Exploiting Bernanke

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009).

It is unfortunate the media does not make better use of an accessible resource: itself. Newspapers and financial TV are generally content to report what is being said today with no reference to the past. There seems to be no memory. A recent instance is Federal Reserve Chairman Ben Bernanke's opinion that inflation is not a concern. In a sane world, his opinion would not matter much. We live in a more nonsensical atmosphere in which abstractions substitute for reality.

The Fed chairman's inflation prediction is thought to reflect whether the Federal Reserve's Open Market Committee (FOMC) will raise the fed funds rate from zero. It is not, then, Bernanke's opinion about inflation that stirs imaginations (very limited imaginations, to be sure), but the train-of-thought that the global yield curve is a consequence of his purported wisdom. If the Fed Chairman's public view changes, the residence of several trillion dollars will also change: carry trades, institutional asset mixes, and potential reallocations from stocks into money markets are examples of financial securities that are shipped from asset class to asset class according to the Fed chairman's price-change gazetteer.

The real world today is repeating a pattern of a couple of years back. Prices are rising everywhere. This was also true when Bernanke became chairman of the Fed, in February 2006. Shortages, bottlenecks, black markets and prices were increasing when Bernanke became chairman. They continued to do so into late 2008. These conditions then retreated but are charging upward again.

To cut to the finale, a search through the files shows that Ben Bernanke was neither concerned nor understood the 2006 to 2008 inflation. It is certain, reading the evidence, that once again he will ignore (or remain malignantly ignorant, as the case may be) inflation until long after rice riots outside California supermarkets are a feature on the evening news.

To those unaccustomed to Fed-foolery, there is a motive for the chairman to day-dream through an inflationary swindle. The Federal Reserve wants to print money at will. An admitted problem with inflation would make it difficult to keep pumping money into the market.

Two conclusions can be drawn with near-certainty: the FOMC will not raise its zero-percent fed funds rate as long as Ben Bernanke remains Federal Reserve chairman. (A trivial 0.25% or 0.50% increase is possible.) Prices of things, particularly of commodities, will keep rising. This is an area to make money.

The Prosecutor's Brief

In 2006, Bernanke had the excuse of being new to the job, without his predecessor's experience at judging how every comment would be interpreted and analyzed. In the end, his inexperience with the media was not a disadvantage. (Discussed in the past tense, all of this is just as true today.) He talked in circles, made little sense, but criticism of the Federal Reserve Chairman's remarks was confined to vocabulary. He could have bellowed his discontinuities of thought, of logic, of basic economics through the public address system before a full house at Yankee Stadium and the financial media would have remained deferential. An instance was his inflation commentary. An abbreviated sequence of Bernankeism follows.

Chairman Bernanke discussed inflation before the Joint Economic Committee on April 27, 2006. He sent written responses to the committee following his testimony. In this take-home exam, the new Fed chairman pronounced "inflation is overstated" and expectations are "well contained." His contentions were controversial, not for the obvious reason that crude oil prices had risen 50% since the beginning of 2005. Such comparisons between what is real and what Bernanke recites do not interest the media. Again, his economics are illogical. This was the real story, but was not discussed.

Instead, the press and financial TV grew aggressively neurotic when the Federal Reserve issued a statement, on May 10, that inflationary expectations are "contained." The media was consumed with the distinction from "well contained" in Bernanke's April 27, 2006, statement.

On June 5, Bernanke, speaking at the IMF, admitted inflation, not inflationary expectations, was a problem. Again this distinction in vocabulary was front page news. Barely discussed were announcements in the same week that mergers and acquisitions for the year had already passed the record level of 2000 ($1.4 trillion), private equity in Europe was "loading companies with a record amount of debt," and home mortgage debt in the U.S. was increasing at a 12.2% pace (when the national income was rising at a 3% rate).

On June 15, 2006, Bernanke spoke about expectations (not inflation, as he had on June 5). He believed expectations remained within historic ranges, which seemed to be consistent with his May 10 statement, but he was chastised for "giving mixed signals," maybe because he discussed expectations rather than inflation, though this was not clear, and who cared other than the panting, breaking-news media and the trading desks that might unwind billion-dollar arbitrage positions in reaction to the media's portrayal of the Fed chairman's word choice?

On November 28, 2006, he told the National Italian American Foundation that inflation expectations were "contained." He repeated this assessment on many other occasions. The chairman may have thought his personal contentment would sooth the masses. Whatever the case, Simple Ben applied the formula to any topic that popped into his head. On March 28th, 2007: "At this juncture . . . the impact on the broader economy and financial markets of the problems in the subprime markets seems likely to be contained."

In his November 2006, address to the National Italian American Foundation, Bernanke talked in clichés that had lost all meaning. He would "continue to monitor the incoming data closely." The FOMC is "prepared to take action to address inflation if developments warrant." The chairman, at best, made glancing references to what he was monitoring, when the FOMC would take action, and what form the action might take.

Seven months later, in July 2007, Bernanke finally gave a speech devoted to the Federal Reserve's measurement of inflation: "First, how should the central bank best monitor the public's inflation expectations?" Bernanke's description of the Fed's methods could not be refuted, since there was nothing to refute: "The Board staff employs a variety of formal models, both structural and purely statistical, in its forecasting efforts. However, the forecasts of inflation (and of other key macroeconomic variables) that are provided to the Federal Open Market Committee are developed through an eclectic process that combines model-based projections, anecdotal and other 'extra-model' information, and professional judgment. In short, for all the advances that have been made in modeling and statistical analysis, practical forecasting continues to involve art as well as science." This means nothing. Dan Quayle was ransacked for misspelling "potato," yet the media adored Bernanke for sounding like an idiot savant.

He went on to ask critical questions (e.g.: "Do we need new measures of expectations or new surveys?"). There were no answers. Bernanke described some of the inputs to the Fed's models, but then crushed hopes of those who were trying to understand how the Fed measures expectations: "[T]he model specifications employed differ considerably in their details, including how lagged inflation enters the equation, how resource utilization is measured, and whether a survey-based measure of inflation expectations is included. In principle, formal econometric tests could determine how much weight should be put on the forecast of each model, but in practice the data do not permit sharp inferences...." In the end, he confirmed what Fed skeptics already believed - the Federal Reserve is a Works Project Administration for failed statisticians: "Because of these considerations, as I have already noted, the staff's inflation forecasts inevitably reflect a substantial degree of expert judgment and the use of information not captured by the models."

Others disagreed. In April 2007, Harry Landis, 107 years old, a World War I veteran, was interviewed by the St. Petersburg (Florida) Times: Landis had "lived through the invention of airplanes, televisions, interstate highways and cell phones. But the biggest change? 'Money has decreased in value,' he said. 'There is so much more of it.'"

Not according to Simple Ben. On July 10, 2007, Bernanke addressed current inflation, then dismissed it: "The steep run-up in oil prices in recent years has not triggered either high inflation or recession, in large part because consumers and businesses expect price increases to remain tame." Three days before Bernanke spoke, Lehman Brothers (R.I.P.) released its food ingredients cost index for the first 6 months of 2007. It had risen 14.9%.

The value of stuff was rising against dollars and against paper assets in general. Detachment of prices from previous levels leads to poverty, desperation, and crime.

California suffered a copper crime wave. Irrigation systems were stripped from farms; their replacement had cost $2 billion in 2006, a 400% increase from 2005. Value investors "pulled plaques off cemetery plots, raided air-conditioning systems in schools, yanked catalytic converters from cars." The copper in a penny was worth more than one cent; the Treasury Department decided melting pennies for the copper was a crime with a sentence of up to five years in jail. In Britain, Monopoly, the board game, cut costs by replacing paper money with a calculator. In the United States, those who lacked formal education knew best: Twenty-two percent with a high school education or less named the economy as the country's worst problem, compared to eight percent with college degrees. Through history, inflation first attacked the lower classes and not stopped until it consumed the upper classes. This time looks no different.

