Unfortunately There are Three Types of Debt

Except for PhD economists and government officials most rational people are beginning to understand our nation’s most urgent economic problem.

By any measurement the United States has borrowed far more than can ever be paid back.

As a percentage of GDP we hold twice as much total debt and off balance sheet liabilities than we have ever held before.

But unfortunately this is not our nation’s biggest dilemma. Our biggest problem is that we are ignoring our nation’s horrendous addiction to debt.

This is because the PhD economists that help our elected officials create policy are not trained in accounting or simple finance. All debt is the same to them whether it is borrowed to add more lanes to a congested stretch of highway or to add more layers to our monumentally bloated government.

Training PhD economists to treat all debt the same is like training a Doctor to think of the stimulants Ritalin and Crystal Meth as equal remedies for a child with Attention Deficit Disorder.

Thanks to our nation’s incompetent economists the economy is presently overstimulated on the Crystal Meth of debt, also known as Dysfunctional Debt.

Dysfunctional Debt is the exact opposite of Productive Debt.

Productive Debt is a financial tool that can create economic growth.

Dysfunctional Debt is almost always a political tool. It is used by government officials to reward their political favorites. It is exactly like Crystal Meth. It reduces the junkie’s drive to produce and it is highly addictive.

To understand the corrosive nature of Dysfunctional Debt one must understand the nature and function of debt.

Productive Debt: Is a business, government or personal financial tool that allows resources to be used in the most efficient way today without affecting the future.

There are very few examples of Productive Debt:

• In business, money can be borrowed to create new product markets and new technology that don’t compete with our current markets.

• In government, bonds can be sold to create new infrastructure that is required for optimal future growth. Like adding lanes to a congested highway.

• In households, money can be borrowed to purchase undervalued real estate.

Productive Debt is a financial tool that creates a permanent improvement in our economy’s growth curve. It does not pull resources from the future.

The fastest GDP growth that our nation has ever experienced was from 1933 to 1953. This remarkable growth was financed by Productive Debt that built a new manufacturing base, constructed needed infrastructure and financed the purchase of undervalued homes.

Non Productive Debt: Is a business, government or personal financial tool that moves money from one entity to another:

• In business, money can be loaned to one businessperson to compete against another businessperson.

• In government, bonds can be sold to repair existing infrastructure.

• In households, money can be borrowed to purchase fairly priced real estate.

Non Productive Debt keeps our nation moving forward at a constant rate. It is a financial tool that works as a buffer to maintain stable economic growth. It is the most common type of debt in a healthy economy.

Dysfunctional Debt: Is a political tool that creates a destructive liability with the help of a false promise and phony accounting. I use the term Destructive to mean the opposite of Productive. This is because the nature of the liability is hidden as the money props up bad business and rewards bad investing. In extreme examples it permanently corrupts free market mechanisms. This is what we are seeing today.

Before this generation there are very few examples in this country of Dysfunctional Debt. Unfortunately today there are too many examples to list. There is layer upon layer of gifts to favored individuals and groups by our government that is hidden by false promises, phony accounting and market manipulation.

Real Estate is a good example of a sector of our economy that is addicted to Dysfunctional Debt. In 1985 homeowners on average had 70 percent equity in their homes. Since then the government has made it a priority to give resources to the real estate sector to help it grow.

Resources were robbed from the future to support unwise decisions in the present.

This has caused home equity to go down almost every year since the government made real estate a favored sector of the economy.

According to the Federal Reserve homeowners on average own just 38% of their homes today. Half of the amount in 1985.

This is sad but it is not the problem. The problem is that the government is adding trillions of taxpayer debt to support the bankrupt banks. Trillions in the future will be borrowed to support the losses that Fannie Mae and Freddie Mac are incurring now.

Adding the trillions in hidden government debt to the $10 trillion in mortgage debt means that taxpayers owe more money than their homes are worth. This makes our housing market insolvent. Like addicts we have taken the crown jewel of our nation's wealth and with the government's help we have sold it off for immediate gratification.

The dysfunctional real estate market is easy to see but there are many other sectors of our economy that have used government debt to rob productive resources from the future.

The economy of the next ten years will be the antithesis of the miracle economy of 1933 through 1953. Destructive Debt has replaced the Productive Debt that fueled the record growth of our grandparent's generation.

The next decade will see the slowest GDP growth in our nation’s history.

Thanks to PhD economists, government officials and the Crystal Meth of Dysfunctional Debt.

How to Determine the Value of a Primary Residence

I sold my home in 2007 and I am still renting today. According to the three mathematical valuations methods that I use it no longer made sense to own a primary residence in 07’. The irony was that everyone else in the country was climbing over themselves to buy a home in the most overpriced housing market in our nation’s history.

I used my three mathematical valuation methods to determine that it was a fantastic time to buy a primary residence in 1996. Back then I stretched to buy a home that was 5 times my household income. Maybe the purchase was a bit imprudent but what the heck, it was a great time to buy. And, even though houses were cheap, The Herd of clueless investors didn’t whan to buy a home in 96’.

We are animals and our Herd Mentality usurps our common sense much of the time.
It is happening today:

• Why does everyone want to purchase gold now at $1,800 an ounce? The time to buy was in 2001 at $275 an ounce. Today investors are climbing over themselves to purchase an overvalued asset that gives no investment return and is difficult and expensive to sell.

• Why would anyone in their right mind buy a 30 year treasury bond now? Yields are at historic lows which means prices are at historic highs as people are rushing to purchase this “perceived” risk free investment.

• Why would anyone have a significant portion of their retirement in the stock market now? We are heading into a global recession and the worst economy in the past 70 years. Most publicly traded companies are not growing; they are cutting costs to increase their profits. But investors don’t care about the quality of the growth or what will happen in the near future, they are only concerned with following The Herd into the current overvalued market.

• Why would anyone pay bubble prices in the housing market? Some young families are still purchasing overpriced homes that will be underwater in 5 years.

People are Herd investors.

This is why it is imperative that you use some sort of time tested valuation method to put a price on the most expensive asset you will ever own.

Perhaps the best method to determine if it makes sense to purchase a home is to:

• Compare the monthly cost of owning vs. the monthly cost of renting.

Without considering inflation, you should be able to own a home for a little less per month than renting a similar home. You will pay less to own because of the lost return on your 20% down payment and the ridiculously large transaction costs when it’s time to move.

The Rent vs. Own comparison method has been used for generations to determine whether it’s better to buy or rent a home. It always works.

The only other variable that effects the equation is inflation.

So now that we are in deflation, which is the opposite of inflation, it makes sense to pay less to purchase a home compared to renting a similar home.

In 7 to 10 years once inflation rears its ugly head, it will then make sense to pay a bit of a premium to own a home.

It makes no sense to pay a premium for a home in a stagnant economy. This is why I am not rushing out to purchase a home in Walnut Creek and Pleasant Hill. It is still a little cheaper to rent.

Then there are the “higher end” areas of Lafayette and Alamo where it is much, much cheaper to rent. Many “high end” areas are still stubbornly stuck in a bubble as young families purchase homes that will almost certainly be underwater in their mortgages in 5 years.

The second valuation method that can help determine the fair value of a primary residence is:

• Comparing Household income to Home Price.

Throughout history families did not speculate on their “primary residence. They wanted to be able to “afford” their home.

It may seem strange now but historically people have felt that it was prudent to pay between 2 to 4 times their household incomes for a primary residence. During good economic periods they would pay up to 4 times their household income and during questionable economic periods they would be more conservative and pay 2 times.

Our grandparents chose to buy homes at 2 times their household income.

Contrast the prudence of our grandparent with our generation.
Five years ago, as a nation, we were desperate to pay 8 times our household income for a place to live even though we could rent for half the price of owning.

In California buyers were climbing over each other to pay 10 times their household income for 4 walls and a roof.

It did not make any mathematical sense then and it still doesn’t today.

Many buyers in Walnut Creek, Pleasant Hill and Lafayette are still paying 6 times their household income for a house.

