has reported a new batch of cases. Japan and Singapore also reported new cases. Infections are increasing in Germany as well, where lockdown restrictions are being lifted.

We can also expect a rise in U.S. cases as several states lift their own restrictions.

From both epidemiological and market perspectives, the pandemic has a long way to go. Its economic effects are already without precedent…

In the midst of this economic collapse, many investors and analysts return reflexively to the 2008 financial panic.

That crisis was severe, and of course trillions of dollars of wealth were lost in the stock market. That comparison is understandable, but it does not begin to scratch the surface.

This collapse is worse than 2008, worse than the 2000 dot-com meltdown, worse than the 1998 Russia-LTCM panic, worse than the 1994 Mexican crisis and many more panics.

You have to go back to 1929 and the start of the Great Depression for the right frame of reference.

But even that does not explain how bad things are today. After October 1929, the stock market fell 90% and unemployment hit 24%. But that took three years to fully play out, until 1932.

In this collapse the stock market fell 30% in a few weeks and unemployment is over 20%, also in a matter of a few weeks.

Since the stock market has further to fall and unemployment will rise further, we will get to Great Depression levels of collapse in months, not years. How much worse can the economy get?

Well, “Dr. Doom,” Nouriel Roubini, can give you some idea.

Roubini earned the nickname Dr. Doom by predicting the 2008 collapse. He wasn’t the only one. I had been warning of a crash since 2004, but he deserves a lot of credit for sounding the alarm.

The factors he lists that show the depression will get much worse include excessive debt, defaults, declining demographics, deflation, currency debasement and de-globalization.

These are all important factors, and all of them go well beyond the usual stock market and unemployment indicators most analysts are using. Those economists expecting a “V-shaped” recovery should take heed. That’s highly unlikely in the face of all these headwinds.

I’ve always taken the view that getting a Ph.D. in economics is a major handicap when it comes to understanding the economy.

They teach you a lot of nonsense like the Phillips curve, the “wealth effect,” efficient markets, comparative advantage, etc. None of these really works in the real world outside of the classroom.

They then require you to learn complex equations with advanced calculus that bear no relationship to the real world.

If economists want to understand the economy, they should talk to their neighbors and get out of their bubble.

The economy is nothing more than the sum total of all of the complex interactions of the people who make up the economy. Common sense, anecdotal information and direct observation are better than phony models every time.

So what are everyday Americans actually saying?

According to one survey, 89% of Americans worry the pandemic could cause a collapse of the U.S. economy. This view is shared by Republicans and Democrats alike.

Ph.D. economists dislike anecdotal information because it’s hard to quantify and does not fit into their neat and tidy (but wrong) equations. But anecdotal information can be extremely important.

With so many Americans fearing a collapse, it could create a self-fulfilling prophesy.

If enough people believe something it becomes true (even if it was not true to begin with) because people behave according to the expectation and cause it to happen.

The technical name for this is a recursive function, also known as a “feedback loop.” Whatever you call it, it’s happening now.

Based on that view and a lot of other evidence, we can forecast that the depression will get much worse from here despite the initial severity.

But as usual, the Ph.D. crowd will be the last to know.

Below, I show you why you shouldn’t believe the happy talk. We’re in a deflationary and debt death spiral that has only just begun. Read on for details.


Jim Rickards
for The Daily Reckoning

The post Rickards: This Time IS Different appeared first on Daily Reckoning.

Why Assets Will Crash

This post Why Assets Will Crash appeared first on Daily Reckoning.

The increasing concentration of the ownership of wealth/assets in the top 10% has an under-appreciated consequence: when only the top 10% can afford to buy assets, that unleashes an almost karmic payback for the narrowing of ownership, a.k.a. soaring wealth and income inequality: assets crash.

Most of you are aware that the bottom 90% own very little other than their labor (tradeable only in full employment) and modest amounts of home equity that are highly vulnerable to a collapse of the housing bubble.

(The same can be said of China’s middle class, only more so, as 75% of China’s household wealth is in real estate, more than double the percentage of wealth held in housing in U.S. households.)

As the chart illustrates, the top 10% own 84% of all stocks, over 90% of all business equity and over 80% of all non-home real estate. The concentration of ownership of assets such as vintage autos, collectibles, art, pleasure craft and second homes in the top 10% is likely even greater.

The more expensive the asset, the greater the concentration of ownership, as the top 5% own roughly 2/3 of all wealth, the top 1% own 40% and the top 0.1% own 20%.

In other words, the more costly the asset, the narrower the ownership. Total number of U.S. households is about 128 million, so the top 5% is around 6 million households and the top 1% is 1.2 million households.