Currencies everywhere were devaluing against tangible assets and necessities. Corn prices doubled between April 2006 and January 2008. The principal cause was energy: ethanol, fertilizer, water, transportation. The best topsoil in North America had eroded from 18 to 10 inches over the past 50 years. The erosion would have been much greater without fertilizers. More fertilizer, which might slow topsoil erosion, needed more energy. Potash Corporation from Canada expected the cost of producing potash fertilizer would rise by nearly 70% in 2007 due to increased demand for food and fuel. Cambridge Energy Research Associates estimated the worldwide cost to produce oil and natural gas (labor and equipment) had risen 53% since 2004. In some cases the rising costs had led producers to scrap exploration. Exxon estimated the cost of building a gas-to-liquids plant in Qatar at $3 billion in 2004. Estimates in 2007 were $18 billion. The joint project of Exxon and Qatar was dropped.

The United States has imported more than it has exported for decades. Central banks, such as China's, collect dollars from its domestic exporters (from whom Americans had bought goods). The Chinese exporters are handed yuan in exchange for dollars by the central bank. This causes a rising supply of yuan in the local economy. Incomes rise. Necessities improved (more chicken and less rice was eaten) and the Chinese bought machines long considered part of the furniture to Westerners - air conditioners, refrigerators and televisions. China needed more energy.

These permutations of inflation, as they reentered the United States, were understood by Harry Landis and non-college graduates, even if Fed staffers with their "expert judgment" could not comprehend the damage.

On November 7, 2007, Bernanke demonstrated that he had no understanding of inflation. In testimony, Congressman Ron Paul accused Bernanke of a loose money policy that was devaluing the dollar and causing consumer prices to rise. According to the Fed chairman, this was not the case: "If somebody has their wealth in dollars, and they're going to buy consumer goods in dollars, for the typical American, then the deval-, the decline in the dollar, the only effect it has on their buying power is it makes foreign goods more expensive." This extraordinary demonstration of ineptitude was barely mentioned by the same group that thought the spelling of "potato" was of national importance.

On the same day, the Marxist president of Venezuela, Hugo Chavez, showed he understood economic claptrap better than the U.S. media, establishment economists, and the Wall Street publicists who regularly appear on Bubble TV. Chavez addressed an OPEC gathering: "Don't you see how the dollar has been in free-fall without a parachute? The empire of the dollar has to end." The next day, the Archaeological Survey of India announced it would no longer accept dollars for admission to the Taj Mahal The dollar had fallen 12% against the rupee since the beginning of the year.

Oil moved above $90 a barrel in October 2007: the number of dollars needed to buy a barrel of oil had risen from around $40 to $95 since the beginning of 2005. Prices across the U.S. were rising, including - maybe most importantly - manufacturing costs. The Associated Press reported that over 3.2 million factory jobs had been lost in the U.S. since 2000, many of those jobs going to countries with cheaper costs. Wilbur Ross, long-time veteran in the buyout business, was interviewed by the Financial Times in April 2007. He noted the amount of debt used in private-equity acquisitions was at an all-time high, "a very dangerous phenomenon," with only a few making fortunes at the expense of many: "The danger isn't so much inequality as that we're gradually losing the middle class from the population [which is] one of the big contributors to social stability and the relative political stability of the country."

The commercial banks supplied much of the financing for buyouts. The Federal Reserve chairman could have slowed this to a crawl. The Fed has the authority to reduce reserve ratios of the banks. This was not discussed.

In March 2008, 91% of Americans polled were concerned about inflation. Commodity markets boomed. Rice prices passed their all-time high, which had been set in 1973. Costco and Sam's Clubs in California rationed rice purchases.

On June 9, 2008, Chairman Bernanke stated "[t]he Federal Open Market Committee will strongly resist an erosion of longer-term inflation expectations, as an unanchoring of those expectations would be destabilizing from growth as well as inflation." Two weeks later, theUniversity of Michigan found consumers expected prices to rise 7.7% over the next year. Bernanke, before Congress on July 15, 2008, admitted "inflation expectations have moved higher." He reassured the politicians: "[L]onger-term inflation expectations remain reasonably well anchored."Given his July 2007, explanation of how the Federal Reserve thinks about inflation (see above), it is obvious he was talking through his hat.

Oil peaked at $147 a barrel in July 2008. In August 2008, the chairman told the world's leading economists in Jackson Hole, Wyoming that inflation should moderate later in the year due to "well-anchored inflationary expectations" and the "increased stability of the dollar." (The dollar had been rising for all of six weeks.) When had he discovered the dollar's influence on inflation? The day before his Jackson Hole appearance, the U.S. Department of Agriculture projected 2008 food costs would be the highest in 20 years.

By the summer of 2008, the U.S. was submerging in the financial crisis, of which Chairman Bernanke has shown no more understanding than of inflation. Prices retreated but are rising again.

In August 2010, the U.N. Food and Agricultural Organization announced its (international) food index has risen 16% over the past year and is at the highest since 1990. Global meat prices are at a 30-year high. Lamb prices are at their highest since 1973. Wheat and corn prices are rising at their fastest pace since 1973, a year of severe price and social disruption. In April 1973, Time reported that "[p]rofessional thieves are increasingly hijacking meat trucks." False rumors of a rice shortage led frantic Californians to drag 50-pound bags of rice from supermarkets to their cars.

Official U.S. government consumer price index (CPI) numbers have not been mentioned until now. They are important to investors since the monthly calculations, offered to the public as a single number by the media, are taken at face value by the learned financial scholars who are interviewed on TV. The calculations though are a negation of the truth.

It would have been difficult to find the CPI number that was announced when Bernanke was making his comments. The Bureau of Labor Statistics (BLS), which calculates the numbers, states on its website that the press releases (on its website archive) are not the same as the releases that were sent on the corresponding date (for instance, in June, 2006). The BLS has replaced the earlier numbers with newer, revised figures.

Since they have not yet been revised, we can compare a recent distortion between BLS numbers and a more candid approximation at reality. On August 13, 2010, the BLS announced the "index for all items less food and energy rose 0.1 percent in July" 2010. Dropping down the page, the agency claimed food prices fell -0.1% in July. J.P. Morgan analysts conduct supermarket surveys, comparing 33 current to past prices. They recently found that, in the Virginia area, food prices at Wal-Mart have risen 5.9% over the past year.

In July 2010, Chairman Bernanke appeared before the Congressional Committee on Banking, Housing and Urban Development. He stated: "Inflation has remained low. The price index for personal consumption expenditures appears to have risen at an annual rate of less than 1 percent in the first half of the year." He went on to make a statement that collected several hackneyed phrases of the sort that official bureaucrats use to disguise what they are thinking, assuming they do think: "At some point, however, the Committee will need to begin to remove monetary policy accommodation to prevent the buildup of inflationary pressures." He finished: "Near-term inflation now looks likely to be a little lower."

In July 2010, police in Homestead, Florida, "said thieves are striking at farms, stealing produce to sell on the black market." Three weeks later, in West Philadelphia, a four-year-old boy was "swallowed" by the sewer system after a manhole cover had been stolen. The Associated Press reported: "In 2008, the department began installing locks on some of the 76,000 manhole covers in the city but still officials are looking at options. 'We're also looking into alternative materials to where [sic] they won't be attractive for the scrap yards' ". (The four-year old lived.) In San Francisco, federal detention centers are "slowly filling up with a new type of criminal... a rising tide of copper thieves raiding abandoned government facilities for their heavy gauge electrical wire."