Considering that we are in deflation and that we are entering the worst economic period in our nation’s history, would it not make more sense for home buyers to be paying 2 times their household income for a home?

This brings us to our last valid method to value real estate. It is driven by looking at historical trends:

• Comparing Current Sale Prices vs. Historical Trends

This method is used by professors Karl Case and Robert Shiller. They created the Case-Shiller index. With the Case-Shiller index Robert Shiller was able to intelligently argue that we were in a massive real estate bubble from 2003 through 2007.

The fact that no one listened to him creates a good argument that it is extremely foolish not to use mathematically driven valuation methods to determine when to buy real estate.

In 2007 I made my own graphs of the national and local real estate markets. I compared aggregate income to house prices. The charts pictured a huge bubble. I tried to show this bubble to a number of people and no one could see it. In nature herd animals focus their attention side to side watching the actions of The Herd instead of straight ahead.

So it made sense that no one in The Herd could look at something directly in front of their face.

I am absolutely certain that the Rent vs. Own; Household Income vs. Home Price and Historical Trend Methods are the only 3 viable ways to determine the utility value of a primary residence.

Unfortunately our government, the financial sector and most economists do not seem to want anything to do with mathematically driven valuation methods.

Their goal is to keep our nation of clueless investors in a herd. For the past 8 years they have been content to stand at the edge of the financial cliff and wave The Herd into purchasing overvalued homes.

Even the Chairman of the Federal Reserve Ben Bernanke, who is a math genius, would never conceive of using a mathematical method to value the housing market. In 2006, just months before the housing market crashed Dr. Bernanke continued to profess there was no problem with real estate values in this country. He gave his blessing for young families to purchase the most overpricing housing in our nation's history.

Dr. Bernanke was gleefully waving a whole nation of real estate investors toward financial abyss as I was desperately fixing my home to unload it.

Today Chairman Bernanke and The Federal Reserve have been instrumental in destroying our free market interest rates in an attempt to trick more buyers back into the herd of homeowners. Even though in many cases these young families would be much more financially secure to rent for a while.

I don’t feel that tricking young people into buying an overpriced primary residence makes for a healthy housing market.

I feel that fairly priced assets and transparent and free markets are the foundation of a healthy economy and a free society.

Unfortunately Dr. Bernanke, our financial sector, most of our government and The Herd of clueless investors feel that overpriced assets driven by unsustainable debt and corrupted markets hidden by economic disinformation will lead to economic prosperity.

I will wait to buy a home until it makes financial sense for me to do so.

The Battle of The Upper End Housing Market

There are three separate battles that must be fought in the war against the Housing Bubble.

The first battle was the bloodiest and has already been fought. The banksters have carpet bombed the lower end of the housing market with foreclosures. The speed and thoroughness of the operation could be compared to the Blitzkrieg by Nazi Germany in World War II. Robo signers replace the Messerschmitts that reighed terror from the sky.

There is no loss of life of course, but lives have been destroyed all the same.

Mercifully the destruction is complete and the battle of home prices is over. The banksters are moving out, and on to greener pastures of exploitation.

Lower end areas like Antioch, Pittsburg and many parts of Oakland are selling below 2000 prices. It is time for the citizens of these markets to come out of their bunkers and rebuild.

The destruction has laid a foundation for growth. For the first time in 8 years young families are buying homes at affordable prices and investors are getting a fair return on their investment. The lower end housing market has wrested itself free of the tyranny of greed caused by the banksters and the bubble.

There is still some fighting in the middle tier of the market. This would be the Walnut Creek and Pleasant Hill areas. In these areas there is reasonable value for the discerning buyer but there is still a small cohort of overpriced resistance fighting back.

The banksters are using a different and more cunning strategy than in the battle of the lower end. They are strategically unloading just enough foreclosures in an attempt to keep prices in the bubble. This market manipulation allows for a slower more painful decline in home prices. It’s more like the punji stick booby traps in Vietnam.

But home buyers are on the offensive. They are purchasing homes at median 2002 value, so this battle is close to an end. Unfortunately for the buyers there are still a few homes that are listed at 2007 prices. These landmines can booby trap an undiscerning young family that is not skilled in reading the new terrain.

It is exactly like an explosion. The 2007 purchase price radiates mispriced value out amongst the surrounding area. A devastating event for the young families involved. Indirectly there is collateral damage to the market. But as time goes by this will happen less and less. The new buyers coming into the fray will learn from the mistakes of their fallen comrades.

Looking at the numbers it appears that Walnut Creek and Pleasant Hill buyers are learning to avoid the landmines. The pending sales numbers are starting to trend at 2001 values. Once these pending sales are closed, it will mean affordable pricing for comparable homes in the future.

As long as there are no new Covert Operations, like the Homebuyer Tax Credit by our government, the neutral zone between buyer and sellers will be drawn at 2001 prices. The white flag will be raised just south of the bubble and the battle will be over. Young families will be able to safely enter into the Walnut Creek and Pleasant Hill markets in 2011.

The final battle rages in the high end markets of Alamo and Lafayette with no hope of ending anytime soon. Overall the market is selling at 2005 prices, solidly in the bubble. Young buyers are totally outmatched in this fight.

There are many homes that are still being sold at 2007 prices. Each sale creates a comparable that enables other sellers to price their home at peak bubble price. These booby traps will continue to snare young families into a home that in all likelihood will be underwater in 5 years as prices slowly trend downward to 2002 values.

To make matters worse for the young buyers is that the banksters have allied with the sellers in this battle. The same banks that carpet bombed the homeowners in the lower end housing market, and used punji sticks to demoralize the middle tier buyers are now stockpiling foreclosures in the high end market. This stockpile of foreclosures could very well become a weapon of mass destruction in the future when they are unloaded onto the unsuspecting young people purchasing homes today.

Another powder keg that could explode is the pent up force of rising interest rates. There are many more interest only loans in the upper end market compared to the middle and lower tiers of the housing market. This trip wire has the potential to blow the whole high end market back to the Stone Age.

But what should be most distressing to young home buyers is that the Black Ops team at the Federal Reserve has helicopters in the air. Even though there is no chance of winning the war, The Fed is fiercely fighting free market interest rates in an effort to stretch out this battle for as long as possible. This Kamikaze mission by The Fed is meant to Shanghai young high end home buyers into joining their futile battle against our nation's free markets.

The high end market is like the fight between brothers on opposing sides during the Civil War. Except in this fight the rich older brother that started the war is borrowing money from China to continue the war and sending the bill to the poor younger brother that had nothing to do with starting the war in the first place.

War is definitely Hell.

For the next 3-5 years this battle will continue between the young and the old in Alamo and Lafayette. I don’t see how the young people that want to move into these markets have a chance. The high end home sellers have the money and the means to hold out for bubble prices. They have also formed an alliance with the banksters and The Fed.

The young buyers that enter this battlefield are set to become the cannon fodder that allows many rich sellers to escape from the bubble with all of their false profits as it imprisons an unsuspecting young family into an overpriced home in a very, very unsound economy.

If you are a young family looking to purchase a home, I would urge you to stay clear of this war zone.

Zero Gravity Flight

Over the past 4 years our government at all levels has borrowed $6 trillion in future productive resources that taxpayers must pay back. Little of this largesse has made it's way back to private sector Middle Class Producers. Much of this money is pooling in the bank accounts of; The Rich, Big Banks, Multinational Corporations, Overseas Investors and Wall Street.

The Federal Reserve is redistributing our savings in the same fashion. Ben Bernanke has the Federal Funds rate locked permanently at 3,000% below the 10 Year Treasury bond Yield. This is in effect confiscating the investment returns of savers. The money is pooling or "stagnating" in the reserve accounts of the Big Banks.

Although the amounts are getting larger and more aggressive, these policy choices that I mentioned above have been consistent for the last 15 years. We continue to rob resources from the future to reward government favorites now.

Taking resources from private sector production and savings and then distributing them randomly to the government’s public sector favorites is not a formula to create sustained growth in an economy. At the very best it will create economic stagnation, which is easy to see in our economy today. For the past 15 years real household incomes have stagnated. We continue to lose private sector jobs, while the total size of the public sector has been growing faster than Mississippi sumac in summertime.