This means the pool of potential buyers is relatively small, even if we include global wealth owners.

Since price is set on the margins, and assets like houses are illiquid, then we can anticipate all the markets for assets owned solely by the wealthy to go bidless — yachts, collectibles, vacation real estate — because the pool of buyers is small, and if that pool gets cautious due to a drop in net worth/unearned income, there won’t be any buyers except at the margins, at incredible discounts.

As we know, in a neighborhood of 100 homes currently valued at $1 million each, when a desperate seller accepts $500,000, the value of the other 99 homes immediately drops to $500,000.

Since few of the current bubble-era asset valuations are supported by actual income fundamentals, then the sales price boils down to a very small number of potential buyers and what they’re willing to pay.

Houses have a value based on rent, of course, but rents will drop very quickly for the same reason: prices are set on the margins. The most desperate landlords will drop rents and re-set the rental market from the margins.

If demand plummets (which it will as people can no longer afford rents in hot urban markets once they lose their jobs), then vacancies will soar and rents will crash as a few desperate landlords will take $1200/month instead of $2500/month.

Due to the multi-year building boom of multi-family buildings in hot job markets which inevitably leads to an oversupply once the boom ends, there are now hundreds of vacancies where there were once only a few dozen, and thousands where there were previously only hundreds.

As millions of wait staff, bartenders, etc. who made good money in tips find their jobs have vanished, all the urban hotspots will see mass out-migration: Seattle, Portland, the S.F. Bay Area, L.A., NYC, Denver, etc. as demand for rentals will evaporate and rents will be set on the margins by the most desperate landlords. Everyone holding out for the previous bubble-era rent will have $0 income as their units are vacant.

Tech start-ups and Unicorns are melting like ice cubes in Death Valley, and tech-sector layoffs are already in the tens of thousands. This wave of highly paid techies losing their jobs will become a tsunami, further reducing the pool of people who can afford rents of $2,500 to $3,000 for a studio or one-bedroom apartment.

The concentration of ownership generates a self-reinforcing feedback that further depresses prices: since the top 10% own most of the assets of the nation, they are most prone to a reversal of “the wealth effect.”

As their assets soared in value, the top 10% felt wealthier and more confident in future gains, enabling them to borrow and spend freely on second homes, pleasure craft, new vehicles, collectibles, luxury travel, etc.

Once even one class of assets plummets in value–for example, the recent decline in the stock market — the wealth effect reverses and the top 10% feel poorer and less confident about future gains, and thus less enthused about borrowing and spending.

The demand for other costly assets quickly evaporates, further reducing the wealth of the “ownership class,” which further reduces their desire and ability to buy bubble-era assets.

The high-priced assets owned by the top 10% will be the assets least in demand due to their high cost and potential for enormous losses: nothing loses value faster in a recession that narrowly owned assets such as vintage cars, art, vacation homes, yachts, etc.

Once assets start sliding in value, the reverse wealth effect quickly dries up demand for all asset classes with narrow ownership. Since these assets are illiquid — that is, the market for them is thin, with buyers few and far between–the prices are set by a very shallow pool of buyers and desperate sellers.

Consider a pleasure craft that retails new for $120,000. In the boom era of rising stocks and housing, a used boat might fetch $65,000. But as the wealth of the small pool of households able to buy and maintain a costly craft evaporates, the number of qualified buyers evaporates, too.

The seller might be aghast by an offer of $35,000 and reject it angrily. Six months later, he’s praying someone will take it off his hands for $15,000, and in another six months, he’ll accept $500 just to get out from underneath the insurance, slip-rental and licencing fees.

This is how it happens that boats that were once worth tens of thousands of dollars are set adrift by owners who can no longer afford to pay slip fees, and vacation homes are abandoned and auctioned off for overdue property taxes: the market for these luxuries dries up and blows away, i.e. goes bidless — there are no buyers at any price.

Once housing and real estate valuations fall, that will trigger a decline in the value of all other costly, narrowly owned assets, which will reinforce the reverse wealth effect.

This is the systemic payback for concentrating ownership of assets in the hands of the few: when their bubble-era priced assets plummet in value, the bottom falls out of all assets with narrow ownership.

The price of superfluous assets such as boats, vintage cars, collectibles, art and vacation homes can quickly fall to a fraction of bubble-era valuations, destroying much of what was always fictional capital.

The Federal Reserve reckons it can “save” the bubble-era valuations of junk bonds by being the “buyer of last resort,” but it will end up being the “only buyer,” effectively making the system even more fragile and prone to collapse.

