The incompetency of Washington was most recently demonstrated by the debt ceiling drama. Now the dog-and-pony show staged by the ECB, EU and IMF has added to waning consumer and investor sentiment across the globe to create a crisis in confidence. The timing of this charade could not have been worse, as this unnecessary turn of events has hit the global economy during a period when it was predetermined to weaken on its own force due to the depletion of stimulus funds. As a result of these seemingly intentional destructive actions, most of the economic gains made as the result of tax subsidies and bailout funds since the financial crisis of 2008 have been erased.
Meanwhile, substantial downside risks to global growth remain. Notably, a default of Greek sovereign debt appears imminent. Finally, the risk of significant shocks to Brazil and China has increased. At the very least, Brazil is likely to face more problems in 2012, and possibly thereafter depending on several variables. I have been warning about the risks to emerging economies for some time now.
While advanced nations were forced to borrow funds to inject emergency stimulus into the economy in 2009, emerging nations allocated stimulus expenditures primarily for programs that would strength the road ahead. As a result, nations like China and Brazil have lifted millions of their citizens out of deep poverty. In contrast, advanced nations have generally witnessed increasing levels of poverty. Accordingly, advanced nations around the globe face several economic and social challenges. Although variable in extent depending on the nation under consideration, most advanced nations face the challenges underlying fiscal consolidation and balance sheet deleveraging.
Of more potential concern at least in the short-term, advanced nations must immediately lay forth viable programs to facilitate employment, especially for youths. Otherwise, this could lead to more uprisings (which I feel would be a good thing).
Finally, advanced nations must deal appropriately and expeditiously with the demographic tsunami that has been in the making for decades. The economics of intergenerational demographic imbalances can be seen at their most extreme form by examination Japan’s socioeconomic landscape. However, many EU member nations are not far behind.
Japan also faces numerous short-term issues as the result of recent natural disasters. Shortly after the tsunami, earthquake and nuclear meltdown, analysts marginalized the global impact from Japan. We did not agree with this assessment and warned that it would add to the global slowdown expected in the second half of 2011. Only months later did the entire globe truly come to realize the full importance of Japan in the production supply chain.
As a part of the remedy to address these demographic imbalances faced by advanced economies, pension and healthcare programs must be reformed in an equitable manner so that they are sustainable indefinitely. In the case of the EU, structural changes must be made to increase incentives for elevated labor force participation. In the case of the U.S., the majority of the entitlement problems could be solved by restructuring the healthcare system into a more efficient, more accountable industry, with price controls and real penalties for public healthcare fraud. As well, raising the tax ceiling for Social Security from the current wage limit of about $107,000 to $170,000 would provide long-term solvency to this vital safety net.
Poor progress towards repair of government balance sheets in advanced nations has combined with the economic malaise to create heightened concerns about the ability of the U.S., Japan and Europe to weather the global economic slowdown.
Many are now becoming increasingly concerned that another recession will commence within months in the U.S. and Europe. Japan has already reentered a recession a few months ago, as we reported previously. As we have continued to insist, the U.S. never left the recession which began in December 2007. Moreover, it appears highly likely that most of the EU will reenter a recession by early 2012.
Recession in the EU Approaching
Every member of the EU, including Germany, France, Italy, and in some respects Greece have continued to advance austerity initiatives. But overall, we have seen very poor leadership from the IMF and EU. The failed policies, disjointed efforts and slow response of these institutions have caused confidence to weaken. As a result, we are expecting a recession in the EU in 2012 (90% confidence), with Germany and France experiencing a less severe blow.
As I detailed in previous issues, the EU and IMF have forced Greek officials to sell off critical public assets at pennies on the dollar to the same bankers which were largely responsible for the nation’s economic collapse.
Adding to this theft engineered by the international banking cartel, the European establishment strong-armed Greek officials to pass a new property tax to be levied on all Greek home owners, tied to their electricity bill. Home owners who refuse to pay these new taxes have been informed that their electricity will be shut off. This is nothing short of extortion. Serving as a role model to all of humanity, the Greek people continue to protest. Unlike Americans, Greeks don’t have guns, but they do have heart. They also have backbone. Those who do not fight for what they have will have it stolen by those who want it more.