Looking at the situation logically, the policy choices that our government has made over the last 15 years should lead to economic stagnation.

For the past 15 years we have had economic stagnation.

How could any rational person not see the cause and effect.

The problem is that investors don't seem to understand the cause and effect of this situation. It is very important that the market understand the probable outcomes and consequences of our government’s policy choices:

“We have borrowed extreme amounts from the future and locked ourselves into a slow growth economy now. The limited resources available during our slow growth period will probably continue to be directed by the choices of government officials as much as our free markets.”

The previous statement would give full disclosure to our current economic situation. Our future will be a slow growth environment with resources being allocated by the capriciousness of government officials instead of the free market.

But when the facts are distorted, the misinformation becomes a big problem for our investment markets and our economy.

Presently government policy makers continue to tell our financially incompetent populace that more private sector jobs are coming and economic recovery is on the horizon.

Obviously this is an impossible outcome given our government’s current policy choices and our limited economic options.

Therefore this erroneous information from a trusted source creates a large disconnect between reality and expectations. Misinformation is creating huge investment bubbles in our economy. We are now at the apex of our third bubble in 12 years.

Investment prices are floating dangerously higher than the valuations that support them.

Our present bubble is like an airplane achieving its maximum altitude as it flattens out and begins a quick decent. Presently we are at the point in the parabolic arch where gravity no longer exists. This is called Zero Gravity Flight and in an airplane or an investment market this period can only be temporary.

Zero Gravity Flight can be very enjoyable if you understand what is happening. But it can be very dangerous if the captain of the airplane tells his passengers that this weightless condition will continue for the rest of the flight.

So if everyone on the airplane becomes detached from their seats at the apex of the parabolic loop with unrealistic expectations, it becomes a mania. These unrealistic expectations of the future can come crashing down once gravity exerts its force.

Overvaluation in our assets will bring the same result as our economy slows.

Presently just about all asset classes are overvalued. Commodities and bonds are historically overvalued. Investors are only interested in watching their investment returns sail to the moon. They are blind to the consequences.

Investors are desperate to stretch the risk curve, at absolutely the worst time in the economic cycle to stretch the risk curve.

So as Investors are joyously bouncing off the sides of the airplane cabin and as our captain has permanently turned off the “fasten your seatbelt” sign.

There has never been a better time for the prudent investor to sit down and buckle your seat belt tight.

Hummingbird Economics

Biff has been fixated with hummingbirds since he was five years old. He has written many books and articles on the care and feeding of nature’s most important bird.

Unfortunately none have ever been published.

Amazingly, hummingbirds don’t seem to be a priority for most people. So Biff never received the recognition that his brother Ben receives.

Biff used an inheritance to purchase a 1000 acre valley in upstate Vermont. The parcel has always been known as Honeysuckle Valley. He bought the property to be closer to his birds and to distance himself from Princeton and the success of his brother.

Biff like his brother Ben has always been focused on improving his environment, so he started placing honeypots out in the open to lure more hummingbirds to his property.

Over the years Biff began noticing a change in the hummingbirds. They seemed to be growing in size so it was obvious that his honey was helping the birds. The only puzzlement was that the extra bulk seemed to make the hummers less nimble in escaping the advances of their predators, the hawks.

Biff thought about this constantly. He remembered his brother talking about disequilibrium in an economy. Could this be the same?

He called his brother Ben and asked for help. Ben explained his theory about stimulating slow moving economies with more money. So together they surmised that it made sense to stimulate the slow moving hummingbirds with more honey.

Biff started his own version of Economic Stimulus for his hummingbirds. This seemingly small event turned into a watershed moment in economic history.

As Biff provided more and more stimulus for the hummingbirds an amazing equilibrium came about that no one could have predicted.

Like the hummingbirds, the bears have learned to use Biff’s stimulus. The bears now stay by the honeypots constantly waiting for honey. The slow moving hummingbirds have also learned to stay by the honeypots to utilize the benevolent bears as protection from the hawks. Continuous economic stimulus has created a new higher standard of living in Honeysuckle Valley for the hummingbirds and the bears.

Many years ago economic philosophers such as Plato and Jefferson suggested that a government that chooses “winners” and “losers” in a society would always end in corruption.

Then Keynes and Friedman postulated that small amounts of “temporary” stimulus during economic downturns could bring positive overall benefits to an economy provided the government manipulation was reversed after the recession ended.

Biff with the help of his brother Ben provided the research that has allowed government economists to take the final step away from our inefficient free markets and toward the inevitable “managed economy”. The findings in Honeysuckle Valley have proved that constant stimulus by a benevolent third party can increase the standard of living of all participants equally.

(It must be noted that the brothers decided that the hawks did not merit being a variable in their study because the pesky creatures left the valley and moved to New Hampshire midway through their research.)

Economists from all over the world now come to Honeysuckle Valley to study the first documented case which proves that continuous and unlimited economic stimulation can create a higher standard of living for everyone. This new theory is presently being utilized in Japan, Portugal, Ireland, Italy, Greece, Spain and of course here in the United States by Biff’s brother Ben.

Biff is rich and famous and is getting the recognition that he deserves.

There is only one thing that bothers Biff now.

He hates the first question that comes from all new visitors to Honeysuckle Valley:

“What in the heck is that Smell?”

The Recession Wolves

Our economy is at the peak of the third economic bubble in 12 years as we are desperately mortgaging our country's productive resources to reward reckless speculation and to fight the free market.

This new bubble is driven by borrowing and then wastefully spending $6 trillion over the past 4 years to prop up false prices. Compounding this tsunami of waste, the Federal Reserve has destroyed free market interest rates by pushing the Federal Funds Rate more than 3,000% below the 10 year Treasury bond yield.

Our country and the world are ablaze in the intoxicating glow of easy money. Just like in 1999. Just like in 2005.

The government and The Fed have again poured gasoline on our campfire to keep The Wolves of Recession at bay.

Can this continue?

We can temporarily sustain the debt portion of the bubble if we decide to continue our financial child abuse and borrow another $10 trillion dollars that we have no intention of paying back. Surprisingly financial child abuse is not a crime in our society and being drunk, especially on debt, seems an adequate excuse.

But there is no way that nature will allow us to abuse our free markets much longer. Even if Chairman Bernanke wanted to keep the Fed Funds rate 3,000% below the 10 year Treasury bond yield for an extended period, it is not possible. As phony rates turn real, they will become a drag on the economy.

The government’s bond fire that keeps the predators outside will eventually dim. This will allow the Three Wolves into our camp.

The first to enter will be the Wolf of Free Markets. It will mercilessly attach the artificial interest rates and kill them dead.

Then and only then will the second and fiercest preditor be allowed to enter. Its bloodthirsty eyes will spy the surroundings as it looks for the focus of its rage. It will spot the children cowering, lying in the smoke and soot from the government’s smoldering bond fire. With lightning speed it will jump to their side. The Debt Wolf will stand bristling and snarling in between us and the children.

The third Wolf will then be allowed entry. Every ounce of its being will be focused on us. We have attempted to live far above our means by robbing resources from future generations in a vain attempt to manipulate asset values. The Wolf of Fair Prices will allow none of this. As the Debt Wolf and the Free Market Wolf protect the children, the Wolf of Fair Prices will tear our manipulated and bloated asset valuations to shreds.

The Three Wolves will lie next to the children and for the first time in their lives they will get economic warmth, protection and love. Nothing shows more love than blessing children with a sound government, free markets, fair prices and low debt. Our forefathers wished it for us many years ago, before we had our first taste of the drug of easy money.

They will fall to sleep, finally free from our greed and abuse of power. As the children wake to the safety of the economic sunrise the Wolves will be gone. The previous night will be a vague memory that is forgotten with time.

As sure as corrupt and abusive government policy nurtures unsustainable debt, false markets and unfair prices, The Recession Wolves will be there to protect the future generations.

