Contributed by Bill
Publisher of: The
Fleet Street Letter
TUESDAY, 17 JULY 2001
*** Huge new dollops of cash in the U.S. economy...but not
*** "the implosion has begun"...no recovery in
semiconductors this year...
*** Incredible Baltimore real estate...drunken
sailors...fewer house refinancings...and more!
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Let's begin with The Big Picture.
Investors continue to lose money. In the first
quarter of this year, Schwab reported, its customers lost
$200 billion from the previous year. The S&P 500 is down
over the last 3 years. The Dow is down over the last two.
And the Nasdaq is still about 60% below its level of March
2000. The stock market meltdown that began last year has
erased as much as $10 trillion in paper wealth worldwide.
The Fed is desperately trying to replace that lost
paper wealth with new paper. In a single week in late June,
the Fed added $42.8 billion in new cash. This year, more
than $1 trillion will be added. Interest rates have been
cut 6 times in the first 6 months of this year - to the
point where the real cost of borrowing for Fed members is
Despite this, the price of gold goes nowhere. You can
buy an ounce today for about what you would have paid two
years ago. And long bonds - which should be falling in
anticipation of an inflation threat - cling to 5% yields.
Meanwhile, all over the world, economies are
weakening. And American consumers - upon whose broad backs
the entire world's economic growth seems to rest - grow
more feeble and more likely, day by day, to shrug off the
All of this points in a single direction - towards
the worst possible denouement - deflation. The Levy
Institute: "The U.S. economy is probably now in recession,
and a prolonged period of subnormal growth and rising
unemployment is likely..."
Over the past few years, The Levy Institute has
argued that, "...the expansion of aggregate demand had been
structured in an unusual and unsustainable way -
unsustainable because it relied upon a continuing growth of
private spending in excess of disposable income. It has
become pretty clear during the last six to nine months that
the process of implosion that so concerned us has now
Eric, what say ye?
- Well, no one said it would be easy to be bullish about a
market full of stocks without any earnings. Six interest
rate cuts and a lucky rabbit's foot can only take you so
- Yesterday's body-blow de jour was dealt by semiconductor
stocks, or more precisely by Applied Materials CEO, Jim
Morgan - normally an upbeat sort of guy.
- But, as Bill Fleckenstein of grantsinvestor.com reported,
when "Sunny Jim" addressed the Semicon West trade show
yesterday, "[He] acknowledged that the [semiconductor]
recovery might not occur till the second half of 2002."
- Thanks to the dire auguries, Applied Materials' stock
fell 9% yesterday, dragging down the Sox (semiconductor
stock index), which fell about 7% on the day. The NASDAQ,
Dow and S&P 500 all finished the day in the red as well.
The Dow surrendered 67 points, while the NASDAQ fell more
than 55 points to 2,029.
- From the "Whom should we believe" files: Motorola
Chairman and Chief Executive Christopher Galvin predicts
that semiconductor industry will resume double-digit growth
next year. Yet, Japan's five largest computer chip
manufacturers have all slashed their capital investment
plans by more than 25% this year. You decide.
- "U.S. households are more indebted than they had ever
been, and total debt is greater than total disposable
income," Bridgewater Associates reports. "Despite
relatively low interest rates, household debt service
payments eat away a near record 14.35% of disposable
- Charles W. Peabody, bank analyst with Mitchell
Securities, points out that the current debt service burden
is "the highest level since the fourth quarter of 1986,
which, at 14.38%, was the highest level ever since the Fed
started tracking these data."
- My friend, Frederick J. Sheehan, Jr. of John Hancock's
Asset Management, writes, "U.S. consumers have spent money
like drunken sailors. That is, if the drunken sailors had
sold the U.S.S. Nimitz and spent the proceeds in addition
to their paychecks."
- Nevertheless, most banks are turning a blind eye and
continuing to lend with abandon to household borrowers.
- "While banks are cutting off corporations," says
Bridgewater, "only a relatively small percentage of banks
are tightening standards on households. In the most recent
Federal Reserve survey, a mere 4% of banks were tightening
standards on mortgages, 19% on consumer loans and 20% on
- However, Peabody says there are signs already of
developing weariness in the mortgage market. "Earlier this
week, the Mortgage Bankers Association announced that its
refinancing volume index had fallen to 1,200, down 21% for
the week ended July 6. This index has now been cut by over
half since peaking at over 2,803 on March 23, 2001. This
weakening refi trend was echoed in recent days by other
- Countrywide Credit announced that its 'refinance' loan
volume fell in June (from record levels in May) for the
first time in 2001."
- Pity the mighty Fed chairman. He tries to lead, but
neither the economy nor the stock market care to follow.
The second-half rebound anticipated by nearly every market
strategist on Wall Street is MIA.
- "This is now the most aggressive monetary easing in the
Federal Reserve's 88-year history!" says James Stack of
Investech Research. "Never before - with interest rates
already at single-digit levels - has the Fed cut the
Discount Rate by a full 2.75 percentage points in less than
six months...this is true panic."