Although the possibility of a recession in the EU is close to certain at this point, the European Central Bank must act immediately to lower interest rates by 100 basis points over the next few months in order to contain the spillover effects.
It is also remotely possible that a recession might be avoided in Germany and France if the right elements come together at the right time, such as adequate rate cuts, continued support for EU banks and sovereign bonds by the ECB and so forth. This more optimistic outcome is predicated upon the replacement of current leadership at the ECB, EUC and IMF with competent leaders.
While the European Central Bank has recently stepped in to purchase the debt of some banks, the EU banking system will need to be recapitalized. Otherwise, without some type of European TARP program on a much larger scale, a severe recession remains a strong possibility. The effects would surely spill over to the U.S., causing the establishment to concede “another recession.”
Recently, German Chancellor Angela Merkel advised that Europe’s banks should look first to raise money in the private sector before turning to government assistance. The problem with this is two-fold. First, most European banks cannot issue debt because the interest rate would be prohibitively high. As well, equity financing would further hinder the banks because their market value has collapsed. Second, if the banks were to receive private financing first, the investors would benefit from government support similar to the case seen in the U.S. (Bill Gross, Warren Buffett and countless others).
The Bank of England recently initiated a second round of quantitative easing with an announcement that it planned to increase the asset purchase target by £75bn to £275bn, the first increase since November 2009.Meanwhile, the Federal Reserve is likely to initiate another round of quantitative easing if either consumer spending drops to dangerous territory or else the U.S. stock market collapses below the 9800 critical support. I have addressed these possibilities in recent publications.
Previously, I discussed the fact that the downgrade of U.S. debt was justified, but only if most other advanced nations had their debt downgraded to a larger extent. Recently, New Zealand’s sovereign debt was downgraded, followed by that of Italy. More recently, Italy was downgraded by another credit agency, along with Spain. Investors should expect several more credit downgrades for sovereign debt in Italy, Spain, Greece and Portugal. We also expect France to be downgraded, as well a slew of European banks.
While the dollar and yen are likely to continue to outperform other major currencies in coming months, we have recently become cautious on the franc due to the risks in the EU, as well as the central bank’s willingness to exert more intervention in order to reduce cost pressures on Swiss export trade. Resource-based currencies are an especially high risk right now.
U.S. Faces Great Danger of Recession
Without further stimulus, the U.S. is in danger of reentering an “official recession” (70% confidence) in 2012. We do not necessarily take the position advocating an economic stimulus. In fact, based on our expectations from Washington, we strongly oppose further stimulus packages because such funds are likely to be poorly spent and would not resolve the structural deficiencies that have accumulated in the U.S. economy over several decades.
We estimate 2011 in the U.S. productivity at 1.1%. Once final GDP revisions have been made, the common definition of a recession could even materialize based on the Q2 and Q3 data. Furthermore, we are expecting a very weak Christmas season. Thus, once seasonally adjusted, it is likely that an “official recession will be proclaimed by early 2012 (which could predate the report). Thus, at this stage, it is not so much of a question of if, but how long the recession will last. Much of the answer will depend on how Europe handles its issues, and whether we see shocks within China, Brazil or any other nation with strong economic links to the U.S.
EU Banking System and Sovereign Debt
In Europe, widespread concerns over sovereign debt and fiscal restructuring have severely impacted the Eurozone’s banking system. This has led to large increases in borrowing costs. As well, investors have punished Europe’s largest banks. As a result, faced with collapsed market values, many EU banks are in a vulnerable position since they now have a very limited capacity to raise equity and debt financing. This has obviously compounded what was already a problematic situation.
Since the beginning of 2010, the IMF has estimated that many European nations have experienced such a high level of sovereign credit risk that borrowing costs have increased by €200 billion. This amount represents the additional costs due to higher interest rates associated with new loans and refinancing transactions. Our own estimates indicate these costs to be €320 billion. Finally, we estimate that borrowing costs could approach €1 trillion within 18 months if the EU does not act now to contain the crisis.