Daddy and Maddie Ride the Bubble Coaster

“This is going to be fun Maddie. First we will ride Cinderella’s Fairy Boat. Then maybe we can work our way up to Fannie Mae’s Teacups.”

“Daddy, those are baby rides. I want to go on the Bubble Coaster.”

“Madison, the Bubble Coaster is only for grownups.”

“No, Daddy you’re wrong. The Bubble Coaster is best for kids or people that think like kids.”

“Well, Maddie we will give it a try. What do we have to lose?”

“Daddy, I want to spend the whole day on the Bubble Coaster.”

“The car is moving now, and we are climbing to the top of the first Bubble. Hang on tight and get ready for the big fall.”

“No, Daddy, the man behind me, Mr. Greenspan just said that the coaster only goes in the air and levels off. He said it was just like Cinderella’s Fairy Boat, only higher. He guaranteed that there would be no big drops.”

“But Maddie, Mr. Greenspan is wrong. Look ahead. Can’t you see that the tracks go way up and then go way down? That’s why it’s called a roller coaster.”

“No Silly Daddy, Mr. Greenspan said it, so we must believe it.”

“Hang on tight Maddie, the coaster is ready to descend.

Whooooooooooooooooooooooooooooooooooooooooooosh


“Wasn’t that fun … hey, what’s wrong Maddie?”

“Daddy, I didn’t expect that to happen! I was so scared. I want out now.”

“Sorry, Maddie, there is no way to stop the ride now.”

“Wait, Daddy, Mr. Greenspan just told me that if we give him enough money he will be able flatten out the dips and make it a smoother ride. It will only cost $1,000.”

“Maddie, don’t you remember that Mr. Greenspan was wrong before, and what on earth is the $1,000 for?”

“It’s nothing for you to worry about Daddy. Mr. Greenspan has a friend that owns a big bank. He said I was highly qualified for a $1,000 loan. Isn’t that great? Now we are safe and we don’t have to worry about the dips anymore.”

“Maddie, quit talking to strangers and hang on! This is real estate; it is the biggest drop on the coaster.

Whoooooooooooooooooooooooooooooooooooooooooooooooooooosh


“Daddy, I didn’t expect that at all. We need to get out of this now.”

“Poor Maddie, the ride will be over after one more dip. Then I will have a talk with the carnival security about Mr. Greenspan.”

“No Daddy it’s not a problem anymore. I talked to the driver of the coaster, Mr. Bernanke and he said he can transport us over to Cinderella’s Fairy Boat to avoid any more drops. All he has to do is call the helicopter.”

“What! Maddie, look around, we are five hundred feet in the air. Cinderella’s Fairy Boat is on the other side of the carnival. Mr. Bernanke cannot magically transport us there. It’s not possible.”

“Mr. Bernanke says he can do it and we have to believe him Daddy. He says the helicopter will only cost $10,000.”

“ I am not sure if Mr. Bernanke is a thief or if this is part of the ride but I am not going to give him $10,000. Now get ready for the next fall, it is the Last Bubble and it’s the sharpest drop on the coaster.”

“Daddy, it’s no problem. Mr. Bernanke’s Chinese friend said he would loan us the $10,000. They say that the helicopter is on the way.”

“Madison, I am not going to borrow $10,000 from Mr. Bernanke’s Chinese friend. It doesn’t make sense. None of this makes any sense. It’s like a freak show.”

“Mr. Bernanke said he would help, Daddy. So we have to let him help.”

“Maddie, shouldn’t Mr. Bernanke be focused on driving the coaster safely instead of filling little children’s heads with thoughts of magic helicopters and large amounts of money?”

“No Daddy, you’re wrong.”

“Maddie, this is absolutely insane!”

“Daddy, you don’t understand. You have to give Mr. Bernanke the money! Please Daddy say it, for me, PLEASE!”

“OK Maddie. I want to borrow the money now.”

“Daddy, look really hard. See the helicopter coming to rescue us.”

“Maddie, I think I see it. We are going to be rescued!”

Whoooooooooooooooooooooooooooooooooooooooooooooooooosh!


“Maddie, I was not expecting that at all. I have never been so scared in all of my life. Get me out of this!”

“Do you understand how to play the game now Daddy?”

“Wow Maddie! I never would have figured that out in a million years.”

“Daddy, that’s because you were acting like a grownup. This is a make believe game for kids or people that think like kids.”

“Do you want to ride again Maddie? I think I might like this game.”

“Daddy, I told you, I want to spend the whole day on the Bubble Coaster.”

You Just Need to Look Out the Window

We as a nation have spent the last 35 years borrowing more money than we can possibly pay back. After three and a half decades of decadence we appear to be coming to the absolute limit on our ability to borrow as a nation.

As we come to this precipice, our nation’s economic elite that sold us this debt are imploring us to continue to borrow at our current unsustainable rate. They say Keynesian Economics will allow us to pay off the extreme debt that we hold now with cheaper money that our friends in China and the Middle East will loan us in the future.

They say that as long as we continue to borrow, Keynesian Theory will just magically and painlessly make our debt problem disappear… poof.

Although this sounds wonderful and magical, it is mathematically impossible. An extremely debt heavy accounting balance sheet “always” slows economic growth.

So I have another name for what our economic elite are trying to call “Keynesian Economics”. It’s called “fraud”. This would be borrowing money knowing full well that you are incapable of paying it back.

The fact is that all economists derive their paychecks from Wall Street or our wasteful government. Who else would hire them?

So if they want to be employed, economists must always recommend more debt, more consumers spending, a larger financial sector and a larger more wasteful government.

It is all about growing the source of their paycheck.

Upton Sinclair stated it best during the roaring twenties when he said “It is difficult to get a man to understand something, when his salary depends on his not understanding it”.

Economists are salespeople. They are hired guns that will create a “flawed” model for anyone that gives them a paycheck.

I know their models are “flawed” because economists as a group are incapable of predicting major turns in our economy. Their track record is zero. They have missed predicting every major event for the past 12 years:

· In 2000 they missed predicting the biggest stock bubble in our nation’s history.
· In 2002 they rallied for “end of the world” monetary and fiscal stimulation to prevent the continuing collapse of the stock bubble that they could not see in 2000.
· In 2005 they could not see the biggest housing bubble in our nation’s history caused by the “end of the world” monetary and fiscal stimulation that they recommended in 2002.
· In 2006 they could not see the biggest credit bubble in our nation’s history caused by the deregulation that they recommended in the 1990’s.
· In 2007 no major economist saw the coming recession even though every economic indicator pointed to a recession.
· In 2008 they rallied again for another round of “end of the world” fiscal and monetary stimulus to continue the housing bubble that they could not see in 2006.
· Now in 2011 no major economist can see our current asset bubbles in commodities and bonds.
· In 2012 they will again suggest “end of the world” monetary and fiscal stimulus to prop up the commodity and bond bubble that they can’t see now.

Economists continue to ignore the destructive bubbles in the economy until they realize that a bubble has popped. Then they demand that our elected officials use “end of the world” monetary and fiscal stimulus to prop up overpriced assets in an attempt to continue the bubble.

Our bubble economy is making fortunes for the sellers of helium of which the economists get their cut. But there is a huge cost to everyone else. No jobs are created as fortunes are being borrowed from our children and given to Wall Street speculators and our monstrously wasteful government.

I suggest that our method for predicting the economy is hopelessly broken and cannot be fixed.

So what does one do when the speed indicator of your car is broken and can’t be fixed?
You look out the window to judge your speed.

And if you look out the window this is what you will see:

1) We are borrowing money from hostile foreign nations … This must stop.
2) We are destroying our free markets … This must stop.
3) We are sending our productive manufacturing jobs overseas… This must stop.
4) We are heavily subsidizing our “destructive” financial sector … This must stop.
5) We are rewarding people for uncontrolled speculation … This must stop.
6) We are punishing our savers … This must stop.
7) We are destroying our currency … This must stop.
8) And worst of all we are borrowing money in our children’s name to continue this madness … This absolutely must stop.