- So what good is all this rate cutting? Not much so far.
The Dow and the NASDAQ have both declined since the Fed
started easing on January second.
- Nor is the bond market benefiting from Fed policy. Bianco
Research calculates, "Despite the Fed easing 275 basis
points this year, the 30-year bond lost 2.41% in the first
half of 2001. The 30-year's return is so dismal that it
even underperformed the Dow Jones industrial average, which
lost 1.85% over the same time period."
- Interestingly, Bianco points out, "The gold/silver stock
index (XAU) has returned 4.4% [year-to-date] versus a loss
of 6.70% for the S&P 500."
- "Some Fed officials still remember - and believe - that
an easy monetary policy can have negative consequences,"
writes Andy Kashdan of grantsinvestor.com. "Fed Governor
Laurence Meyer noted in a speech last month that "we have
to be concerned that as we ease to mitigate the risks of a
persistent slowdown or recession, we do not at the same
time create conditions that would lead to higher inflation
as the expansion gathers momentum." Meyer did not have to
add that even worse would be higher inflation before the
expansion has yet to appear.
And what else? [asks Bill...]
*** More evidence of a real estate boom in Baltimore. I
walked across the square to look at a house for sale. Five
years ago, the 19th century rowhouse could have been bought
for $200,000. Now, the same owners are asking $400,000.
*** Who would have believed that an investment in some of
the most despised real estate in America would have
performed better than the S&P?
*** A thin, nervous man showed us around the place. He had
the wary look of a compulsive worrier, frightened by the
thought of any change. I saw the twitch of his mustache and
the fear in his eyes when I described how we might be able
to put a new staircase along the back wall. Of course, this
only encouraged me to think more expansively. 'Yes, and we
could knock down this wall completely..." I said, as the
panicked look deepened. "and build an atrium all the way to
the 4th floor...and tear down this brick wall and rip out
*** He could not take it any more. He turned around and
took refuge in a dark, quiet corner until we had left.
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MR. LINCOLN'S WAR
We have been searching for the 'why?'
Why does no one say "the United States are...?" Since the
War Between the States, the United States has become
Before 1860, the United States were not even a nation.
Instead, they were a union of sovereign states. But Lincoln
used the word 'nation' five times in his Gettysburg
address. And now it is 'one nation, indivisible.'
Before that time, Americans had assumed that free people
had the right to take a union apart just as they had the
right to put one together. Even Lincoln favored the right
of secession, when it suited him. After Virginia seceded
from the union, Lincoln plotted with unionists in
Virginia's western counties - and thus encouraged them to
secede from Virginia, forming the new state of West
You may recall how this series of letters began. Why, in
the land of the free and home of the brave, I wondered, do
people give up a third of their usufructs to the tax
collectors? Why do they let themselves be bossed around by
every half-wit regulator with a GS number? Why do they
allow politicians to tell them what money they shall
use...and permit public servants to set - by decree - the
rates at which banks borrow from the central banking
In searching for the why, we have - so far - only stumbled
upon the 'when.' But I feel we are on the trail of
something big. For we are looking into the heart of
darkness - the 'Chaos and Dark' of the human condition.
Going back to the 'when,' we have discovered the birth of
central banking and managed paper currency in America.
Today, we look again at that period - when the whelp was
still newly born and still dewy and wet...soft as a sponge
and fragile as a campaign promise.
Let us see what sired this hound...and what bitch delivered
it...and then, perhaps we will even get a glimpse of the
'what' it may become...before it darts into the dense
forgotten underbrush of financial history..
After his inauguration, had Mr. Lincoln allowed the Deep
South to go its own way, commented The Times of London,
"the result might fairly have been quoted as illustrating
the advantages of Democracy, but when Republicans put
empire above liberty, and restored political oppression and
war rather than suffer any abatement of national power, it
was clear that nature at Washington was precisely the same
as nature at St. Petersburg...Democracy broke down not when
the Union ceased to be agreeable to all its constituent
States, but when it was upheld, like any other Empire, by
force of arms."
The force of arms is expensive. Unlike a good business deal
or a good marriage, a political transaction (that is, one
that relies upon the force of arms) is never a win-win
situation. Nor is it even a win-lose situation, such as a
gambling wager - in which the amount won by one party is
equal to the amount lost by the other. Instead, political
deals involve what economists call 'deadweight losses."
Though one side may gain an advantage at the expense of the
other, the net result to the whole society is negative. In
the aggregate, everyone loses.
This was true of slavery, and of the war that was
supposedly fought to end it.
Plantation owners - the south's antebellum aristocracy -
were the only winners from slavery. Most whites, even in
the South, gained nothing. Instead, they were forced to
compete with unpaid slave labor.
In the North, whites didn't like the idea of competing with
black laborers - even if they were paid market wages. So
great was the Irish immigrants' indignation that they
rioted in New York city in mid-July of 1863. In fact, the
riot - in which mobs attacked rich white men and poor black
men - left 1,000 people dead. It was put down on this day -
July 17th - by federal troops coming directly from the
battle of Gettysburg.