The Court's Conclusion

To conclude: dismiss Bernanke and discussions about the Federal Reserve. Commodity prices are rising and time is better spent reading the Northern Miner and watching the Prairie Farm Report than Bubble TV. This is not a prediction that commodity prices can be extrapolated in a predictable upward path, but that investors will be able to make money by exploiting the vast ditch between the Federal Reserve's false world and reality.

Making Money from Municipal Waste

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009).

Harrisburg, Pennsylvania, is defaulting; Half Moon Bay, California, is disincorporating; and the City of Miami, Florida, declared a "state of fiscal urgency," then broke contracts with workers. Yet, Pennsylvania, California, and Florida municipal bond funds managed by Blackrock are trading at or near 52-week highs.

Short sales look timely. Still, there are advantages to a buy side study. First, when the time comes, the opportunities will be broader. Second, the decision to buy will be more a case of negation than attraction. Ruling out unsavory bonds when selecting what to buy will often replicate the process of choosing what to short.

Looking through the wreckage of the 1930s and of the 1970s, there was probably more money lost by premature investments than made by those who waited. This was on the short and long side. New York City is a case in point. Its bust in the 1970s was expected. The stock market had tumbled, a commercial real estate binge of unparalleled excess had desecrated the skyline (new commercial space constructed between 1968 and 1970 exceeded 100% of the city's commercial building between the World Wars), and - this is as predictable as night following day - from 1968 to 1970, 18 of the largest U.S. corporations left the city and 14 more announced their departure. These included American Can, PepsiCo, General Foods, U.S Tobacco and Shell Oil. Over 1.1 million New Yorkers emigrated from the city in the early and mid-1970s.

In other words, it was so obvious that New York City could not pay its bills that it was too obvious. Anecdotally, there were more investors who shorted New York City too early than those who waited and made money.

By the mid-1970s all New York City bonds were trading for approximately $25 ($100 being par). This was 1933 again, when all City of Miami bonds (yields ranged from 4-3/4% to 5-1/2%, maturities from 1935 to 1955) were quoted at $26. In both cases, the market sulked; yet, in both cases, there were bargains for those who were willing to read legal documents. One such case will be discussed below.

All finance is a reenactment. In his seminal study, Municipal Bonds: A Century of Experience (1936), A. M. Hillhouse wrote: "The major portion of over-bonding by municipalities arises out of real estate booms." As precedent, Hillhouse quoted H. C. Adams, who wrote in 1890 (Public Debts): "[T]he bonding of a town, and the expenditure of the money procured in showy works, is the occasion of gain to those who speculate in real estate...." Hillhouse, having quoted Adams' observations of a previous property-boom, municipal-bond bust, should have known better than to write: "There will be no justification for a city [in the future to use] the excuse... that its tax revenues have dried up in times of falling property values." So, if you miss this one, your children will have the same opportunity.

As for the current wasteland, revenue bonds are a choicer flock to choose from than general obligation bonds. The following distinction between the two is extracted from my seminal study (The Coming Collapse of the Municipal Bond Market ): "Revenue bonds are repaid using the revenue generated by the specific project the bonds are issued to fund (fees from a public parking garage, for example)." General obligation bonds are thought to be safer, at least they are advertised as such, because "they are backed by the full faith and credit of the issuing municipality. This means that the municipality commits its full resources to paying bondholders, including general taxation and the ability to raise more funds through credit. The ability to back up bond payments with tax funds is what makes general obligation bonds distinct from revenue bonds."

However, it is not possible to draw blood from a stone and we will soon see municipalities that can not meet their bond commitments unless they discover an oil field larger than BP's folly. Half Moon Bay, California, may already meet this ignoble state. From recent reports, the budget and books are so unintelligible that the city is disincorporating and may become an appendage to San Mateo County. Half Moon Bay's bonds and yawning deficit will presumably be the burden of San Mateo County.

As a side note, the depth of incompetence on display in this instance would not be tolerated in a grammar school Citizenship Day. Given the state of the country, there will be even more amazing feats of fiscal suicide. Another participant is Standard & Poor's, which stamped a AA- rating on $18 million of Half Moon Bay debt issued in 2009. Bondholders note: do not expect logic to guide negotiated workouts.

As for the bondholder, there are several difficulties here. Disincorporation has few if any legal precedents in California. ("It's an option that hasn't been tried in the state since 1972, when the tiny city of Cabazon (about 2,000 people) disincorporated." - San Mateo County Times, August 27, 2010) The Cabazon precedent is not one to take on faith. Half Moon Bay and San Mateo County may have competing interests. A judge may have different ideas yet about how Half Moon Bay should resolve an $18 million lawsuit that the city lost related to development rights on a 24-acre property.

Just where do present circumstances leave the debt holder? That is, the owners of Half Moon Bay's $18 million issue of [Legal] Judgment Obligation bonds. And what of the free-for-all that follows? Propzero.com, jumping into the Half Moon Bay debate, suggests that disincorporation "may be the answer for many California cities struggling with too many spending commitments and not enough money. Digging out of budget holes may be harder than simply shutting things down."

As goes Half Moon Bay, so goes the country, or so it seems. If San Mateo County is stuck with the Judgment Obligation bonds, and a large annual deficit, it is a sure bet the county will appeal to the state; Governor Schwarznegger will appeal to President Obama; and the president will appeal - to Congress?

It was easier to bottom fish among CDOs that were trading at $15 (as a group) in 2008 than to wager on these contingencies. Revenue bonds are comparatively easy to understand. In a large-scale, municipal-bond swoon, revenue bonds will sell off. That will be true even if these are water bonds, supported by the revenue that customers pay for services; even if these revenues cannot be touched by the grasping Yoga Instructors' Union. (Half Moon Bay residents are distraught at the loss of municipal yoga instruction - San Mateo County Times.)

We return to New York City to note the lack of perceptiveness in a time of chaos. In April 1975, the city defaulted on a short-term note. It missed an interest payment (maybe more than one, it isn't clear). The coupon was eventually paid, but the "New York City default" was highly publicized.

The Municipal Assistance Corporation (MAC) was formed. In The Bond Book, Annette Thau explained that MAC bonds were not obligations of New York City: "The revenues to pay debt service were backed, not by the taxing power of the city, but by the state of New York, and by a special lien on the city's sales tax and... on a stock transfer tax." These were revenue bonds that initially yielded "10% as compared to 8% for securities with comparable rating and maturity."

Thau went on to tell her readers that the winning team does its homework: "This episode demonstrates why it pays, literally, to be very precise about exactly which revenue streams back debt service. In this instance, MAC bonds were tarred by the woes of the city, even though they were not obligations of the city...."

Revenues used to pay MAC bondholders could not flow to the city until the coupons were already met. This is true of services in different municipalities today. Utilities often fall in this category. Advanced critical reading skills are a prerequisite to distinguish a $25 from a $75 bond.

What of critical services in municipalities without predictable sources of revenue? In July, Indianapolis, Indiana, decided to sell its water and sewer utilities. In August, San Jose, California, discussed privatizing its water utility. There are many other such discussions. The media reported both the Indianapolis and San Jose decisions as sales. From precedent, the transactions may be more complicated than that.

It would be unusual for a local government to relinquish all control. There are many different possible arrangements with investors. At one end, there have been attempts to issue corporate stock in the municipality. This was proposed in Coral Gables, Florida, during the 1930s. It did not work but investment bankers are more inventive today. (Or, maybe not. Assets to be pledged by Coral Gables included "the municipal golf course and club house, the Venetian pool, the Coliseum...." Maybe not the one in Rome, but investment bankers are inventive.)