Nothing our economists are suggesting today appears in any economic textbook of the past. They have thrown away 4,000 years of economic thought from the geniuses of history as they prostitute their profession in order for their employers to steal money from our unborn children.

In a perfect world any economist that recommends more debt on top of the $100 trillion that we have already borrowed from our kids would immediately be labeled as a financial child abuser.
They would then be included on a “child predator” list and never be allowed to suggest that theft is the key to economic growth.

This one law would make all current economists unemployable. These villains would then learn firsthand what is like to look for work with no skills in the economy they have almost single handedly created.

But alas, our world is far from perfect.

And our economic theory is hopelessly broken and can’t be fixed.

Change will start when we stop looking at our broken economic theory and take a look at the reality that is happening around us.

We just need to look out the window.

I am in Love with The Great Depression

Perfection, of a kind, was what he was after,
And the poetry he invented was easy to understand;
He knew human folly like the back of his hand,
And was greatly interested in armies and fleets;
When he laughed, respectable senators burst with laughter,
And when he cried the little children died in the streets.

Epitaph of a Tyrant by W. H. Auden
_____________________________________________

I would like to dedicate the following thoughts
to my father and his father on this special day. Thank you both for being part of this country's greatest generation.

I am in Love with The Great Depression

I started gaining my affection for The Great Depression as The Tech Bubble was ending. My stock account was going to astronomical amounts. I bought my dream house. My financial life was fantastic in every way but in the back of my mind I knew something was very wrong. I soothed myself at night with investment books like The Intelligent Investor by Benjamin Graham and books of the Great Depression such as The Great Crash by John Kenneth Galbraith. I didn't read these books for knowledge or insight because I was very clear on the inevitable path of our country. I read them for purification and to calm my worried soul. Thoughts of The Great Depression have become my economic "Waldon's Pond" during this period of government mandated excess and speculation in our nation's financial markets.

As the 1990's were winding down I would compare the 90's to the 1920's. They are very favorably compared. The roaring 20's saw the advent of the radio, the auto and the airplane. The roaring 90's brought about home computers and the Internet. Both period's had massive speculation stoked with easy money by The Federal Reserve.

The 20's of course ended in The Great Depression. I had hope that the 1990's would end in the same way and that our nation would come to it's senses and stop living so far beyond it's means. I realized that our government and The Financial Elite would make the same mistakes as The Great Depression and turn a deep recession into a depression. But I also knew that the people of this country were resourceful and could come out of the ten year depression in 2009 with the same independent, hard working attitude that created my grandparents' generation.

My grandparents' and their contemporaries are considered our nation's greatest generation. I had equally high hopes for my own generation. I wanted to feel the same pride that my grandfather felt as he passed the economic torch to my dad.

But something odd happened after The Tech Bubble. There was just a very, very mild recession. There was practically no real unemployment. A pipeline was created between the government and the moneylenders. A pipeline full of gold that from the outside smelled of filth. No one noticed. No one cared. I can't compare it to anything that has occurred in our country before. One would have to go back to the times of Rome under Nero to find a similar totally self serving act. Our Empire is ablaze and our leaders are responsible!

A recession is a natural event. An economic Winter that follows an overabundant Summer. A cleansing that removes speculation and greed from the system and passes along fairly priced assets and a sound government to the next generation.

Business cycles have been recorded since the beginning of the industrial revolution and probably occurred even in primitive societies. Economies move from overproduction, excess and speculation to underproduction, prudence and saving. This cycle can't be regulated because it is tied to the avarice of being human.

Recessions will occur even in a tightly controlled society, as we are seeing today. The only difference is that in a free society everyone is aware of what is happening and can react accordingly. In the tightly controlled society The Financial Elite are able to mask the business cycle. This allows the Financial Elite more power and with this power the ability to choose the winners and losers in our economy.

Our Financial Elite have pilloried The Great Depression and made it a priority to protect us from recessions at all costs. The costs that we are presently incurring are massive debt to future generations and the destruction of sound government. This is the antithesis of the business cycle. It is not sustainable in the long run.

The reason that I love The Great Depression is that in spite of massive government intervention the people of this nation were able to survive and then prosper. The Great Depression forged a generation of fiercely independent, highly productive, family and community oriented households. This was the most productive body of citizens any nation has ever known. This was the Middle Class. My grandparents' generation.

The antithesis of my grandfather's generation is my generation. We robbed trillions of dollars of our children's inheritance to prop up stock values after the Tech Bubble which sent our housing market into a bubble. We are presently borrowing tens of trillions of dollars from foreign nations to prop up inflated housing prices that occurred during the housing bubble. We have created the biggest government in our country's history with borrowed money.

So we have spent the savings of our grandparents' generation and borrowed more. We have used this money to inflate asset values and create bigger government. We are passing the debt, the inflated asset values and the government boondoggle to our children. My generation will go down in history as this nation's most selfish generation. It is a very helpless feeling being carried by this ravel of avarice.

I don't blame our people, I blame the tyrants, The Financial Elite. They are far to cunning for our pampered populous. My lament is that we are appeased by bread and circuses as our country is being looted and then burdened with stifling debt.

I am very sure that my grandfather's generation would never have allowed this to happen. A generation that formed massive strikes against unfair employment, rallied against unjust government and to a man gladly sacrificed their lives to keep this country free.

My hope looks to the future as my mind dwells in the past. I await the glory that my children and grandchildren will feel as they slay this dragon of debt. Like my grandparents did before me. I bide time in between two great generations. "They also serve who only stand and wait".

A recession is a natural event. An economic Winter that follows an overabundant Summer. A cleansing that removes speculation and greed from the system and passes along fairly priced assets and a sound government to the next generation.

I am in Love with The Great Depression

The Difference Between Real Mortgage Rates and Our Current Phony Rates Could Wipe Out Your 20% Down Payment

Speculators in the housing market have been the beneficiary of a once in 100 year event.

Over the last 25 years interest rates have collapsed from 18% to 4.5%. This has allowed home buyers to borrow 200% more than they could in 1985.

This is how the numbers work:

In 1985 a $1,800 mortgage payment would purchase a $150,000 home at a mortgage rate of 18% and 20% down.

Today a $1,800 mortgage payment will purchase a $450,000 home at a mortgage rate of 4.5% and 20% down.

The collapse in rates has directly caused a tripling of home values over the last 25 years.

It’s simple math.

This math works in reverse also:

Today a $1,800 mortgage payment would purchase a $465,000 home at a rate of 4.15% and a 20% down.

Tomorrow a $1,800 mortgage payment would purchase a $381,300 at a rate of 6% and a 20% down.

This $83,700 loss is due to mortgage rates changing from 4.15% to 6%.

What is the possibility that rates will go from 4.15% to 6%?

I would like to suggest that "real" mortgage rates are 6% now.

Over the last 2 years the government has used Fannie Mae and Freddie Mac to take over the mortgage market. 95% of the loans are government guaranteed. Also the Federal Reserve has committed to at least 2 trillion dollars of asset purchases to manipulate interest rates.

I think it is safe to say that today we don’t have real interest rates. They are being manipulated by the government.

What would they be if the government was not spending trillions of taxpayer dollars to manipulate the market?

One could argue that without the trillions of dollars of government intervention mortgage rates could be at 6%. This is far below the average over the last 25 years.

A change from a manipulated 4.15% mortgage rate to a “real” 6% mortgage rate would mean the immediate loss of 18% in purchasing power or $83,700 on a $465,000 home.

Add the 2% purchase costs to this 18% interest rate loss and you have basically wiped out your 20% down payment.

If you are purchasing a home now in a phony interest rate environment and plan to sell in 5 years at a real interest rate you have already lost your down payment.

There is one last variable to consider. It takes over 6 years of mortgage payments on a 30 year mortgage to gain enough principle to prepay the closing costs when you sell your home.

So if you buy today and sell in 5 years not only could you lose your down payment but you will also need to bring a $5,400 check to pay the balance on the $26,600 in closing costs to sell your home in 5 years for $381,300.


