Too Dumb for Words and Numbers

Peter Souleles

It is not the size of the national and international problems but the size of the governing brains that preclude any meaningful solution to the ongoing dangers and mess faced by the United States. The brains trust is content to meet these challenges by simply issuing promises in the form of dollars. As long as the other child prodigies of this world are content to save and recycle these dollar promises back to the USA by buying Treasuries, the joint illusion continues. The USA thinks it is paying its way and the rest of the world thinks it is being paid. All promises in the end however are called upon and that is when it will become apparent that the promises were not worth the paper they were printed on.

The illusion and the denial however, can continue for quite a while because as Keynes once said, "the market can stay irrational longer than you can stay solvent." It is this irrationality that allowed the build up of unbacked and unserviceable debt that now threatens the world financial structure. Unbacked and unserviceable once again means the same thing - you will get very little, if anything, in the end.

Despite this, central banks and governments of this world seem to be juggling the growing number of problems with such ease that they are now proclaiming the arrival of a new dawn over the horizon. I would hazard a guess and say that 12.01am may be morning but in practical terms it is still very dark and will continue to be dark for quite some time. If nothing else, the worsening demographic is amplified by estimates that public pension funds could be faced with a shortfall of $2 trillion. If there is therefore any light at the end of the tunnel it appears to be the train coming in the other direction. The challenges to pension funds are a red flag issue right around the world.

We must at all times remember that the economy is simply the sum of all households, businesses and governments. Given that the net asset positions of all three continue to suffer, who are they kidding about improvement? The fact that the world has not yet sunk, is not proof that it can swim. Fiat money, on the other hand, is in danger of surviving only for purposes of exchange. Its store of value function has been severely eroded as cash balances are subjected to ludicrously low levels of interest as well as being drawn down upon to supplement living expenses or pay off debt.

Anything left is now chasing commodities in a world that wants to possess foodstuffs and materials that will always be in demand. The nations with large "cash" balances would dearly love to chase commodities but they fear causing a stampede. They instead try with varying degrees of success to buy the underlying asset whether it is a mine, an oil well or large tracts of productive land.

I doubt there is a single nation with a credit rating that is higher now than what it was two years ago and this reflects the pitiful management and financial skills of governments. I have a check list of close to a hundred items that clearly show that the prospects for a lasting economic recovery are far worse than my chances of successfully doing a jig-saw puzzle in the dark. After two years we are still no closer to resolving the destabilising effect of the massive build up of Chinese surpluses and of US manufacturing decline. There is still no use for excess capacity. Also another war, this time with Iran, beckons. Is it any wonder why Iran would like to hold nuclear weapons when it can see how successfully North Korea continues to keep intruders out and how it blackmails the west into giving oil etc every time it complains of an itchy trigger finger?

In addition to the Administration's love affair with the printing press, it also has a fixation with the pursuit of foreign military successes

In 2010 the total military expenditure of the US will exceed $700 billion. This amount would be enough to provide all the holders of the $10,921 trillion of household mortgages (as of the 3rd quarter 2009) with an interest subsidy of 5% and another $150 billion left over perhaps to assist the various states in balancing their budgets etc. This simply gives you an idea of how overwhelming military expenditure is in the USA.

In some respects the current administration's tactics is a page out of the play book of the Johnson administration during the 1960's when it was pursuing a guns and butter program. That legacy is still with us although this time, there are no massive social security surpluses to surreptitiously swallow up in the unified budget.

Once again, the US military must acknowledge that it is not fighting foreign armies but dangerous ideas, and that ideas are hard to defeat with guns. Ideas must be left to die their own death (or undergo a radical metamorphosis) as was the case with Communism in Russia, North Vietnam and China.

Better still the governments of the US and other countries, need to shrink altogether. Admittedly, shrinkage of government raises the short to medium term problem of what to do with millions of soldiers and public servants in a world economy that already suffers from unemployment and excess capacity. This is a painful adjustment that is constantly delayed with great danger for the future.

For part or all of 2010 and maybe even 2011 we may see an uptick in the world owing to the massive transfusions of government provided adrenalin. Repayment for the cost of this adrenalin once again consists of promises to repay in the future.

If you think government can pay the bill plus interest in the future, when it cannot even pay its current bills, then perhaps your brain size is even smaller than those of the foolish bureaucrats that control Washington.

If the world economy does start to move ahead, the rising interest rates will be impossible to stop and once gain the failure to service debt will lead to the underlying weakness in asset values being exposed. Try and figure that one out. As for Chairman Bernanke's washing of the hands in relation to the real estate bubble, don't let him fool you.

Cheap rates must be accompanied by much higher equity requirements to ensure one has skin in the game as well as assisting serviceability and the choice of the most deserving project. High rates on the other hand perform the vetting function almost on their own. During Chairman Greenspan's tenure, there was a total abdication of control both in terms of rates as well as equity.

Heed the warning and do not invest in paper promises. Invest instead a reasonable amount in gold and silver which have stood through and withstood against every onslaught resulting from human folly since history has been recorded. No one has ever refused to accept gold or silver as payment in preference to paper and that alone is proof enough of their pre-eminent position.

Just remember, gold is to hold, silver will deliver and cash is trash.

PETER SOULELES B. Com LLB Sydney Australia 6 January 2010