Meanwhile, recapitalization of the EU banking system is a much larger, more costly endeavor that is likely to cost several trillion euros, depending on the sequence of events, when the banks are capitalized, by how much, and how the economy responds. Note that while TARP funds were around $800 billion, the bulk of the recapitalization process has been hidden by the 25bp interest rates. It is doubtful that the EU would be able to structure a large portion of recapitalization without a significant threat of severe inflation. This emphasizes the relevance of America’s dollar-oil link.
America’s Ace in the Hole
While the U.S. economy faces several challenges, it is by no means in a more enviable position than the predicament in the EU. The only real economic advantage the U.S. holds over the EU is the dollar-oil link which I have discussed ad nauseam for several years. This is a very powerful lever for the U.S. economy, enabling it to print a vast amount of currency while exporting a good deal of inflation across the globe. Thus, if for any reason this link is severed, it would most certainly result in an economic catastrophe of historic proportions. Even a serious threat of severance of this link could initiate a full-scale war in the Middle East. While the dollar-oil link certainly provides a failsafe during crises, as well as a means of global taxation, it does nothing to address the fundamental issues responsible for America’s economic erosion.
The U.S. housing market remains on life support, all while Washington and the Federal Reserve continue to intervene with various measures in order to lower mortgage rates. This remains as the final means by which to provide consumers with additional disposable income that has not come from borrowed funds. Make no mistake. The measures taken by Washington and the Federal Reserve represent acts of desperation. Unfortunately, similar to all over strategies, this one is unlikely to help much. Many homeowners have already refinanced over the past three years, while others are unable to qualify due to a variety of reasons.
Perhaps most worrisome from both a short- and medium-term perspective is the trend of persistently high unemployment. Washington has done absolutely nothing of any substance to address real job creation. President Obama’s America’s Jobs Act represents yet another ineffective solution, much like his Jobs Council which is comprised of some of the same villains who have been responsible for millions of job losses. It’s truly shocking to witness repetitious patterns of neglect and failure by Washington, lack of criminal prosecution of thousands of criminals responsible for destroying the global economy, and apathy of Americans. We are witnessing a historic turning point in all of human kind.
Job Creation Solution
The only solution to America’s bleak job picture will come from a radical restructuring of trade policy. But this is not likely to occur because it would mean that corporate America, the true ruling entity of the U.S., would receive smaller profits. Keep in mind that corporate America is set to record high profits for 2011. Moreover, profit margins are not far off of the 13.9% record set prior to the crisis in 2007, currently at around 13.4%, versus around an average of about 8.5% over the past three decades.
Simple Solutions Neglected by Washington
Over a longer period, the U.S. faces numerous sovereign risks due to rapidly increasing payments for Medicare, Medicaid and Social Security. As well, state and local governments will face major problems if they have not restructured their pensions.
As discussed last month, if Washington did not spend what will likely be at least $4 trillion for the wars in Iraq and Afghanistan, and $3 trillion net (and counting) for the Bush-era tax cuts for the wealthy (extended by Obama), the U.S. would be able to address the issues with its entitlement system with much more ease. In addition, Washington would have much more financial power to address the current depression.
In response to worries of another financial crisis centered this time in the EU, investors have flocked into U.S. Treasury securities. This has pushed yields down to record-lows, as investors remain concerned over the deepening problems in Europe. Meanwhile, commodities have been under severe pressure, as investors anticipate a severe slowdown in the global economy will lead to reduced demand. Oil, silver, gold and copper have been hit particularly hard over the past few weeks.
IMF and Wall Street Blow it, AGAIN
Once again, the IMF cut U.S. GDP growth forecasts to 1.5% and 1.8% for 2011 and 2012, respectively. In June, the IMF forecast 2.5% and 2.7% GDP growth in 2011 and 2012, respectively. This latest revision comes closer to the organization’s 2% benchmark for a global recession.
In contrast, the consensus of Wall Street analysts and private economists have cut their GDP growth estimates to 1.5% and 2.2% for 2011 and 2012, respectively.
In August, Morgan Stanley cut its global forecast for GDP growth down to 3.9% (from 4.2%) and 3.8% (from 4.5%) for 2011 and 2012, respectively.
On September 29, Citigroup slashed its global GDP growth forecast to 3% and 2.9% for 2011 and 2012, respectively. This was the bank’s second downward revision in less than a month.