That’s the math, not including our nation's current deflation problem and the fact that housing is a depreciating asset.

The Destruction of our Last Free Market

I work as an accountant. I am not supposed to be innovative. Accountants are trained to follow the rules. Andrew Fastow of Enron or Mark Schwarz of Tyco tried to be innovative. They now reside in jail.

The opposite of accounting is economics. Economists must be innovative. Their job depends on inventing new theories. These new rules give their employers or their clients an advantage in the marketplace.

Over the past 15 years our nation’s top economists have been very innovative in coming up with new theories for our government and Wall Street to improve our nation’s markets. It is not surprising that most of these suggestions have enriched the pockets that employ these economists. It is also not surprising that these forays of crony capitalism have destroyed every free market that the government has attempted to control.

I only bring all this up because of the latest nonsensical plan that is being presented to save our country.

John Burns is one of our nation’s leading housing economists. He sees a new profit center for his clients. So he has come up with a new theory.

Mr. Burn’s scheme involves the government hiring private sector companies to create a huge real estate investment trust. This Wall Street trust will take all of the underwater homes from the banks, Fannie Mae and Freddy Mac and rent them out.

He says that renting out these homes will prevent our nation's house prices from falling any further.

This is economic theory at its finest. There will be huge profits for Wall Street and the banks. There will be monstrous subsidies to be paid by the taxpayer. There will be limitless unintended consequences in the future. But best of all there are fat commissions for the innovative economist that can explain how this nonsensical plan can benefit the country.

So let me recap.

Presently investors that are entering our real estate rental market are not receiving subsidies, implied bailouts or tax breaks. They are not benefiting from the easy money from the Federal Reserve. So rental real estate is the only market that is not subsidized by the taxpayer.

Investors that are entering the rental real estate market are the only investors in this country that are receiving a fair return on their money. Today investors are getting a positive cash flow on their investment. This is in line with the historical return on investment. They are receiving a fair return because the government is not distorting the market.

This is possibly the only market that the government is not distorting.

Investors that are entering the rental real estate market are not using large amounts of debt. Most are purchasing with at least 30% down and some are purchasing with all cash. So these investors will not be a risk to be bailed out by the government.

Looking at the facts one could argue that the rental real estate market is the only free investment market in our country today.

John Burn’s intends to destroy our last free market, for a profit. He is a very smart man has a good chance of achieving his goal.

It is funny how economists preach the religion of free markets as they devise ever more self-serving ways to corrupt the system.

Warning Label on Economic Advice

I believe many people are confused by the role of economists in our society. They are very similar to the fortune teller at the circus. These charlatans sell their measurement of the future to the unsuspecting public. They are unconcerned with how their guess affects the outcome of their victim but laser focused on getting their paycheck from the owner of the circus.

Our government is the circus.

Our nation under the direction of our political economists has spent the last 25 years using debt to increase our nations total standard of living above the sustainable trendline. Soon our total debt to GDP will be triple what it was in 1985.

Most of this debt has been used to increase the size of the unproductive financial sector and the government. These areas are the major employers of economists. This public sector growth has occurred while our job producing private sector has stagnated. The private sector hires very few economists.

Our nation’s unsustainable growth trend of borrowing is a big worry for anyone with an ounce of common sense. But is of little concern for political economists. Their focus is on growing the source of their paycheck. Upton Sinclair said it correctly 80 years ago about our crony capitalistic system: “it is impossible to get a man to understand something when his job depends on him not understanding it”.

Our unsustainable borrowing is so unimportant to political economists that they have created very flawed models so that taxpayer debt can be overstated. These models have eliminated “total debt” as a variable. The models only include the “debt payment”. This flaw allows an unlimited amount of money to be borrowed if interest rates can be manipulated down to zero. To make matters worse the models don’t use any form of amortization, so in economic theory our nation’s debt never needs to be paid back. Borrowing $1 trillion or $20 trillion is the same to an economist because neither amount will ever be repaid.

As an accountant I feel that it is important for the taxpayer to understand the understated accounting and the conflict of interest inherent in the field of economics. There should be a disclosure notice similar to the warning on a pack of cigarettes attached to anything that is published by an economist.

Warning label to taxpayers:

Economists can only be relied upon to predict small insignificant changes in the economy. On average they have a moderate degree of success in predicting year over year economic growth of 3.5%. But as a group they have never, ever correctly predicted a major shift in our economy. Therefore the predictions of an economist of the future should never be relied upon in business. In a free market society the successful business owner is the only entity that has the ability to predict the future.

Economists are not accountants. They are not regulated by any authority and are never held accountable for anything that they say. If a private sector accountant overstates the numbers they will go to jail. If a political economist overstates the numbers they are hired by Wall Street, the goverment or by a universtiy to train other economists. So if you require accurate numbers always seek the advice of an accountant.

Taxpayers should understand that as more tax dollars flow into government, then the government will give large amounts of this money to Wall Street. Wall Street in turn uses this largess to train more economists which they send back to the government. Be aware that every time your taxes are increased, it indirectly allows the government to hire an economist that has a vested interest in increasing your taxes even more.

It is important that you understand as a taxpayer that any money the government borrows must be paid back by you. If you are a middle class family of four and the government borrows $1 trillion then that is an immediate debt to you of $26,667 plus interest.

It is important that you understand that the debasement of a nation’s currency has a cost. If you are of the middle class you are very likely to be negatively effected by the indirect effect of currency debasement. This is called “inflation”. Historically inflation has been used by tyrants to reward political favorites. Presently, our government has chosen to funnel most of the gains from inflation to the financial sector, speculators and the upper classes.

So, as a taxpayer, if the attached economic report deviates from common sense and suggests “unsustainable debt”, “a larger government”, “a larger financial sector”, “manipulating markets” or “debasing our money supply” then it is in your best interest to disregard the information.

Actually, We Aren’t All In This Together

This is the story of an average middle class town. This town could be the snapshot representing the American Dream anytime in history.

Anytime up until 25 years ago. This is when the town and all of its citizens found out that they wanted more than the American Dream could offer.

The story starts in 1985. A newcomer walks into Bernie’s, the local bar. This pilgrim’s name is Sam.

Sam had just inherited what seemed to be a limitless amount of income from a family trust that had been set up in 1776 by his ancestors.

Sam enjoyed the people and the town. So he stayed. He came to Bernie’s every night and bought drinks for the patrons. He made many friends.

Sam liked the attention he received from this generosity and through the years bought more and more drinks for the house. Eventually it became a ritual for him to pay for everyone’s drinks from 7pm until the bar closed at two in the morning.

He continued to draw more and more from the family trust that was set up to last forever.

By all rights, with prudent management the trust could have lasted forever because it was a vast amount of wealth.

Sam loved the attention. And everyone loved Sam. They voted him the figurehead of the bar. This came with a title. Whenever he entered the bar he was always affectionately hailed as Uncle Sam.

One day, Ms. Bair, the conservator accountant of Sam’s trust, started to become worried. Sam was spending a lot of money. If the spending kept increasing, the principle that was lovingly placed in the trust 200 years ago by his ancestors would start to diminish.

Ms. Bair said that she was proud of Sam for helping his friends but it would be best if he didn’t increase the spending any further. This prudence would insure that the trust could provide income forever.

“Besides”, the accountant added, “if you went broke, it would hurt your friends a lot more than one free drink each evening."

This made sense but it was a worry for Sam. So it became a topic of conversation among his friends at the bar.

One of his friends at the bar was a young man named Klugman.

Everyone loved Klugman, almost as much as Sam. He was handsome and articulate and a wonderful story teller.

Sam would buy the drinks and Klugman would speak of the prosperity that lay in the future.

Klugman was a dreamer. This attribute was perfectly suited for his trade as an economist. His job was to consult with business owners and show why they needed to borrow money to grow bigger.

That’s what economists do.

And for a time, the local businesses did grow bigger and bigger, thanks to Sam and Klugman and the bar.

As Sam spent money at the bar, the patrons spent less buying drinks. In this way everyone had more money to spend on other things, except for Sam of course. But he didn’t care.