Probably the most likely arrangements are Public-Private Partnerships. In such partnerships, the investor, a "concessionaire," steps in after bonds stand no chance of repayment. These might be for a vital service such as a water system, airport, or toll road. Concessionaires pay off all or a portion of the debt in exchange for the right to operate the asset for a negotiated return. Internal rates of return generally fall between 13% - 20%. This is a very simplified description.

There are many other investment approaches that haven't been mentioned. Those mentioned are merely outlined. If it is not obvious, it must be emphasized how preliminary this discussion has been before making an investment. The most important advice here, on the short or long side, is to be patient, to understand the documents of the security, the laws and covenants that bind related parties, and to know the history of municipal bond defaults. This will open the investor's imagination to the most improbable scenarios.

An Addendum to the 'Flations - Gold $5,000

Federal Reserve Chairman Ben S. Bernanke delivered a much-anticipated speech on Friday, August 27, 2010. There was no reason to think this talk would be more or less important than his other talks except for the degree of hysteria whipped up by the media in advance. Bernanke was addressing an audience of fellow central bankers and their camp followers at an annual gathering in Jackson Hole, Wyoming. There have been memorable comments at these late summer getaways, such as, in 2005, when past-Federal Reserve Board Vice Chairman Alan Blinder claimed then-current-Federal Reserve Chairman Alan Greenspan might be the "greatest central banker who ever lived."

But Ben Bernanke said nothing new. The post-mortem analysis of the world’s most influential central banker can be reduced to four of his claims from Jackson Hole:

1 - “The issue at this stage is not whether we have the tools to help support economic activity and guard against disinflation.” [Because the economy is noodling along – #4, below.]

2 - “A… policy option, which has been proposed by a number of economists, would have the Committee increase its medium-term inflation goals above levels consistent with price stability.”

3 - “However, such a strategy is inappropriate for the United States in current circumstances.”

4 - “I expect the economy to continue to expand in the second half of this year, albeit at a relatively modest pace. Despite the weaker data seen recently, the preconditions for a pickup in growth in 2011 appear to remain in place.”

In summary, Bernanke’s strategy of inflating is “inappropriate,” given Bernanke’s stated outlook.

Bernanke’s stated outlook is wrong. On August 17, 2010, the Federal Reserve Bank of New York reported $986 billion of “severely delinquent” consumer debt, defined as 90 days overdue. On August 18, the Wall Street Journal published a survey by CareerBuilder.com. Of 4,500 white-collar workers who were asked, 9% had taken a second job in the past year and an additional 19% intended to do so in 2010. This is probably due to constrained income and shrinking access to credit (see The 'Flations).

At some point, Bernanke’s outlook will be untenable. The Fed chairman is habitually slow to understand changing circumstances, but Dow 5,000 could do the trick.

It looks as though the U.S. Postal Service is prepared. It has listed instructions on its website to convert Priority Mail International insurance from U.S. dollars to SDRs (Special Drawing Rights). SDRs were conceived in 1969 as a possible substitute when the U.S. dollar was chasing U.S. prestige down a rat hole. It originated under the auspices of the IMF (International Monetary Fund) which defines it as “a basket of currencies, today [August 30, 2010] consisting of the euro, Japanese yen, pound sterling, and U.S. dollar.” (The value of the SDR translated into dollars is calculated by the IMF daily “except on IMF holidays and when the IMF is closed for business.” A currency that that takes a lunch break is doomed to fail.)

The U.S. dollar is still the currency that dominates international transactions, although the percentage of trade in other forms of payment has been rising for the past several years. China, Russia, and other countries have attempted to shift settlement into other currencies, including the SDR. This is understandable given how the overpopulation of U.S. dollars around the globe leaves foreign central banks with redundant dollar reserves and another housing bubble.

From the USPS website:

323 Priority Mail International Insurance

323.62 Accepting Clerk’s Responsibility

The accepting clerk must do the following:

a. Indicate on PS Form 2976-A the amount for which the parcel is insured. Write the amount in U.S. dollars in ink in the “Insured Amount (U.S.) block.”

b. Convert the U.S. dollar amount to the special drawing right (SDR) value and enter it in the SDR value block. For example:

INSURED VALUE
$100.00 (U.S.)
65.76 SDR

c. See Exhibit 323.62 for a table showing the conversion of U.S. dollar values up to $600 to SDR equivalents. To determine SDR equivalents above $600, multiply the insured amount, rounded up to the next full dollar, by the conversion factor of 0.6576.

Note: Use the following rates when converting between U.S. dollars and SDR values:

1 U.S. $ = 0.6576 SDR
1 SDR = $1.52 ($1.5206 U.S.)

The world has operated on the U.S. Dollar Standard since America defaulted on the Post-World War II Gold-Dollar Standard in 1971. Has the U.S. Dollar Standard ended? If it has not, Simple Ben’s intention to inflate the United States to prosperity will do the trick.

If “USPS Updated Postal Revision Through July 15, 2010, Section 323.62” has been discussed in the major media, it must have been in the Society pages. The website Zero Hedge carried the story last week. Whatever its chances of adoption, it certainly deserves more debate than the boring and trivial analysis of a boring and failed economist who has stated his intentions to hyperinflate for the past 30 years. Maybe a mole from the IMF infiltrated the USPS. Accentuating the trivial and ignoring imminent cataclysms is the story of our times.

The 'Flations - Part II

Inflation versus deflation discussions are the rule for columnists, economists and BubbleTV. This false distinction is potentially harmful for investors and shoppers who think they must decide between the two, then act. Inflation and deflation act contemporaneously. The relative movement of what is inflating and what is deflating (e.g., common stocks vs. gas, bonds vs. bread) influences, and possibly changes, the way we live.

An additional problem with each of the discussions, at least as presented in popular formats, is misstatements of the nemesis. The deflation to be concerned with is not prices, but rising levels of unserviceable debt and the attendant consequences - for example, falling income and access to credit. The inflation to watch is Federal Reserve and Treasury Department actions, whether a spree of money printing or rearrangement in how the government distributes money in the economy.

As for timing, the undertow of deflationary tendencies is palpable. The 'Flations addressed the areas most susceptible to this course. Investors should be vigilant of being pulled under water in a deleverging economy, a process that is still in its childhood. An ever-present possibility is that of frozen credit markets, initiated, for instance, by an institution (a bank, a government) that loses access to funds. The disruption could frighten other markets into panic. A put strategy, either literally or in another form of protection against markets that suddenly break, is advised.

Inflation is also present and is to the primary topic of The'Flations - Part II. It goes largely unrecognized because it is most evident in assets, though food prices may be about to burst forth in the United States. They have been rising fast in other parts of the world. An investor should consider the possibility of asset markets rising to new highs if the dollar drops to new lows. The rise in stock prices (for instance), might not fully compensate for higher prices of food, but then again, they might.

The U.S. government seems universally intent on refloating the economy through a tag team effort of spending (fiscal policy) and Federal Reserve money expansion (monetary policy). These tactics have already failed, but reputations demand more of the same.

The federal government is spending as if there is no tomorrow. Assurances of fiscal forbearance are empty. The commitments grow and all we need is for the stock market to fall 40%, quite possible if not predictable, to witness another unseemly spectacle in Washington. An emergency trillion dollar accretion to insolvency will whip its way through a confused Congress, smothered in patriotic ardor but with anarchic purpose, during an emergency government sales campaign that frightens the electorate into temporary fear. This is predictable because the national politicians have ignored our sources of instability (primarily, their own past policies) so have made no other preparations.

Such fiscal inflation will be complemented by more monetary inflation. Headlines such as "Will the Fed Do More" and "What Ammunition Does the Fed Have Left for the Economy?" are daily fare.

Patience, please.