The public will eventually have to decide if the nation’s central bank should be bailing out assets owned by the financial elite while the upper-middle class watches its assets collapse in value.


Charles Hugh Smith
for The Daily Reckoning

The post Why Assets Will Crash appeared first on Daily Reckoning.

A Better World Is Emerging

This post A Better World Is Emerging appeared first on Daily Reckoning.

The era of waste, fraud and living on borrowed money is dying, and those who’ve known no other way of living are mourning its passing.

Its passing was inevitable, for any society that squanders its resources is unsustainable. Any society that rewards fraud above all else is unsustainable. Any society which lives on money borrowed from the future and other forms of phantom capital is unsustainable.

We know this in our bones, but we fear the future because we know no other arrangement other than the unsustainable present.

And so we hear the faint echo of the cries filling the streets of ancient Rome when the Bread and Circuses stopped: what do we do now?

When the free bread and entertainments disappeared, people found new arrangements. They left Rome.

The greatest private fortunes in history vanished as Rome unraveled. All the land, the palaces, the gold and all the other treasures were no protection against the collapse of the system that institutionalized corruption as the ultimate protector of concentrated wealth.

The most jealously guarded power of government is the creation of money, for without money the government cannot pay the soldiers, police, courts and administrators needed to enforce its rule.

Western Rome created money by controlling silver mines; in the current era, governments create money (currency) out of thin air.

Once the government’s money loses purchasing power, the system collapses.

Our “money” is nothing but phantom entries on digital ledgers, and so its complete loss of purchasing power is inevitable.

Without “money,” the government can no longer enforce the will of its self-serving elites.

Once the government’s ability to sustain its enforcement with money created out of thin air vanishes, the entire order vanishes along with it.

The destruction of the value of central bank-created “money” is already ordained, for there is no limit on the elites’ desire to maintain control, and so governments will create their “money” in ever-increasing amounts until the value has been completely eliminated.

But here’s the good news:

The outlines of a better world are emerging, an arrangement that prioritizes something more than maximizing and institutionalizing the corruption needed to protect today’s phony gains.

We will relearn to live within our means, and relearn how to institutionalize opportunity rather than corruption designed to protect elites.

We will come to a new understanding of the nature of centralized power, that centralized power only knows how to extend its power and so the only possible outcome is collapse.

We will come to understand technology need not serve only monopolies, cartels and the state, that it could serve a sustainable, decentralized economy that does more with less, i.e. a “DeGrowth” economy.

The Federal Reserve will fail, just as the Roman gods failed to sustain the corrupt and bankrupt Roman elites.

A host of decentralized, transparently priced non-state currencies will compete on the open market, just like goods, services and commodities.

The Fed’s essential role — serving parasitic elites at the expense of the many, under the cover of creating currency out of thin air — will be repudiated by the implosion of the economy as all the Fed’s phantom “wealth” evaporates.

Yes, the outlines of a better world are emerging. The old system is unsustainable and cannot last.

Below, I show you why assets will crash — it’s inevitable. Read on to see why.


Charles Hugh Smith
for The Daily Reckoning

The post A Better World Is Emerging appeared first on Daily Reckoning.

The Worst Jobs Report in History

This post The Worst Jobs Report in History appeared first on Daily Reckoning.

The good news first:

Today’s unemployment figures were not as cataclysmic as feared. Consensus came in at 22 million.

Here is the bad news:

Today’s unemployment figures were cataclysmic nonetheless.

20.5 million Americans were thrown from work last month — crushing all existing records.

By way of comparison… only two million were heaved out during the darkest month of the Great Depression.

Even Worse Than Official Numbers Indicate?

Meantime, the United States unemployment rate presently stands at a ghoulish 14.7%.

Not since government bean-counters began tracking monthly data in 1948 has unemployment soared to such precarious heights.

Yet the true unemployment rate may be even grimmer…

The actual rate may scale an abominable 35.7% — if you accept the verdict of Mr. John Williams and his ShadowStats site.

This fellow incorporates “long-term discouraged workers” into his models. These unfortunates were read out of official tracking in 1994.

Mix them back in and you have 35.7% unemployment on your hands… says Williams.

But cling to the official 14.7% for the moment. If it is additional good news you seek, here you have it:

An even bleaker figure — 16% — was consensus.

Worst Unemployment Report in History, the Stock Market Soars

Wall Street chose the optimistic view today, the glass of water half-filled.

Stocks were up and away from opening whistle… and never glanced down.

The Dow Jones climbed nearly 400 points by noon. It ended the day 455 points higher.