This additional money flowed though the local economy. Everyone’s businesses grew. Everyone was happy. Everything was perfect.

But the problem with unrelenting perfection is that it eventually becomes average.

Over time the economy stabilized. Businesses stopped growing at a rapid pace but continued to borrow at the behest of Klugman.

At night in the bar Klugman spun even bigger tales of the prosperity in the future.

Because that’s what economists do.

And being an economist Klugman felt that this slowdown in business was becoming serious. His clients that borrowed money to grow their businesses were having trouble paying their loans. He felt the local economy had to be stimulated back to the growth trend that was established when Sam came to town.

He had a talk with Sam and explained that it was imperative that Sam buy more drinks in the bar. “Maybe you could start buying drinks at six o’clock instead of seven.” Klugman urged. "This would save everyone money that they could spend in the local economy."

Klugman promised that this would only be temporary. Local businesses only needed a temporary jumpstart to begin growing again.

The next day Sam explained Klugman’s theory to Ms. Bair. After she stopped laughing the accountant tried to suggest that buying more drinks for bad businessmen that incurred too much debt didn't seem like a viable solution.

"The businesspeople of this town need to live within their means today and not worry so much about tomorrow." Ms. Bair suggested.

This was the nature of an accountant. Today was more important than tomorrow.

Ms. Bair didn’t want to talk about tomorrow as Klugman worried about nothing else.

Sam needed another opinion.

He went to see his friend Mr. Hoenig who was the town banker. Mr. Hoenig seldom came to the bar and always paid for his own drinks. This made Hoenig the only man in the bar that didn’t take advantage of Sam’s kindness.

Sam posed his concerns to his friend. The banker tried to reply in a way his young guest could understand.

“Every businessperson has a place and a time in the economy” he stated. “Bankers live in the past. We are the caretakers of our town’s savings. This is the excess production that becomes a store of wealth. We use a businessperson’s history to determine if they are a suitable guardian of the town’s stored wealth. So we must always live in the past. I can only guess about the future, the same as you”.

Then he interjected “Accountants view the world through their balance sheet which is nothing more that a snapshot of the present. They are not as interested in tomorrow.”

“And, as you have surmised, our friend Klugman lives on the expectation of income. Economists sell business people risk in the future”

“But who can help me?” asked Sam.

“Well it appears you want a forecast” Mr. Hoenig said, “only Economists and Astrologers will give you a prediction of the future. Although some are better than others, I have found that in the aggregate both are correct about 50% of the time. So one could argue that a coin flip has similar predictive value at much less expense”

“But let me suggest that you talk with my friend Mr. Volcker. You will find him at the park everyday feeding the birds.”

“Can I ask one more question Mr. Hoenig? How come you never allow me to buy you a drink?”

Mr. Hoenig knew the answer would be hard for Sam to understand but he made this attempt:

"Sam, although I am happy to drink with you I cannot accept the cool aid that you and Bernie provide. Each free drink from you would distort my view of the market. If the small window for which I view the future becomes cloudy. Then I am lost. As I have said before, I live in the past."

Mr. Hoenig could see that Sam was even more confused so he made another attempt,

“Sam you are not a businessperson or an investor in this town. You are a disinterested third party in our economy. Very much like a government who’s spending is random. You do not add production or efficiency to the market. Production and efficiency is only added by the competition of the market participants. For an economy to work properly neighbors must be competitors. This is the only way in which scarce resources can be allocated correctly. This is only way that productivity can be created and then captured. And hopefully some of this captured productivity or 'savings' is given to me for safekeeping.”

He still didn't quite understand why Mr. Hoenig would not accept his generosity. But they were friends and that was all that concerned Sam.

The fact of the matter was that Mr. Hoenig was Sam's only true friend.

They said goodbye as Sam made his way to the park. Mr. Volcker was there as he was every day, feeding the birds.

Mr. Volcker, like Sam had just appeared in town one day. Mr. Volcker would never talk about his past or anyone’s past for that matter. He would only speak in riddles about the future.

Some speculated that he was a general who was a hero in battle. Others said he was a rich investor that gave up his wealth to live the simple life. There were other stories even more fabulous and truth be told, all these stories had some basis in fact.

Sam said hello and posed his concern to Mr. Volcker.

Mr. Volcker reiterated what Sam had already learned. Bankers must live in the past, accountants must live in the present and economists attempt to sell the future.

“But” Sam said, “Who is the best person to give me advice on the future”.

“Again, I must agree with Mr. Hoenig” said Mr. Volcker, “There is no one that can give you good advice about the future”.

“But do you know what lies in the future?” ask Sam.

“Of course I do son. But I will not tell you. There are others that could tell you too but they will be mute like me”.

“In the long run, a good businessperson is the only one that can accurately predict the future. And they will never tell you what they know for it would distort their market.”

He continued, “I am much like you, a traveler that came to take respite in this town. But I would like to note that I exist in this economy and you don't. Even though my fortune pales in comparison to yours. The fact is, I have earned it myself therefore it holds much, much more value.”

“If you ask me for advice, my suggestion is that you leave this town. You have no wants or needs that allow you to benefit this town or these people.”

“But how can I leave all of my friends?” cried Sam.

“These people are not your friends” retorted Volcker, “You do not exist to them, other than a free drink. You do not have a business, you do not invest for profit and you do not consume. You are only used by people that are incapable of surviving in the market. Therefore you distort the market. No matter how much wealth you bring to our town it will have no effect in the long run. When you are gone your wealth will be just a memory”

Volcker grew tired of the talk and focused on his wards, the swans.

Sam said goodbye and headed back to Bernie’s

Klugman was already at the bar holding court. Slapping backs and spinning tales.

Sam explained to his friend about his day and expressed his worry.

“Well Sam, I know that life is not worth living without friends. And we are your friends. And I also know that life involves risk. Speaking of which why is your capital placed in such ridiculously safe investments?” Klugman harangued.

As an accountant, Ms. Bair had always demanded that Sam’s money be 100% safe in the present. Ms. Bair told Sam that the local economy was very dependent on his spending so his money must not be tied to his neighbors. It must be placed in very safe bonds with a touch of equity in foreign lands.

In this way Sam’s money would always be there for him no matter what happened to the local economy. She had tried to explain that Sam was not a businessman or an investor and therefore not in a position to take risks.

“This is the crux of the argument” stated Klugman. Why can’t you take the same risk as your neighbors? Aren’t we are all in this together?"

But the fact was that Sam was not a businessman and he was not an investor or even a consumer. He was a disinterested third party that didn’t care what he earned or what he spent.

As an economist Klugman’s job was to sell his picture of the future to businessmen. So it was easy to convince a disinterested third party to do just about anything. Especially since this person considered him a friend.

The next day Sam told Ms. Bair what he wanted. She was to follow Klugman’s advice and invest his trust in the local community.

He loved this area and its people so it made sense to invest his money in the town.

And with this investment the local businesses and the economy boomed.

Sam began to make so much profit that Klugman suggested that Sam start buying drinks at 6 o’clock, then 4 o’clock then 2 o’clock. How could Sam argue, Klugman had been right before.

The wealth of the town grew at a phenomenal pace. Sam’s income increased so quickly that the bar was always open and drinks were always free.

The local economy boomed like never before. Businesses grew and took on new debt and then grew some more.

It was undeniable that Klugman was correct and Ms. Bair, Mr Hoenig and Mr. Volcker were wrong.

Klugman became a hero in the town.

(If you think like an economist, this is where the story ends. The short term is all that matters. As Lord Keynes said, “in the long run we are all dead”.)

(the story will continue for everyone else)

...

Actually, We Aren’t All in This Together – the rest of the story

(the story continues for everyone but economists)

There came a time when the local business growth started to slow. And because Sam’s trust was invested in local business equity and not in safe bonds his income stopped.

Sam started dipping into the principle of the trust that was lovingly set aside 200 years ago, the money that should have lasted forever.