Simple Ben has every intention to fulfill his destiny. A century of inflation has reached its final stage. All previous Federal Reserve chairmen inflated the supply of money, but all struggled against the urge to do so. Their statements of rectitude may have been authentic or may have been for show, but they expressed a concern and understanding that money in excess of a constructive need is destructive. Federal Reserve Chairman Ben S. Bernanke's mind is not so encumbered. His most famous speech was not "Inflation: Making Sure 'It' Doesn't Happen Here." Such a topic would never occur to the professor, though it is a plausible title for a speech delivered by any of his predecessors.

Starting in 1913 with the founding of the Federal Reserve, the stability and strength of the dollar might be pictured as a seven-layer wedding cake, the thickest buffers of confectionary ingredients at the bottom, then rising, in thinner and less resistant stages as time passed until all we have is a little, hollow, plastic man standing on top, cloaked neither in batter nor frosting, bearded and bald.

Bernanke's most quoted speech was delivered on November 21, 2002. The (then) vice chairman of the Fed delivered a speech to the Washington National Economists Club with the title. "Deflation: Making Sure 'It' Doesn't Happen Here."

To be clear, when Bernanke spoke (and speaks) about deflation, he fears falling prices. As discussed in The 'Flations, falling prices may be good or bad. The inflation to fear, and which neither the Federal Reserve chairman nor his money-printing policy address, is the debt deflation of a deleveraging economy.

The paragraph most cited from this speech has been quoted so often that only a fragment seems necessary: "Like gold, U.S. dollars have value only to the extent that they are strictly limited in supply. But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost." [My italics.]

It is the acknowledgement of "its electronic equivalent" that ensures Bernanke's moment of destiny. He is not constrained - as Germany was in 1923 - by the speed of the printing press. Simple Ben was already prepping for this moment in a 1999 paper, "Monetary Policy and Price Stability." He suggested the Fed could go beyond its mandate of purchasing short-term government debt in open-market operations. Long-term Treasury bonds, common stocks, and corporate bonds were his suggestion. In other words, the governmentcould print money and the Fed could buy anything.

The effort to hire Federal Reserve governors who complement the chairman, and are so willing to exceed the institution's mandate, is a reason to expect vast money printing (or its electronic equivalent) in the months ahead. Bernanke recently stacked the deck by choosing Janet Yellen as his new vice chairwoman. The Senate Banking Committee has approved her selection. The full Senate needs to vote its approval, which looks certain.

As the current president of the San Francisco Federal Reserve Bank, Yellen showed she has what it takes to serve. She is as confused about how the world works as is the chairman: "Even with my moderate growth forecast, the economy will be operating well below its potential for several years," she said on Feb. 22, 2010. "If it were possible to take interest rates into negative territory I would be voting for that."

A negative rate would boost price inflation above the cost of borrowing and on savings. This could be the death of money-market funds and salvation of the stock market, though - and this is all-important, the most important sentence in this diatribe - a 10,000% return on stocks might buy 90% less food.

Such Mad Hatter theories are already well-established within the Federal Reserve and among panderers to such. Greg Mankiw, economic adviser to George W. Bush, professor at Harvard, and ingratiating supplicant who can never stoop too low in his attempt to grab the seat Yellen shall soon occupy (See AuContrarian blog "The Best and Brightest Protect Greenspan and Betray the American People"), proposed to his New York Times readers that the Federal Reserve set a target interest rate of negative 3%. For all his faults, Mankiw is at least worldly enough to understand the banking business is likely to falter, if, for every $100 lent, the borrower pays back $97.

Unlike the present suicidal strategy of the Federal Reserve governors, Mankiw's (even more suicidal) theory proposed a solution to a practical problem: "We [need to] figure out a way to make holding money less attractive. Imagine that the Fed were to announce that, a year from today, it would pick a digit from zero to 9 out of a hat. All currency with a serial number ending in that digit would no longer be legal tender. Suddenly, the expected return to holding currency would become negative 10 percent. That move would free the Fed to cut interest rates below zero. People would be delighted to lend money at negative 3 percent, since losing 3 percent is better than losing 10."

Delighted, indeed.

Mankiw may sound deranged, but most of the actions taken by the Federal Reserve over the past two years were inconceivable ahead of time, other than to those who were already preparing for this opportunity. In May 2003, the Dallas Federal Reserve Bank published a research paper in which the authors proposed a tax on savings, akin to Mankiw's thesis, which doesn't even deserve credit for originality. His function was to contaminate the public arena with a notion already articulated in the bowels of the Fed.

To make sure Americans keep spending, according to the Dallas branch, the currency would be stamped periodically, and savers would pay a tax "in order to retain its status of legal tender." The staffers seemed to favor 1% a month, or, 12% a year.

As an alternative approach to achieve Dow One Million, a senior policy staffer at the Fed told the Financial Times in 2002 of how he would turn the dollar into Monopoly money. The Fed "could theoretically buy anything to pump money into the system" including "state and local debt, real estate and gold mines - any asset." So, don't bet the ranch shorting municipal bonds.

A corollary, in this age of electronic money, is for the Fed to wire dollar deposits to Americans' banking accounts; let's say, $100,000 to each. As ridiculous as this sounds, it is worth recalling that Federal Reserve (and Obama administration) policy is the playground for academics, those who have ravaged the economy and left the United States in such an impoverished state. They are fortunate the American people do not understand - yet - their policies are the most compelling source of our woes, and are willing to follow their conclusions to a hyperinflationary end to prove themselves right.

A lingering question is whether the Fed would dare take such steps. Congress has not stopped the Fed from irregular and illegal activities (e.g.: "the Federal Reserve and the Treasury decided to ignore existing law and provide a bailout to the benefit of Bear Stearns' bondholders at public expense." - John Hussman, Hussman Funds' Weekly Commentary, March 31, 2008). The legislators are too dumbfounded to press charges. This may change of course, at which point the little man on the wedding cake may be shipped in a wooden crate to Waziristan, but the central banking world is still busy spreading propaganda to boost credibility for its hare-brained plans.

(This raises the all-important question of whether the Fed's blueprint could be thwarted by peasants bearing pitchforks. Yes, indeed. But the questions of when and if it reaches a fever pitch is difficult to assess. It is better to prepare for the worst and then recalibrate later if the Fed's inflationary impulses are suppressed.)

The Riksbank is both the central bank of Sweden and supervisor of the annual Nobel Prize in economics. In fact, there is no Nobel Prize in economics. It is officially the "Sveriges Riksbank Prize in Economic Sciences in Memory of Alfred Nobel." It was funded by the Riksbank and is awarded annually to some economist who fulfills the current mandates of central banking interests.

In 2009, the Riksbank instituted a negative interest rate for banks (presumably, for those that hold deposits at the central bank.) The Financial Times reported: "[T]he most vocal advocate of the policy is deputy governor Lars Svensson, a world-renowned expert on monetary policy theory and a close associate of Ben Bernanke, chairman of the US Federal Reserve, since they worked together at Princeton University."

Svensson was quoted in the article: "There is nothing strange about negative interest rates." These guys will say anything. Then, they hand out Noble Prizes (sic) to each other knowing the award and those awarded are treated with reverence.

In summary, a deleveraging shock is an ever-present worry, and investors should protect themselves. It is the fear, undoubtedly whispered in Fed governor ears by Wall Street bankers who stand to prosper from ignorance, that the Dow could fall to 1000 and house prices dive another 70%, which helps to explain why the crosscurrents of speeches by Federal Reserve governors sound like transcripts from talent shows at a lunatic asylum. The best protection is to hold real assets, such as gold, silver, a farm, and other commodities, as well as paper assets that are the most likely destination of flows from money-market funds. Common stocks, across a wide spectrum of countries and currencies, are a place to look.