The S&P gained 48 points, the Nasdaq 141.

The Nasdaq has now clawed 35% above its March lows… and has gained 1.4% on the year. The index alone is now larger than all the stock markets of the world.

A Strange Kind of Victory

Consider the situation before us…

A record 20.5 million Americans were shoved off their jobs last month. Unemployment is (officially) 14.7%, the highest since monthly tracking began in 1948.

Yet all is joy on Wall Street.

It is as if a football club were trounced by 49 points. But the oddsmakers had it losing by 63. Thus the 49-point rout is a sort of victory.

And this losing club’s fanatics erupt in celebration because of it.

Of course it is no victory whatsoever — not literal, not moral. It is a complete and thorough whaling.

But the professionals were quick to place today’s jubilance in proper perspective…

It’s Not Where You Are, but Where You’re Going

One Michael Farr, for example, is founder and CEO of Farr, Miller & Washington investment counsel. From whom:

There seems to be a willingness to look past an absence of revenues and earnings, increasing unemployment, an explosion of sovereign and corporate debt and devolving credit ratings based on two things: huge policy response and faith that a meaningful recovery will be somewhere within the next six–12 months.

There is also a deep human willingness to whistle past boneyards… we might note.

“The market knows that the job losses are self-inflicted due to the widespread shutdowns,” adds Bleakley Advisory CIO Peter Boockvar. He continues:

Thus, now that we are beginning the reopening process the market assumes many of these people will hopefully get hired back over the coming months and quarters.

“The market assumes.”

We finally come to Mr. Arthur Hogan. He is chief market strategist at National Securities. Says he:

You have investors that seem to be able to look through the tsunami of negative economic data and earnings and toward the potential for a gradual reopening of the economy.

But is a gradual reopening of the economy the end of the tsunami of negative economic data?

A “Biblical” Flood of Bankruptcies

A new survey reveals 52% of small-business owners “expect to be out of business within six months,” Bloomberg reports.

But assume only 25% sink under. Millions and millions of Americans will nonetheless go scratching.

If 70% of the United States economy is consumption… these are millions and millions who will not be consuming.

Meantime, we are informed that a “biblical” flood of bankruptcies will wash over America in the months ahead.

Does the Stock Market Really Discount the Future?

Wall Street’s cheer squad will inform you that the stock market looks ahead… and “discounts the future.”

Yet the stock market is presently perhaps the most expensive ever.

A stock’s  price-earnings (P/E) ratio indicates what investors will pay for each dollar of future earnings. If a stock trades at 19 times earnings… investors are willing to ladle out $19 for $1 of earnings.

Stocks with P/E ratios beneath 15 are considered cheap… historically. Stocks above 18 are generally considered expensive.

What is today’s forward-looking P/E ratio for the S&P as a whole?

Near 21. That is, the S&P is extravagantly expensive by historical accounts.

It indicates a future economy under full steam.

Maybe the Stock Market Is Wrong

Whence will corporate earnings originate?

From the biblical flood of bankruptcies? From the millions and millions of jobless?

If the stock market discounts the future so reliably… it must believe the economy has a real trick up its shirtsleeve.

Either the stock market is correct — or the economy has no trick up its shirtsleeve.

We do not believe the trick is up the sleeve.

That is, we do not anticipate the V-shaped recovery Wall Street sees shimmering in the distance.

Nor does Bloomberg:

The breadth of job losses is a jarring signal of the massive challenge of restarting vast swaths of the economy – not just a few sectors – and it therefore serves as a stark indication that a ‘V-shaped’ recovery will not be possible.

The stock market may have discounted the future at one time. But to our notion, that era is past…

Down 50%-80% Without the Fed

Wall Street does not so much look ahead to the future… but south to Washington — at the Federal Reserve.

Where would the stock market presently sit without the Federal Reserve’s recent liquidity floods?

The men and women of One River Asset Management recently dug into the question. Here is their answer:

Down 50–80%.

Let the rah-rah men babble about the discounted future. The facts are visible to any with eyes willing to see:

The stock market rises and falls on the liquidity pumped in. The past decade offers nearly perfect proof.

The Market Lives and Dies by the Fed

Do you recall December 2018, when Mr. Powell pledged to continue raising interest rates and draining the balance sheet?

The market came within an ace of a bear market.

The chairman immediately raised his surrender flag. He axed rates and plugged the drain.

And he has lately swung the floodgates open…

Rates are once again at zero. And some $3 trillion has come flooding onto the balance sheet — lifting it to $6.72 trillion — $2.2 trillion higher than previous high water in 2015.

