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Contributed by Bill Bonner
Publisher of: The Fleet Street Letter

FRIDAY, 11 MAY 2001 


Today:  High Wire Act

*** The party goes transcontinental! Lower rates in
Europe too...

*** But the rally seems to be weakening... "not good
action" on Wall Street...

*** Fewer Americans save for
recommendations still recklessly bullish...
inflation...the Comedie Francaise...what a city!

*** The European Central Bank cut interest rates
yesterday by a quarter point to 4.5%. One European
economist described it as "the biggest monetary
shock of the new millennium." Modest prediction:
There will be others...

*** "It's Unanimous," proclaimed David R. Kotok of
New Jersey-based Cumberland Advisors Inc. "The ECB
rate cut means all the world's money-printing
machines are operating at high capacity."

*** Like a "good soldier" the ECB had been holding
fast to its duty: fighting inflation, first and
foremost. But duty can be interpreted to fit the
circumstances...European markets rallied anywhere
from 1% to 3%.

*** Stateside, investors learned before the U.S.
market opened yesterday that unemployment and
inflation in the States are no longer a problem, at
least according to the Labor Department. Initial
jobless claims plunged by 41,000 to 384,000 in the
week ended May 5, their lowest level since the last
week of March.

*** The Dow rallied more than 100 points in the
morning. The Nasdaq too joined the fete, up more
than 2 percent before Greenspan had finished his
morning bath. But by day's end, the jubilation had
subsided a bit. The Dow clung to a 43-point gain.
The Nasdaq struggled, finishing down 27 points.

*** "It was not good action," one New York trader
told Grant's Investor's Eric Fry. "The market rallied
strongly early on and then landed flat on its back
late in the day. It was not good action at all."
Is the rally nearing an end? We will see, dear reader,
we will see.

*** "OK, let's try for some perspective here,"
writes Christopher Byron, commenting on the boost in
the Nasdaq of late. "Does anybody remember that it
was only a year ago - in the spring of 2000 - when
Cisco Systems, Inc. sported a $500 billion market
valuation on Wall Street? At the time, the company's
CEO, John Chambers, sounded off at every opportunity
about how the Internet was transforming people's
lives and permanently boosting productivity for the
whole human race.

*** "Unfortunately," Byron observes, "anyone who
believed those messages about worker productivity,
and is still sitting with Cisco's stock a year
later, has been badly beaten up." Cisco is now worth
barely a quarter of its former value, and data are
accumulating by the week that the so-called
"productivity miracle" that pumped up the tech
sector in the 1990s amounted in a sense to little
more than a statistical mirage.

*** Gold closed down 90 cents. But the gold stock
indices managed to stay in a plus column. And
Newmont Mining, what's the deal with this stock?
It's taking on a life of its own, gaining almost 3%,
after gaining more than 10% yesterday.

*** Earnings are falling...inflation
rising...productivity dropping... consumers tapped
out...the WSJ reports that "Fewer Americans Save for
their Retirement." What money will they spend? Will
they sell stocks? "The bear market is likely to go
on for years," writes Doug Casey.

*** "Buy recommendations from major Wall Street
brokerages," observes the Fleet Street Letter's
Chris Matthai, still "outnumber sells by a
staggering 72 to 1." Why is Wall Street so bullish?
"Fees from a single [IPO] offering could reach $75
million," Chris explains. (see: Who's The Client?
Why Wall Street's Analysts Are (almost) Always Wrong)

*** Maria began her modeling career last night.
Elizabeth reports: "The models were pretty, but the
clothes were ridiculous."

*** "What a great city," Addison remarked yesterday.
Spring finally caught up with Paris, arriving on
Wednesday afternoon. The last two days have been
beautiful. The sun is shining this morning...the
trees are leafed out, flowers in bloom...and the
women...oh la la! Quelle beaute.