The 'Flations

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009).

The incessant debate of whether the economy is inflating or deflating suffers from a vocabulary problem. This is as it must be since some (Federal Reserve Chairman Ben S. Bernanke) discuss deflation as falling prices of stuff while others concentrate on the debt deflation of an overleveraged economy. The latter is what matters.

This debate often fails to address the important question of "what does it matter to me?" What matters most is the changing relationship of prices. For a worker who pays $3 instead of $2 for eggs, "inflation" is his greatest worry. If, at the same time, the worker receives a 20% pay cut, there may be many causes, and it is at least symptomatic of "deflation."

The "inflation" and "deflation" debates (at least, in the major media) are of limited interest when they take an either/or approach. In fact - back to "what does it matter to me?" - both conditions are present and moving towards a chaotic conclusion. This should be expected when the Main Street economy is appended to a financial economy, which by its nature (and high-frequency trading) is more unstable than a production economy. Since money-printing is still ascendant, more violent changes in price relationships are certain.

The Bernanke, Geithner, and Summers economy (that is, the economy of the United States) is following the historical script to hyperinflation, total war or social disintegration. In War and Peace, Tolstoy describes the prelude, those halcyon days in Old Moscow: "in those brightly colored rooms - with the music, flowers, dances, the Emperor, and tables set for eighty ... The mirrors on the landing reflected ladies in white, pale-blue and pink dresses, with diamonds and pearls ... In the first hall were the nobility and gentry in their uniforms ... In the noblemen's hall was an incessant movement and buzz of voices."

The atmosphere was about to change, as some knew but many chose to ignore: "On the arrival of the news of Austerlitz, Moscow had been bewildered. At that time the Russians were so used to victories that on receiving the news of defeat some would simply not believe it, while others sought some extraordinary explanation of so strange an event." Chairman Bernanke chose (circa 2004) to believe such odd-ball theories as "the great moderation" and "the global savings glut," both extraordinarily inept descriptions of a world about to turn over.

Today, still ignorant of the debt deflation that plagues the deleveraging economy, Bernanke gabs before senators of a fanciful world, akin to a shell-shocked survivor raving before the Muscovite cognoscenti of the great Russian victory at Austerlitz. The beautiful people find this reconstruction most pleasing, so choose to trust it. (This is also a simplified version of how the most (not best) educated Americans - who dominate government, the media, think tanks, Wall Street, universities and wherever else they bray - came to ignore Alan Greenspan's grave deficiencies and to deify him.)

The best families in Moscow held the most possessions and prestige, so they, as is true of their current-day American counterparts, were the least likely to acknowledge Russian weaknesses. Respected Muscovites of title and pedigree were trusted by many of lower rank, and understandably so. Since princes and counts had the most to lose if Napoleon invaded Moscow, and, the aristocrats were privy to insider information from the very top, surely it was wise to follow their bettors' example.

Alas, those who were surest of their own invincibility were the least prepared for Napoleon's invasion. Tolstoy wrote of simultaneous inflations and deflations, vast redistributions of wealth, sometimes accumulated over generations, lost in a matter of hours: "Prices that day indicated the state of affairs. The price of weapons, of gold, of carts and horses kept rising, but the value of paper money and city articles kept falling ... Peasant horses [ed. note: a humble breed] were fetching five hundred rubles each [ed. note: a life savings] and furniture, mirrors and bronzes were being given away for nothing."

Not to be neglected are the recriminations. Said the Countess Rostov: "Listen to me Count, you have managed affairs so that we are getting nothing for the house.... You said yourself that we have a hundred thousand rubles worth of things in the house.... Look at the Lopukhins opposite, they cleared out everything two days ago. That's what other people do. It's only we who are such fools." Live and learn, Countess. That's what happens when you marry the decaying order.

Currently, inflation is present in the money supply, price of gold, and the U.S. stock and bond markets. These are old themes here, so will be held in abeyance to discuss an acute deflationary threat. That is income. It is falling and prices are rising.

David Rosenberg, economist at Gluskin, Sheff, an investment advisory firm in Canada, calculates that "private incomes" (non-government jobs and transfers) in the United States have fallen from $8.7 trillion in the third quarter of 2008 to $8.2 trillion in April 2010. Americans lived beyond their incomes for years. The main source of overconsumption was consumer credit which fell at an annualized rate of 3.75% in the second quarter of 2010. This demonstrates ingenuity on the consumers' part given that "the big six issuers have trimmed total credit available to their customers by 25 percent, partly by shrinking credit lines and not renewing expired cards," according to an analyst at Credit Suisse.

Again, there were other sources of spending for the consumer, such as home equity withdrawal (HEW). In 2005, homeowners cashed out over $800 billion of HEW. In the second quarter of 2010, this fell to $8 billion. It was hardly worth filling out the forms.

The government has plugged some holes such as its army of make-work census takers. (It cost the government $15 to count each head in 2000 and $25 per scalp in 2010. This is the Information Age?) President Obama intends to extend make-work to the far abroad, or, at least he did on June 30, 2010, when he told an audience in Racine, Wisconsin: "When you look at a place like Afghanistan, or you look at a place like Iraq, so many of our military personnel are having to engage in work that really should be civilian. So what I'm trying to say is, don't put all the burden on the military. Make sure that we've got a civilian expeditionary force that when we go out into some village somewhere.... let's make sure that we are giving them the support that they need in order for us to be successful on our mission." [Italics added.] Who said government workers have no imagination?

Over 40 million Americans used food stamps in May 2010, more than one-eighth of the population. According to Bill King (The King Report), U.S. government anti-poverty spending has risen 89% since 2000 - from $342 billion to $647 billion. This includes such programs as Medicaid grants, food assistance, housing vouchers, and child nutrition programs. Unemployment benefits have been extended several times in the past two years, to 99 weeks at present. The Labor Department estimates that 1.4 million workers have been unemployed for at least that amount of time. Nearly 46% of the country's 14.6 million unemployed have been without a job for more than six months. Despite the fevered attempts to put money into hands of Americans, there were more house foreclosures in the second quarter of 2010 - 269,962 - than ever before. That was a 38% rise from the second quarter of 2009.

This has the feeling of a dyke about to burst. The government's finger is forestalling the flood with Federal Reserve mortgage security purchases and government agencies that now issue over 90% of home mortgages. This does not put beer on the table which is a reason to think the housing market is going to topple again.

It is rare for beer sales to decline, yet, as described in the May 28, 2010, issue of Grant's Interest Rate Observer: "In the 10 years to 2007, American beer shipments rose by an average of 1% a year. They rose by even less than 1% in 2008 and fell by 2% - a virtual collapse in beer terms - in 2009." (There has been a drift to wine and spirits, but an attempt to find comparable sales data was unavailing.) In another land with stagnant incomes, or, at least where the sun seems to be perpetually setting - Japan - "Spending by Japanese businessmen on beer and sake is at an eight-year low as tighter household budgets squeeze their entertainment expenses. Salarymen go out drinking on average 2.9 times a month, spending about 4,190 yen ($46) each time, a 19% decline from a year earlier." (Bloomberg, June 10, 2010). Cigarette sales are also falling in the United States, and, in Europe, cell phone usage dropped 4% in the first half of 2009. These trends indicate that "necessities" may be defined down as well as up.

Reduced circumstances will grow more acute as prices continue to rise. The U.S. government contends prices are not rising. Count Rostov could do a better job. Almost anyone who pays health insurance premiums (health costs are 16% of the economy but only 4% of the consumer price index); tuitions (Harvard's are increasing 4% this year); utilities ("The Los Angeles Department of Water and Power is planning to boost the electricity bills of its customers by 37% over the next four years as part of its effort to cover steadily rising costs." - L.A. Times, March 26, 2010); and cable bills ("Your cable bill is going up this year -- and next year, and the year after that -- with no end in sight." CNN - January 9, 2010); and who buy food and gas are falling behind in relation to the nation's income.