We hazard it will rise to $10 trillion by year’s end… or higher.

We suspect this liquidy future is the future that the stock market is discounting. It is not the economy.

Main Street Takes the Burns, not Wall Street

Yes, the economy will open, in steps. But that does not mean Americans will throng into restaurants, into malls, into cinemas, into arenas, onto airplanes, into hotels, into theme parks.

Only a mighty swing of the national psychology will draw them out, we hazard. And we do not believe the psychology will swing until a COVID-19 antidote comes out.

The economy will not continue to shrivel at a 30–47% annualized rate, it is true.

But assume third- and fourth-quarter GDP “rebounds” to a minus 5–10% reading. GDP is contracting nevertheless.

The economy may jump from the roaring fire to the frying pan, that is.

But the pan still scorches.

Main Street will take the burns. Yet with the Federal Reserve hosing in trillions in liquidity…

Wall Street will not.


Brian Maher
Managing editor, The Daily Reckoning

The post The Worst Jobs Report in History appeared first on Daily Reckoning.

Recovery by the End of the Year?

This post Recovery by the End of the Year? appeared first on Daily Reckoning.

Will the recession end by the close of 2020?

One “economic expert” boasting a “perfect record calling recessions” believes it will.

Will it? Today we mount the judge’s bench, hear evidence… and render verdict.

First to the verdict of the marketplace. How did the stock market fare today?

Main Street Goes One Way, Wall Street the Other

The Dow Jones jumped 211 points today. The S&P gained 32, the Nasdaq 125.

The Nasdaq — if you can believe it — is now positive on the year.

But Wall Street is far removed from Main Street. Today’s spree once again follows bleak economic data…

The United States Department of Labor reveals another 3.169 million Americans filed unemployment claims for the week ended May 2.

They join the existing 30 million Americans recently turned out upon their ears.

But rejoice — the Nasdaq is once again in green.

Let us now turn to the question swirling in the air:

Will the recession end by the close of 2020?

A “Perfect Record Calling Recessions”

Dr. Campbell Harvey professes finance at Duke University. MarketWatch claims he enjoys a “perfect record calling recessions.”

Last summer — we are informed — this fellow projected recession for “2020 or early 2021.”

What was the rock of his case?

The yield curve. Specifically, an inverted yield curve.

Explains MarketWatch:

The yield on the 3-month Treasury bill was higher than the yield on the 5-year Treasury note for the entire second quarter of 2019. That “inverted yield curve” had been the harbinger of the previous seven recessions. Harvey first identified the inverted yield curve’s predictive power in his 1986 doctoral dissertation at the University of Chicago.

A Prediction Even More Accurate

We must be formidable future-seers as well. We began yelling about an inverted yield curve one full year before the professor — in July 2018.

We forecast possible recession “sometime in mid-2020.”

What is the expression — close enough for government work?

Twice last summer we hollered similar warnings.

In reminder, recession is commonly defined as two consecutive quarters of minus growth.

Q1 GDP contracted 4.8%. The Q2 count is not yet in.

But GDP will likely vanish at an annualized 30–47% rate… depending which crystal-gazers you choose to believe.

And so you will have your two consecutive quarters of contraction. That is, you will have your recession.

An Act of Self-Destruction

Of course, this recession is an act of self-destruction, a deliberate shooting of a bullet into the foot.

Let us not forget: Government chose recession in the broader interest of public health.

We cannot claim recession would have come in this year without the virus. Even if it did… it would not have raised one fraction of the hell.

A standard-issue recession does not plunge 33 million into unemployment within seven weeks. Nor does it dynamite GDP at a 30–47% annualized rate.

These times lack all precedent, all reference markers.

We will nonetheless claim the laurel as master economic psychic.

The Lesson of the Yield Curve

But why is an inverted yield curve such a menace? As we have explained prior:

The yield curve is simply the difference between short- and long-term interest rates.

Long-term rates normally run higher than short-term rates. It reflects the structure of time in a healthy market…

Longer-term bond yields should rise in anticipation of higher growth… higher inflation… higher animal spirits…

But when short- and long-term yields begin to converge, it is a powerful indication the bond market expects lean times ahead.

When the long-term yield falls beneath the short-term yield, the yield curve is said to invert.

A Nearly Perfect Recessionary Omen

As we have also explained before, an inverted yield curve is a nearly perfect recessionary omen.

An inverted yield curve has foretold recession seven of seven prior occasions… as confirms MarketWatch.

Only once did it spot a phantom — in the mid-1960s.