*** Harry Schultz ( sends a note
with his rating of the "world's best major cities to
live in." Paris is rated #1 - followed by London in
the 2nd spot. But Harry leaves the #3 spot empty "to
make it clear #1 and 2 are far ahead of all the
others." No American city made Harry's top-ten list.

*** Elizabeth and I went to the Comedie Francaise
last night - where we watched a version of Gogol's
"The Inspector General," a rich, frolicking look at
the cupidity of Russia's provincial officials in the
19th century.

*** After the performance, we walked across the rue
de Rivoli and had a late dinner. It was early
morning before we finished. There were just a few
people crossing the square between the Louvre and
the Palais Royal. "What a great city," Elizabeth
said as we made our way home.

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Arriving back at the apartment late at night on
Wednesday, I found my son Jules, 13, watching
television. We have not had a TV for many years. But
this one came to us by chance, when an American
neighbor decamped for the U.S., leaving us with some
household plants and unwanted furniture.

The kids took to the TV like it was a lost puppy.

Jules was watching a show called "Celebrity Death
Match." I did not watch the show, but Jules reported
that it was very funny. His mother decided to get rid
of the TV as soon as possible.

The point? Only that it introduces another modest
prediction: In the years ahead, dear reader, people
will create even more appalling TV shows. They will
build new weapons of destruction. And they will find
innovative ways to get themselves into financial

Mr. Alan Greenspan gave a speech yesterday to
bankers in Chicago. His topic, "The financial safety
net," described some of the trouble people had
gotten themselves into in the past.

"Market discipline," said he, "in one form or
another was the major governor of bank risk-taking
from the early years of the Republic. Advancing
technology - telegraph, railroad, and transatlantic
cable - disseminated information, the raw material
for market discipline, ever more rapidly. In this
environment, banks competed for reputation, and
hence deposits, by advertising their high capital

"Equity capital ratios, which were as high as 50% in
the 1830s, were still a third in the 1860s and more
than 15% at the time the Federal Reserve began
operations in 1914.

"But if market discipline was such an attractive
governor for managing risk, why were the nineteenth
and early twentieth centuries punctuated by those
periodic banking collapses known to historians as
panics? 'Panic' was, in fact, a good description,
since participants felt it necessary ... to rush to
the bank window to obtain their share of what all
understood was the limited stock of liquidity before
being beaten in the race by others driven by the
same incentive."

It was to neutralize this incentive - the rush to
claim the cash in a bank before another depositor
could get to it first - that the U.S. Congress and
the Fed rigged up today's "safety net" provisions:
various insurance programs and regulations, as well
as implicit and explicit assurances that the federal
government will come to the rescue when the need

Henceforth, the asset in question - money - would no
longer be strictly limited. Instead, liquidity
(a.k.a. cash, scratch, moolah, dough, fric, dead
presidents, green, etc.) would be made available in
whatever quantities necessary. This, then, is the
modern period in American financial history: Anno
Domini Federalis Reservum, over which the emperor,
Alan Greenspan of Brooklyn, now reigns.

Yesterday, we discussed the troubles that beset
America during the 1930s. Many of today's 'safety
net' features were stitched up after that episode.
Others have been added in the 6 decades that
followed. So vast is the net, with so much spring
and such fine weaving, that it is widely believed
that a person can fall in almost any direction at
almost any time and still not get hurt.

This too - like being able to predict the future, or
finding a decent tort lawyer - must represent some
deep, fundamental affront to natural law. How could
it be possible that people would borrow, invest,
lend and spend recklessly - and suffer no damage?

It is, of course, not possible. The 'safety net'
concept - applauded by Mr. Greenspan for having
prevented any major bank run for 60 years - does not
prevent losses, dear reader, it merely spreads them
out among more and more people. Instead of reducing
risk, the government has nationalized it.