But even in the case of chattel slavery, the market works
her own leveling wonders. A white man in the early 1800s
might decide to use his $1,000 or so to buy a slave. Or he
might buy government bonds. The return on either one would
be about the same, according to Jeffrey Rogers Hummel in
his book "Emancipating Slaves, Enslaving Free Men," between
8% and 12% - or about what you might have gotten in stocks
during the following century.
One of the big differences between a bond and a black
slave, however, was that the bond had no legs. It didn't
How much would a bond be worth if it could get away from
you and disappear down a dark alley? That was the problem
with slavery. The South was sparsely inhabited and rich in
swamps, hills and impenetrable thickets. Slaves often ran
away and hid - sometimes intermarrying with local Indian
tribes and forming whole new communities.
In the border states, runaways could make their way to the
free states and be gone forever. So great was the risk of
loss that in states such as Maryland, by the middle of the
19th century, the capital value of slaves was in decline
and slavery itself rapidly disintegrating. Who would pay
the equivalent of $21,000 in today's money to buy an asset
that could walk away to nearby Pennsylvania within a few
Slavery, worldwide, was doomed in the 19th century. Even in
Brazil, so many slaves escaped to the Amazon jungle that it
became impossible to make a go of it. The value of slaves
fell by 80% in mid-century and the institution was
abolished in 1888.
Slaves would not long be a profitable investment in America
either, without the cooperation of the entire union. The
northern states had to agree to send back escaped
slaves...or the 'peculiar institution' was finished.
"Slavery was doomed politically even if Lincoln had
permitted the small Gulf Coast Confederacy [when Lincoln
took office only a few states in the Deep South had bolted]
to depart in peace," writes Hummel, "The Republican-
controlled Congress would have been able to work toward
emancipation within the border states, where slavery was
already declining. In due course, the Radicals could have
repealed the Fugitive Slave Law of 1850. With chattels
feeling across the border and raising slavery's enforcement
costs, the peculiar institution's final destruction within
an independent cotton South was inevitable."
"Slavery [is] much more secure in the Union that out of
it," said Alexander Stephens, who would become Vice
President of the Confederacy.
Thus, Abraham Lincoln, running for president and seeking
votes wherever he could get them, pledged to enforce the
slave recovery provisions passed by Congress. Northern
abolitionists were appalled. They even suggested that the
North should secede from the union - so that escaping
blacks could find sanctuary north of the Mason-Dixon line.
There is no foolishness to which a man will not stoop, dear
reader, if he has a mob at his back and a public office
within his grasp. Instead of letting the Deep South do as
it pleased...Mr. Lincoln decided he would tell them what to
But Mr. Lincoln's war - like slavery - was expensive, and
turned out to be the biggest lose-lose proposition of
America's entire history.
At first, the introduction of greenbacks and huge new
demand for war supplies triggered an economic boom. "The
farms teem, the workshops and the factories whir, and the
bustle of trade fills the streets," the New York Times
reported in 1863.
But it was mostly an illusion - like the recent bubble in
high tech. "Adjusting for inflation," says Hummel,
"workers' wages actually fell by one-third... [and] The
1860s saw the American economy's worst performance of any
decade between 1840 and 1930, with real income per capita
falling by 3%."
Of course, that was just the beginning of the losses. The
total cost of the war was about $6.6 billion, split more or
less evenly between the two sides. "The North's side
alone," Hummel observes, "was enough to buy all slaves and
set up each family with forty acres and a mule."
Instead, Lincoln's war left one dead soldier for every 6
slaves liberated. And it left blacks in the South as
destitute as whites.
It also provided inspiration for future wars. General
Sherman, marching through Georgia as Ludendorf would later
march through Belgium, issued an order to shoot Southern
prisoners: "should a Union man be murdered, then a rebel
selected by lot will be shot...In aggravated cases,
retaliation will be extended as high as five for one."
Grant, meanwhile, decided to lay waste to the Shenandoah
Valley. He wanted it stripped so bare "that crows flying
over it for the balance of this season will have to carry
their provender with them."
Hardly a single household in the South avoided the loss of
life or property. Those in the North did little better.
The number of people working for the Federal government
rose almost five fold. Central banking was launched...along
with unbacked paper money...and an income tax. And scarcely
a single provision of the bill of rights was left intact.
"The civil war of '61," observed Harvard professor George
Ticknor, "has made a great gulf between what happened
before it in our century and what has happened since, or
what is likely to happen hereafter. It does not seem to me
as if I were living in the country in which I was born or
in which I received whatever I got of political education
More on Thursday...on what is likely to happen hereafter...
The Daily Reckoning:|
author Bill Bonner
Bill Bonner is,
in spite of himself, a natural born contrarian. Early each morning, Bill
writes The Daily
Reckoninghis take on the financial markets and whats going
on in the worldand 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 upnot 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 90sopening offices in Florida, London, Paris, Ireland, and
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.