And now this recession fortune teller has foretold eight of the past eight recessions… regardless of the circumstances behind the eighth.

Next we come to this question:

Will this economy go backward four straight quarters, five straight quarters, six — or more?

A “skinny U” Recovery

Dr. Harvey, the man with the spotless record, says no. You can expect robust recovery early next year.

Not the “V-shaped” recovery the sunshine-blowers have projected — but a “skinny U” nonetheless. A vaccine will be the spark plug.


“In the global financial crisis [in 200809], we never could tell when it was going to end,” [Harvey] said in a telephone interview. This time, he said, “The cause is clear — it’s a biological event, and the solution is also clear: another biological event”

He doesn’t anticipate the V-shaped recovery that Wall Street touted a few weeks ago. “I think it’s more what I call the ‘skinny U,’ because I do believe that we will have a vaccine by the first quarter [of 2021],” he said.

Just so. But is a vaccine likely by the first quarter of 2021?

We instructed our minions to research the literature on vaccination. Are vaccines effective against viruses such as this? When can the world expect one, with history as our guide?

We ordered them off in pursuit of answers.

They returned with answers. But their findings did not encourage.

Do Not Count on a Vaccine

COVID-19 is of course a coronavirus. Not once — despite all the angels and saints — have medical men brewed a successful vaccine against a coronavirus.

Decades of effort have led them down blind alley after blind alley after blind alley.

We were further informed that the respiratory system is generally unreceptive to vaccination… as a round hole is unreceptive to a square peg.

It is walled off, inaccessible to the vaccinary machinery.

Dr. Ian Frazer — a scientist — has himself helped develop vaccines. According to him:

It’s a separate immune system, if you like, which isn’t easily accessible by vaccine technology. It’s a bit like trying to get a vaccine to kill a virus on the surface of your skin.

Not only are these vaccines poor fighters. They are turncoats who aid and comfort the enemy:

One of the problems with corona vaccines in the past has been that when the immune response does cross over to where the virus-infected cells are it actually increases the pathology rather than reducing it. So that immunization with SARS corona vaccine caused, in animals, inflammation in the lungs, which wouldn’t otherwise have been there if the vaccine hadn’t been given.

In conclusion:

I think it would be fair to say even if we get something which looked quite encouraging in animals, the safety trials in humans will have to be fairly extensive before we would think about vaccinating a group of people who have not yet been exposed to the virus.

They might hope to get protection but certainly wouldn’t be keen to accept a possibility of really serious side effects if they actually caught the virus.

A Drug Therapy Is More Likely

Of course it is possible the professionals will mix a vaccine that is both safe and effective. Heaps and heaps of scientists labor furiously for that purpose.

But the history is against them — at least to our understanding.

And the possibility of a functioning vaccine by the first quarter of 2021 appears… unlikely.

We hazard a workable drug regimen, or regimens, will emerge far ahead of a vaccine. They may not work a cure. But they might pack enough wallop to hold the killer off.

And a dependable therapeutic would likely coax Americans from their bunkers, from their foxholes. When this therapeutic comes on scene, we cannot say of course.

Americans Might Just Take Their Chances

But the economy — or greater segments of it — will swing open before long. The states are making plans.

And millions of Americans may choose to test their luck at work… rather than remain chained down at home, jobless and hopeless, waiting for a drug.

They will fare out into a changed America with their eyes open, their tread light… and their fingers crossed.


Brian Maher
Managing editor, The Daily Reckoning

The post Recovery by the End of the Year? appeared first on Daily Reckoning.

China: More Bark Than Bite

This post China: More Bark Than Bite appeared first on Daily Reckoning.

I’ve made many visits to China over the past thirty years and have been careful to move beyond Beijing (the political capital) and Shanghai (the financial capital) on these trips.

My visits have included Chongqing, Wuhan (the origin of the coronavirus outbreak), Xian, Nanjing, new construction sites to visit “ghost cities,” and trips to the agrarian countryside.

My trips included meetings with government and Communist Party officials and numerous conversations with everyday Chinese people.

In short, my experience with China goes well beyond media outlets and talking heads. In my extensive trips around the world, I have consistently found that first-hand visits and conversations provide insights that no amount of expert analysis can supply.

These trips have been supplemented by reading an extensive number of books on the history, culture and politics of China from 3,000 BC to the present. This background gives me a much broader perspective on current developments in China.

An objective analysis of China must begin with its enormous strengths. China has the third largest territory in the world, with the world’s largest population (although soon to be overtaken by India).