A food study might be most illuminating, but the reader will be spared such a discourse. It is worth remembering though, that food and energy are not priced in the United States. Brazil, which is booming, sends this reminder from a member of our happy Global Village: "Brazil is running out of beer cans and farmers are leaving crops in the field as surging demand and Chinese-like growth leads to shortages in Latin America's biggest economy. Cia de Bebidas das Americas, the region's largest brewer, had to import beer cans for the first time in its 125-year history after local supplies were exhausted. Acucar Guarani SA, the country's third-biggest sugar producer by market value, left 10% of its crop sitting in the fields an extra 40 days because of a shortage of tires for its harvesters, even after the commodity hit a 29-year high in February." (Bloomberg, June 8, 2010)

On August 3, 2010, Chairman Ben Bernanke told an audience in Charleston, South Carolina: "[R]ising demand from households and businesses should help sustain growth," and consumer spending "seems likely to pick up in coming quarters from its recent modest pace." Well, consumers will be spending more on sugar, beer cans, and cell phones (if they still use them) and Simple Ben's money printing will ensure a chaotic, and impoverished, finish. The Countess Rostov should mop the floor with him.

How to Look for a Job

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009).

Unemployment is stuck in a rut. One reason is the tendency to look backwards. Trillions of dollars have been spent (with no end in sight) to bail out financial institutions, homebuilders, and failing industries. The federal government is spending $787 billion on a rejuvenation plan: ARRA - the American Recovery and Reinvestment Act of 2009. In the bill, $500 million is sequestered to metamorphose former credit-default swap salesmen into nurses and public health workers. Assuming the government wastes half of that money filling a new bureaucracy to administer the training, that still will be a lot of new nurses.

We always need nurses, but the question arises whether there are enough hospitals, doctors, machinery and bedpans to employ the trainees. There are plenty of unemployed nurses now. For those who pursue this path, they may be entering at a market top. This would not be the first time. Remember the CEO's who left their firms in 1999 and 2000 to start Internet companies? In that case, technology and telecom companies had risen from 5.6% of the S&P 500 in December 1993 to 38.8% in June 2000.

Today, health costs in the United States are about 16% of the national income (GDP), over twice the percentage in Japan, Finland and Norway, all of which have longer life expectancies than in the U.S. The proportion of the American economy devoted to health care will no doubt rise before it recedes, but recede it will.

Instead of joining the battalion of nurses, it could be more profitable to study a field that is bound to grow: energy. The cost of energy is about 5% of world GDP. This will rise considerably. Andy Lees, who heads a macro sales team at UBS in London, estimates the proportion will rise to around 16% of world GDP. Lees wrote a book in which he explains his calculations, The Weakest Link (which can be downloaded at http://r20.rs6.net/tn.jsp?et=1103599201225&s=0&e=00168p5eKisNm2ePOsUMC8Gep0gl0I6QRDjsfgyYtG7u_FlWYNWX4ymzaba4HEOKBG2XPkWnO9VM0NuQkPJKsqXY8PDjLQhOjdZv4yyg39MBnsLr0ETBrKZvFEm8gfzB9_n2u2oyz1Xf78aZal3kGj58TdoT8KkU77k).

For purposes of career guidance, it is sufficient to say that oil-out-of-the-ground is less of a burden on the world economy than other forms of energy. Onshore oil production peaked in 1978. Offshore oil has carried the torch, but its extraction is less efficient. Efficiencies attenuate from "factor inputs" (Andy Lees' term). The factor inputs are land, labor, capital, and resources.

Oil consumption is the product of inputs. Since more inputs are required to produce a barrel of offshore oil, fewer inputs are available for health care. Natural gas, liquefied natural gas, wind power, solar power, ethanol, nuclear fusion may substitute for oil - at a cost. This also presents opportunities.

Back to the nursing program, the graduates are only employable if energy is available. The more expensive or unwieldy the energy, the fewer number of nurses will find jobs. This relationship can be extended across the world economy. Energy might be considered a cost of the world's work. The combination of factor inputs compose that cost. The race will be on to produce energy with the lowest consumption of inputs.

Not much thought is given to these factors, possibly because we do not rely on alternative energies yet, so myth-making and waste is still possible. A look at substitute energies might help the job seeker evaluate future employment.

Solar power loses about 70% of its energy during storage. Around 70% to 80% of energy is lost in the process of upgrading corn into ethanol. Wind power suffers from loss of energy in storage, in transmission, and from the declining grade of copper from mines. (Copper is used in wind-power transformers and ground rings.) Copper ore grades have declined for many years so costs have risen. Costs include more exploration (requiring more land, labor and capital), water (Chile recently banned miners from using fresh water, forcing the companies to build desalinization plants and possibly importing water from Argentina), and longer shipping routes (as remote areas are explored and mined). Longer shipping routes consume more energy (fuel), steel (ships), iron ore (to produce steel), land (mining sites) and labor (to fulfill these requirements).

This case study barely touches the costs and opportunities ahead. The reader might consider where pressures will be greatest, and where employing one's own land, labor, capital, and resources will be most profitable.

While exploring these paths, it is important to consider timeliness. The United States is a laggard. Following are stories read on the same day (July 14, 2010). China is building an oil refinery in Lagos, Nigeria. In Argentina, China is building a rail network (for cheaper transportation of farm crops) and a subway system. Brazil is building a high-speed rail network between Rio and Sao Paulo. Diamond Offshore Drilling is moving a second deepwater rig out of the Gulf of Mexico to the Congo. Americans seem to think Washington will set the course, a vain hope. Time would be more profitably spent buying a farm or an airplane ticket.

Corporate CEOs Won't Invest in America, Why Should You?

Frederick Sheehan is the author of Panderer to Power: The Untold Story of How Alan Greenspan Enriched Wall Street and Left a Legacy of Recession (McGraw-Hill, 2009).


There is no end of economists, analysts, and reporters filling the air with investment recommendations. Is the stock market oversold? Should we invest for inflation or deflation? And so on.

That is talk. American CEOs are voting with their feet. Since they aren't investing in the United States, does it make sense for the individual stockholder or bondholder to do so?

One armchair columnist told his readers to ignore corporate whiners. Those overpaid stuffed shirts will always gripe, goes his argument. The columnist may have a point, but also an inconsistency. The columnist, who is also an economist, has skewered CEOs in the past for cashing out their stock options as quickly as possible. There is much truth to that. But, it is not in a CEO's interest to publicly denounce the Obama administration, which still has over two years to hand out and withhold favors. It is the favoritism that the CEOs are denouncing, either directly or by implication.

Corporate managers lived through the last episode of blatant favoritism, during the final months of the Bush administration. In the fall of 2008, when credit was scarce, the Treasury Department and Federal Reserve decided which companies would receive loans and government guarantees. Those that fell under the umbrella paid around 5% interest on their debt. Those not so blessed paid 15%, or went broke.

From an option-grabbing, foot-out-the-door view, the outspoken CEOs are acting against their personal interests. That may be one reason so few CEOs have condemned current administration policy. The outspoken bosses manage companies with long histories. Most are at least a century old. They may have a better historical sense of their position: politicians and bureaucrats come today and are gone tomorrow. To survive for such a long period, these companies need to change and to change often.

From an investor's view, the United States as described by the CEOs, deserves a long-term "sell" recommendation. These companies are moving capital and jobs to Asia, which is a comparative "buy." For Americans frustrated by the hopeless domestic job market, Asia receives a "look."