As if it meant anything, Citigroup downgraded its outlook for the United States, Europe, Japan, Canada and the UK. Once again, this is a prime example of delayed response by Wall Street analysts. The firm also slashed its view slightly on China's 2012 growth rate, to 8.7% from 9%. This revision by no means adjusts for the risks seen to the global economy, much less internal risks growing from within China. I would have expected a credible analyst to have cut China’s growth to 7.5% by now.
Goldman Sachs lowered its global GDP growth estimates to 3.8% and 3.5%, for 2012 and 2012 respectively, versus its previous 3.9% and 4.2% estimates. They also reduced GDP growth estimates for the U.S. to 1.7% and 1.4% in 2011 and 2012, respectively.
Emerging Market Risk
Unlike the previous period whereby emerging markets shined while the advanced world lingered through a long and severe recession, we continue to see more signs of problems in select emerging markets. These mounting risks could swell to create a devastating collapse, given the right formula and sequence of events.
Over the past several months we have warned of overheating pressures in nations like Brazil. Asia has also moved into the high-risk category due to the massive foreign inflows from advanced economy banks and institutional investors.
Any sudden global shock could cause mass exodus of funds from emerging nations, sending them into a severe collapse. Many emerging markets have been experiencing rapid loan growth over the past few years. However, consumer defaults have soared in Brazil, as many consumers have been provided with access to consumer credit for the first time.
On September 29, Brazil's central bank lowered its forecast for economic growth in 2011 to 3.5%, from 4% that it expected in June, versus 7.5% growth it experienced last year.
While Brazil has done a spectacular job of rescuing millions from deep poverty, and elevating a large group of impoverished into the middle class, the nation faces the daunting task of navigating its growth ambitions with inflation containment.
The recent collapse in the real has been a warm welcome to Brazilian exporters, but more downside to the real is needed. Finally, Brazil must guard against the possibility of a sudden withdrawal of foreign capital as a consequence of a global shock.
China’s red hot economy is showing signs of weakening due to recent weak PMI and manufacturing data. The purchasing managers index for September was steady at 49.9, its lowest quarterly average since early 2009, implying a slight contraction in activity.
The monthly survey also reported higher prices for materials and other manufacturing inputs rising at the fastest pace in four months.
China has attempted to halt inflation all while keeping growth strong by raising interest rates several times over the past several months. However, inflation is now hit a 3-year high at over 6%.
As well, valid concerns regarding China’s real estate bubble continue to mount. We discussed this on a live call a few months ago.
More recently, some investors are very worried about China’s informal lending sector or shadow banking system, estimated at a size of over $625 billion, with an 50% annual growth rate. It has been estimated that more than half of these loans have been issued to small and medium-sized real estate developers, who are charged annual interest rates of as high as 70%.
In a recently published research report discussing the rapid growth of this segment, Credit Suisse analysts in Hong Kong referred to it as a “time bomb.” The analysts claimed that the shadow banking system is out of control and now poses greater risks to the economy than the debt issues in local governments, due in part to the inability of the Chinese government to properly monitor, control and intervene in this market. Credit Suisse analysts conclude that a sudden shock to the shadow banking system could significantly damage nearly every sector of the Chinese economy.
While we recognize the shadow banking sector in China as a significant problem, we feel the estimated impact of a meltdown in this sector is overblown. However, when combined with the risk of a severe correction in Chinese real estate, the risks of a severe shock to the Chinese economy are very real, and something to remain concerned about.
America’s Only Remaining Solution
The media works with the government, think tanks, academia and other institutions to keep Americans within the confines of enslavement, pointing to their ability to change the course of the nation through voting. However, democracy no longer exists in the U.S.
With much regret, I conclude there is but one real remedy for America. The only way needed changes will come is by force, through a violent revolution by Americans who are fed up with the massive crime, fraud and exploitation, and understand their dire future if they fail to act.
Unfortunately for America, such a revolution is not likely anytime soon due to the pervasive control of most Americans by the media, as well as the fear American have for their government.
When the people fear the government, you have tyranny. When the government no longer serves the best interests of the people, it is time to overthrow them. This is a right granted to all Americans by the Founding Fathers of the United States. The Declaration of Independence establishes the right and duty to defend the rights of the people against acts of government.
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