China also has the fifth largest nuclear arsenal in the world with 280 nuclear warheads, about the same as the UK and France, but well behind Russia (6,490) and the U.S. (6,450). China is the largest gold producer in the world at about 500 metric tonnes per year.

Its economy is the second largest economy in the world, behind only the U.S. China’s foreign exchange reserves (including gold) are the largest in the world.

By these diverse measures of population, territory, military strength and economic output, China is clearly a global super-power and the dominant presence in East Asia.

Yet, these blockbuster statistics hide as much as they reveal.

China’s per capita income is only $11,000 per person compared to per capita income of $65,000 in the United States. Put differently, the U.S. is only 38% richer than China on a gross basis, but it is 500% richer than China on a per capita basis (of course the massive economic fallout from the coronavirus will have an impact).

China’s military is growing stronger and more sophisticated, but it still bears no comparison to the U.S. military when it comes to aircraft carriers, nuclear warheads, submarines, fighter aircraft and strategic bombers.

Most importantly, at $11,000 per capita GDP, China is stuck squarely in the “middle income trap” as defined by development economists.

The path from low income (about $5,000 per capita) to middle-income (about $10,000 per capita) is fairly straightforward and mostly involves reduced corruption, direct foreign investment and migration from the countryside to cities to pursue assembly-style jobs.

The path from middle-income to high-income (about $20,000 per capita) is much more difficult and involves creation and deployment of high-technology and manufacture of high-value-added goods.

Among developing economies (excluding oil producers), only Taiwan, Hong Kong, Singapore and South Korea have successfully made this transition since World War II. All other developing economies in Latin America, Africa, South Asia and the Middle East including giants such as Brazil and Turkey remain stuck in the middle-income ranks.

China remains reliant on assembly-style jobs and has shown no promise of breaking into the high-income ranks.

To escape the middle income trap requires more than cheap labor and infrastructure investment. It requires applied technology to produce high-value added products. This explains why China has been so focused on stealing U.S. intellectual property.

China has not shown much capacity for developing high technology on its own, but it has been quite effective at stealing such technology from trading partners and applying it through its own system of state-owned enterprises and “national champions” such as Huawei in the telecommunications sector.

But now the U.S. and other countries are cracking down on China’s technology theft and China cannot generate the needed technology through its own R&D.

In short, and despite enormous annual growth in the past twenty years, China remains fundamentally a poor country with limited ability to improve the well-being of its citizens much beyond what has already been achieved.

And that has serious implications for China’s leadership…

China’s economy is not just about providing jobs, goods and services. It is about regime survival for a Chinese Communist Party that faces an existential crisis if it fails to deliver.

It is an illegitimate regime that will remain in power only so long as it provides jobs and a rising living standard for the Chinese people. The overriding imperative of the Chinese leadership is to avoid societal unrest.

If China’s job machine seizes, as parts of it did during the coronavirus outbreak, Beijing fears that popular unrest could emerge on a potentially scale much greater than the 1989 Tiananmen Square protests. This is an existential threat to Communist power.

President Xi Jinping could quickly lose what the Chinese call, “The Mandate of Heaven.”

That’s a term that describes the intangible goodwill and popular support needed by emperors to rule China for the past 3,000 years. If The Mandate of Heaven is lost, a ruler can fall quickly.

Even before the crisis, China has had serious structural economic problems that are finally catching up with it.

China is so heavily indebted that it is now at the point where more debt does not produce growth. Adding additional debt today slows the economy and calls into question China’s ability to service its existing debt.

Meanwhile, China’s real year-over-year growth tumbled 6.8% in the first quarter.

Besides the slowdown from the pandemic, China confronts an insolvent banking system and a real estate bubble.

Up to half of China’s investment is a complete waste. It does produce jobs and utilize inputs like cement, steel, copper and glass. But the finished product, whether a city, train station or sports arena, is often a white elephant that will remain unused. The Chinese landscape is littered with “ghost cities” that have resulted from China’s wasted investment and flawed development model.

Chinese growth has been reported in recent years as 6.5–10% but is actually closer to 5% or lower once an adjustment is made for the waste. Again, that was before the crisis.

Essentially, China is on the horns of a dilemma with no good way out. China has driven growth for the past eight years with excessive credit, wasted infrastructure investment and Ponzi schemes.

The Chinese leadership knows this, but they had to keep the growth machine in high gear to create jobs for millions of migrants coming from the countryside to the city and to maintain jobs for the millions more already in the cities.

The two ways to get rid of debt are deflation (which results in write-offs, bankruptcies and unemployment) or inflation (which results in theft of purchasing power, similar to a tax increase).