"Take a look at Fannie Mae and Freddie Mac," wrote a
Daily Reckoning reader the other day. "These two
institutions are out of control. In only 3 and a
half years their assets have grown by $400

"What they do is buy up mortgages from banks. The
banks know they can unload any mortgage they make
onto Freddie and they collect fees for
giving some guy a mortgage. They don't have to worry
about how risky the mortgage is, because they sell
the mortgage to these GSE [Government Sponsored
Enterprises]. The banks then have cash in the till
that they lend out. I mean, they're creating new
money. And taking on risks that they can't possibly
cover. Of course, maybe they don't have to worry -
ultimately, you and I and other taxpayers will get
the bill. We'll pay in two ways - by inflation, and
by being forced to bail them out when they run into
trouble. This whole matter needs some sober

I left the office last night intending to give it
some sober reflection...but semi-drunken reflection
was the best I could do...

Consumers enjoyed boom times, during the late '90s,
with plentiful jobs and rising asset prices. There
was no shortage of people ready to borrow money to
buy a house. Inflation was low. Housing prices were
rising. And if a borrower slipped up and was unable
to make his mortgage payments, both he and Fannie
fell into a safety net so supple and so resilient
that both bounced back almost immediately.

But if times were good for Americans, generally,
during the last decade, they were especially good
for Fannie and Freddie. Fannie Mae, for example, saw
her net income rise 500% and assets increased nearly
as much. But long gone are the days when lending
institutions had capital ratios of 50%. Thanks to
the safety net, and an implied government guarantee,
Fannie's equity to asset ratio is only 3%.

Six months ago, Gene Spencer, speaking for Fannie,
explained to Grant's that "Losses are at
historically low levels. For that reason, credit
risk is not a real issue for us at this point."

But conditions that were once ideal might be
reasonably expected to be less-than-ideal at some
point. Homeowners might lose their jobs and be
unable to make mortgage payments. Home prices might
go down rather than up.

Even if housing prices fell by 5% nationwide, says
Fannie, it would only mean a 'gross credit loss' of
$1.065 billion. Laying off most of the loss on
counter-parties, or hedges, Fannie would still
survive. But what if housing prices fall more than
5%? And what if the hedging institutions are in
trouble themselves? Ultimately, the taxpayer will
pick up the bill.

"Perhaps the most troubling aspect of Fannie and
Freddie," says a report from the Washington Business
Journal, "has to do with their belief that they can
take a risky asset - mortgage debt - and turn it
into a virtually risk-free one - GSE debt. There
have been many times in the past that financiers
thought they had figured out how to turn risky
assets into non-risky ones. None has had a happy

Buffett sold his Fannie Mae shares last year, saying
only that he could not calculate the risk. I cannot
calculate the risk either, but my guess is that it
is more than most people think.

Your correspondent, enjoying a beautiful day in

Bill Bonner

For investment ideas and insights consistent with
those you read in The Daily Reckoning, please enroll
in the all-new DR Blue Service:

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About The Daily Reckoning:

Daily Reckoning author Bill Bonner

Bill Bonner is, in spite of himself, a natural born contrarian. Early each morning, Bill writes The Daily Reckoning—his take on the financial markets and what’s going on in the world—and sends it off by e-mail before most Americans’ alarm clocks have buzzed. Many readers say it's the first thing they want to read when they get up—not only because it's informative and thought provoking, but also it's inspiring, in its own quirky and provocative way.

Of course, there's much more to Bill than his daily market commentary. He's also the founder and president of Agora Publishing, one of the world's most successful consumer newsletter publishing companies. Bill's passion for international travel and big ideas are reflected in the company he's successfully built. In 1979, he began publishing International Living and Hulbert's Financial Digest . Since then, the company has grown to include dozens of newsletters focusing on health, travel, and finance. Bill has vigorously expanded from Agora's home base in Baltimore, Maryland since the early ’90s—opening offices in Florida, London, Paris, Ireland, and Germany.

Agora's publication subsidiaries include Pickering & Chatto, a prestigious academic press in London and Les Belles Lettres in Paris, best known as a publisher of classical literature in bilingual editions.


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Last modified: May 11, 2001

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