Most forthright is David Farr, President, Chairman and CEO of Emerson Electric Corporation, a 120-year-old manufacturer with over $21 billion in annual sales. Emerson's headquarters is in Chicago, Illinois, but maybe not for long:

"Why would any CEO invest one penny in the US? There is not one reason based on the new rules of the game."

- David Farr, CEO, Emerson Electric, quarterly conference call, May 2009

Even the corporations that threw themselves into the government's arms are now having second thoughts. In 2008, government appendages extended lines of credit to General Electric, another 120-year-old company. (It employs 304,000 people, with over $150 billion in annual sales.) This was an unenviable position but one that General Electric's CEO Jeffrey Immelt adopted without hesitation.

David Farr would probably commit hari-kari before entering such an arrangement. Following is from a speech Farr delivered at the November 2009 Baird Industrial Conference held in Chicago (noted by Andrew Upward, the industrious author of the twice-daily Fidelity Capital Markets' letters): "My job is not to shrink and roll over for the U.S. government. That is not my job. That is not what I get paid to do....I don't want government handouts. I can do without them."

The federal government guaranteed General Electric bonds, a precaution that GE bondholders might have insisted upon in the best of times, since General Electric's solvency required it to consistently roll over $100 billion (billion with a 'b') in the commercial paper market. Beggars can't be choosers, as Jeffrey Immelt made clear in GE's 2008 annual report: "The interaction between government and business will change forever.... [T]he government will be... an industry policy champion; a financier; and a key partner."

As an aside, the chairman of General Electric could have made this statement anytime since World War II, perhaps even from World War I, when General Electric president Gerard Swope helped to organize American industry to send armaments Over There. For those interested, stop by a library and flip through Fortune magazines from the 1950s. Reading isn't necessary; look at the ads. The government and large businesses were Siamese twins. The armchair economist's contention that CEOs always gripe is the opposite of the truth. CEOS may play golf with the president but rarely censure their commander-in-chief.

On July 1, 2010, the Financial Times reported a heartening display of retro-capitalism on Immelt's part. Quoting from the FT, Immelt "had harsh words for Barack Obama, US president, lamenting what he called a 'terrible' national mood and expressing concern that over-regulation in response to the global financial crisis would damp a 'tepid' US economic recovery. Business did not like the US president, and the president did not like business, he said."

There was no hesitancy on the part of Edward S. Lampert, CEO of Sears Holdings Corporation, a combination of the Sears, Roebuck Company (117 years old) and Kmart (born 113 years ago as the first S.S. Kresge five-and-ten-cent-store). Sears Holdings employs 322,000 people and produced $47 billion in 2009 sales. In Sears' latest annual report, Lampert lectured the parasites who are making out well from the financial crisis. Lampert is best known for running one of the largest hedge funds (ESL Investments, which houses Sears Holdings), so blasting regulators, government officials and investment firms was not in his personal interest. The armchair columnist is not a fan of billionaire hedge fund managers, but it is Lampert who stands up for the huddled masses while the government-Wall street-media echo chamber does its best to strip them clean.

A portion of Lampert's diatribe in Sears Holdings 2009 annual report:

"Business leaders, regulators, public officials, and journalists have become an echo chamber of self-support and self-congratulation, whether on TV, in print or at numerous conferences. Their words and their actions are often self-serving (whether right or wrong), and they are typically regarded and reported on as if they were obvious and selfless. They get repeated as if there were no alternative views or possibility of error in their thinking. Dominant narratives develop and get defended primarily by repetition and secondarily by attacks on those who disagree with those narratives. When these favored people and views become endorsed in laws and regulations, some may benefit, but many get harmed.

"There are several examples of issues that have been smothered by dominant narratives. Accepting these narratives without critical evaluation can be a contributing factor to some of the negative unexpected consequences they produce. Did the seizure of Fannie Mae and Freddie Mac (the largest nationalization in our country and likely in history) calm or ignite fear in the financial markets and did those urging or supporting the seizure profit from it? Has raising minimum wage rates helped or harmed the individuals that those advocating such policy intended to help? Is there any link between a higher minimum wage and high unemployment? Has the consolidation in financial services helped or hurt depositors and borrowers? Why were some institutions saved and others seized, merged or left to fail? How does regulatory and policy uncertainty impact investment and risk-taking in society?"

"I fear that Americans have been provided a false choice between a little more and a lot more regulation and taxes. We keep hearing more ideas to create jobs and generate growth that almost exclusively require more government spending. Jobs can come from government, but those jobs get paid for by taking money from the private sector, reducing the private sector's ability to provide jobs. On the other hand, there are many who believe that less regulation, less government interference, less arbitrary regulation when it does exist, and lower government spending will generate more growth and more jobs. I agree with those views."

Lampert, or at least Sears, is more-or-less stuck in the United States. That is not true of other companies. Andy Grove, co-founder and past chairman of Intel Corporation, was interviewed by Bloomberg news on July 1, 2010, an interview which is worth reading in full. ["How to Make an American Job Before it's Too Late"] Grove explains, using past examples from other manufacturing industries, that when production leaves, the engineers, researchers and capital investment follow. Grove also discussed the social consequence of abandoning manufacturing:

"Today, manufacturing employment in the U.S. computer industry is about 166,000 - lower than it was when the first personal computer... was assembled in 1975.... You could say, as many do, that shipping jobs overseas is no big deal because high-value work - and much of the profits - remain in the U.S. But what kind of society are we going to have if it consists of highly paid people doing high-value-added work, and masses of unemployed?"

Paul Otellino, the current CEO of Intel (with annual sales of $35 billion), warned of jobs going overseas in a recent speech: "A new [world scale] semiconductor factory built from scratch costs about $4.5 billion - in the United States. If I build that factory in almost any other country in the world, where they have significant incentive programs, I could save $1 billion [From tax breaks]."

Ivan Seidenberg, CEO of Verizon (which can trace its origins to Alexander Graham Bell, employs 217,000 people, and posted $107 billion in sales during 2009), spoke before the Economic Club of Washington in his capacity as president of the Business Roundtable on June 22, 2010. Seidenberg listed the reasons investors should take a break from the U.S. stock market. From the Wall Street Journal's summary:

"The Obama administration has created 'an increasingly hostile environment for investment and job creation.' The U.S. corporate tax structure is a 'major impediment to international competitiveness.' The government should 'stop trying to micromanage industries.'"

Seidenberg was seconded by Dan DiMicro, CEO of Nucor Corporation (20,000 employees, with $11 billion in annual sales, and a history that stretches back to Ransom E. Olds' REO Motor Car Company, founded in 1905).

"I completely agree with what Ivan was saying about how the government needs to be removing itself from the private sector. For a long time they worked through diplomacy, negotiation, and compromise. But the crisis we're in today is of such magnitude that we have to have action in support of the private sector in a bold and out-front manner."

Armchair economists and opinion-makers toy with their self-serving theories, basking in the glow of tenure and popularity and reminding the public how brilliant they are. Most have never held a real job in their lives. They know next to nothing about how people think outside their atrophied circle, yet, set society's course from opinions bouncing through the echo chamber of self-support and self-congratulation.

David Farr has a business to run. He described the reason he is moving Emerson Electric to Asia at the Baird Industrial Conference last November:

"What do I think Washington is doing right now? Washington is doing everything in their manpower capability to destroy U.S. manufacturers. Cap and trade, medical reform, labor rules, whatever they want to do, raise taxes. They're just going to destroy jobs.... What do you think I'm going to do? I'm not going to hire anyone in the United States. I'm moving. So they're doing everything possible to destroy jobs....we employ 125,000 people worldwide. So I do know what the (expletive) I'm talking about."