Both alternatives are unacceptable to the Communists because they lack the political legitimacy to endure either unemployment or inflation. Either policy would cause social unrest and unleash revolutionary potential.

The question is, will China pursue an aggressive posture against the U.S. to distract the people?

China does not want war at this time. But diverting the people’s attention away from domestic problems toward a foreign foe is an old trick leaders use to unite the people in times of uncertainty.

If China’s leadership decides that the risk of losing legitimacy at home outweighs the risk of conflict with the United States, the likelihood of war rises dramatically.

I’m not making a specific prediction, but wars have started over less. This is a very dangerous time.


Jim Rickards
for The Daily Reckoning

The post China: More Bark Than Bite appeared first on Daily Reckoning.

China, Iran Are on the March

This post China, Iran Are on the March appeared first on Daily Reckoning.

There is so much focus on the COVID-19 pandemic right now that Americans can’t be blamed if they’re not spending much time studying other developments.

That’s understandable, but inattention may be as dangerous as the virus itself. That’s because America’s adversaries are taking advantage of the situation by challenging U.S. interests in a set of geopolitical hot spots.

They believe we’re too distracted by the virus containment effort to mount a firm response.

At the same time, geopolitical confrontation is a classic way to rally a population against an outside threat, especially when they’re still hurting from the pandemic and the economic consequences. It’s one of the oldest tricks in the books to get the people behind the government.

This appears to be the case with China and Iran right now.

China in particular is trying to divert attention away from its own cover-up of the pandemic, which allowed it to spin out of control. So it’s engaging in a global propaganda campaign to try to blame the U.S. for the spread of the virus.

Both China and Iran have lied about the damage caused by the virus in their own countries. China officially reported about 4,600 fatalities and Iran officially reported about 6,200. But reliable sources suggest that the actual count of fatalities may be at least 10 times greater in both countries.

This could put actual fatalities in China and Iran about equal to the U.S. (over 70,000 dead).

Meanwhile, the U.S. has been reeling economically, and there’s no reason to believe that China and Iran are feeling any less pain. Let’s first consider China…

Not surprisingly, China has tried to take advantage of the situation by acting aggressively in the South China Sea and threatening Taiwan.

The South China Sea is a large arm of the Pacific Ocean surrounded by China, Vietnam, the Philippines, Malaysia, Brunei and Indonesia.

All six countries have claims to exclusive economic zones that extend several hundred miles from their coastlines.

Parts of the sea are international waters governed by the Law of the Sea Convention and other treaties. All of the other nations around the South China Sea have rejected China’s claims. But they’ve been pushed back to fairly narrow boundaries close to their coastlines.

China has ignored all of those claims and treaties and insists that it is in control of the entire body of water including islands, reefs and underwater natural resources such as oil, natural gas, undersea minerals and fisheries.

China has also become even more aggressive by designating the South China Sea reefs as city-level administrative units to be administered by mainland China.

And China has pumped sand onto reefs to build artificial islands that have then been fortified with airstrips, harbors, troops and missiles.

China has said it will never seek hegemony, but that’s clearly not true. It most certainly seeks hegemony in the region.

And it’s willing to enforce it. Several encounters have happened lately where Chinese coast guard vessels have rammed and sunk fishing boats from Vietnam and the Philippines.

But China’s aggression in the South China Sea can also jeopardize U.S. naval vessels.

The U.S. operates “freedom of navigation” cruises with U.S. Navy ships to demonstrate that the U.S. also rejects China’s claims. It’s not difficult to envision an incident that could rapidly escalate into something serious.

It’s also fair to assume that a weakened U.S. Navy has emboldened Chinese actions recently.

The two aircraft carriers the Navy has in the western Pacific, the Theodore Roosevelt and Ronald Reagan, were both taken out of action due to outbreaks of the coronavirus among their crews. That’s been a dramatic reduction in power projection in the region.

But neither side will back down, as neither wants to appear weak. This makes warfare a highly realistic scenario. It’s probably just a matter of time.

Meanwhile, Iran has harassed U.S. naval vessels in the Persian Gulf, launched new missiles and continued its support of terrorism in Iraq, Yemen and Lebanon.

These actions are more signs of weakness than strength, but they are dangerous nonetheless.

In the past 10 years, we’ve been through currency wars, trade wars and now pandemic.

Are shooting wars next? Pay attention to China, Iran and, yes, North Korea. They haven’t gone away either.

The world is a dangerous place — and the virus has only made it more dangerous.


Jim Rickards
for The Daily Reckoning

The post China, Iran Are on the March appeared first on Daily Reckoning.