Common sense told Sam that there was only one thing to do. He must reduce his spending in the bar down to the amount that the accountant had recommended. This was the only sensible long term solution. Local business owners would have to stop their excessive borrowing and get though this economic downturn by themselves.

Also, it seemed to Sam that some of the local business owners were horrible at what they did and shouldn’t be in business at all. They spent all their time at the bar as they borrowed more and more money from Sam.

If the bad business owners shut down, wouldn’t the other owners prosper?

And if they wanted drinks, Sam was happy to provide them in the evening. It just didn’t seem right that they should borrow money from Sam with no hope of paying it back as they spend all of their time in the bar.

When Klugman heard that Sam was considering slowing his spending at the bar, he became enraged.

Sam must keep up his spending. Everyone depended on him. It didn’t matter if some business owners were absolutely terrible at their trade; it was heartless of Sam to put them out of business.

“Remember, we are all in this together.”

So it went. Sam spent his principle as the economy stagnated. There were too many businesspeople servicing too few customers.

And everyone spent too much time at the bar.

As always happens with imprudent spending, the money disappeared as if it had never existed.

Sam lost the trust that was handed down lovingly for 15 generations.

He still comes to Bernie's everyday, but never drinks. He just takes his same old seat at the bar and stares off into the distance. He is mostly ignored by all except when stories of the boom are discussed.

He does not exist in the town’s economy today. And if you believed Mr. Volcker he never really existed in the first place. Except as a distortion in the market.

In the town, many of the local businesses that were created to feed the boom either closed down or moved away.

The local economy is back to average. The town is exactly as before.

Back to what our ancestors would call the American Dream.

When they get together at Bernie’s, the people who lived through the boom never seem happy. They long for the golden days of unbridled prosperity and of course they miss the free drinks.

This lament stops when Klugman comes into the bar. He spins tall tales of a future of growth and riches.

Because that’s what economists do.

Everyone brightens up and talks of tomorrow,

and the next boom that will be even bigger than the last.


The End


(If you are anyone but an accountant this is where the story ends.)



Thanks for reading

...

Actually, We Aren’t All in This Together – the rest of the story (for accountants only)

(accountants recap)

It is hard for one to gauge the size of the bubble that Sam created if one only listens to the reactions from the story’s participants.

Sam’s fortune was immense. Before its demise it was valued at 10 trillion dollars.

When Sam came wandering in, there were 10 bars in town. As Sam started to buy drinks at Bernie’s the other bars were immediately forced to close. Very quickly Bernie’s bar, like any other business that is subsidized by a disinterested entity, learned to raise it prices. Toward the end well drinks and beer were going for upwards of $10,000 a glass. But since there was no cost to the patrons, most drank the finest Champagne at $100,000 a glass even if they liked beer better.

Of course it is needless to say that billions of dollars of alcohol made its way out the back door to be resold in other towns, states and countries. This black market employed tens of thousand of people. Billions, perhaps trillions of dollars of income went untaxed.

Bernie’s bar ended up enveloping 4 square miles of the downtown area and could serve 300,000 people in an evening. So at the peak of the bubble, tens of billions of dollars could run through the bar in a night.

Obviously US Dollars could not be used to handle the transactions so everything was handled through credit with Sam’s expenses being sent directly to Ms. Bair’s staff of 1,000 accountants and wire transfers going back to the creditor’s offshore bank accounts.

With the growth of an economy than ran on debt, high interest was a necessity. 100% a week was not uncommon.

The town could be compared to gold rush Dawson City on steroids. Gas was $1000 a gallon, a meal in a restaurant was $10,000 and a room at one of the 1000 hotels in the area went for $50,000 a night.

Many that lived outside the 100 square mile area of easy commute while tipsy chose to move closer to the bar.

At the peak of the bubble this real estate had no value. There were not enough zeros on any number that could purchase a square foot of land.

As that is how it was sold.

Ms. Bair and Mr. Hoenig continually tried to get Sam to understand the enormity of what was happening.

Mr. Hoenig never did accept a free drink. But one must not feel empathy as his bank was making profits of $100 billion a year.

Mr. Hoenig could clearly see the problem and sold his loans to speculators before the bust for 500 cents on the dollar. Today of course all these loans are worth nothing.

Presently his bank is the only healthy one in the area.

Klugman never sensed that anything was wrong until the very end. His economic forecasting business still thrives.

Mr. Volcker is the only person in the story that never changed his lifestyle before, during or after the crash.

He continues to feed the birds in the park and enjoys going to work every day.

Once in a Lifetime Madness

On August 11th I commented on the historically low yield of 1.46% on the 5 year treasury bond. At that point it was 21% below the historic low of the past 70 years set back in 1954. Here is the post:

Now There's Something You Don't See Every Day

Well today the yield on the 5 year treasury sailed below the 1.1% mark which is 42% below the lowest yield in the past 70 years. This insanity by The Federal Reserve is being applauded by the stock market as the Dow spiked over the 11,000 mark today.

Investors have very, very short memories I suppose.

We are destined to have episodes of once in a lifetime madness every few months or so.

I feel it is appropriate to completely remove myself from the 50% long position that I accumulated during the market swoon to 1022 in the S & P in July.

It is very likely that the market will go up in the next few months driven by the speculative madness that is being induced by The Federal Reserve.

But for me the rewards at the end of this market run don't seem to warrant the risks.

The markets are being driven by rumors that our government will continue to sell our kids down the river with a never ending stream of currency debasement, market manipulation and intergenerational theft through massive unsustainable government debt.

We are trying to grow our economy by starting a currency war with the rest of the world.

By borrowing trillions of dollars that mathematically our government can never pay back.

By using this borrowed money to make the government bigger and thus starve the private sector.

By creating the most unsound investment markets in the history of our country.

By bailing out wild speculation at the expense of prudent savers.

And by funneling ever more money to the wealthy and away from the working classes.


All of this at the direction of our government subsidized political economists that don't understand what is happening, but are happy to suggest that ever more borrowing and speculation are absolutely the solution to our country's historically high level of debt.

We Need to Fire Our Economists and Replace Them with Astrologers

Once in a while in a news article I see the phrase “the science of economics”. It always makes me laugh.

Currently political economics is no more of a science than astrology.

It has no predictive value when extreme debt is involved.

Economists presently have no way to measure the unsustainable debt in our economy for four reasons:

1. Neoclassical(Wall Street) economists are not trained to look at total debt. They are only able to quantify the debt payment. Therefore if interest rates are placed at zero, then in theory our country can have unlimited debt.

2. To make matters worse, the public sector does not use real accounting standards. Neoclassical economists use Enron accounting to measure the public debt. Economists say that our federal government has about $13 trillion in total debt where in reality the liabilities of Uncle Sam are 4 times this amount.

3. To make this situation even worse, instead of comparing liabilities to income like an accountant, economists compare government liabilities to the total GDP in our economy. This avoids comparing the liability to the income that will eventually pay off the debt.

4. The craziest part of this situation is that Wall Street economists don't understand that the government's Enron liability must be paid off by the private sector in the future. It is indirectly a liability of the taxpayer.

The federal government has $60 trillion in liabilities and real income(without deficits) of $4 trillion. This is liabilities to income of 15 to 1.

Add this to the monstrous liability of our private sector and there is very little hope of taxpayers paying off this debt in real dollars.

This unsustainable debt is a problem. But the bigger problem is that our government subsidized economists don’t see it as a problem.

We are flying toward a mountain in zero visibility without an altimeter. We just asked our navigator how he is planning to circumvent the mountain.

Our navagator responds, “what mountain?"

Our navigator economists have no clue how to measure our nation's mountain of debt. They are blindly flying our economy straight into Mt. Fuji.

Economists are dead set on avoiding the pain of private sector deleveraging. This is exactly the policy mistake that Japan made 20 years ago.

Japan is experiencing 'death by a thousand cuts' instead of the debt amputation that would heal the economy immediately.

We are using the same flight plan. Our nation has incurred 3 years of moderate economic pain and only reduced debt in the private sector by 5%.

The government has increased its Enron balance sheet by 15%. This is trillions of dollars that the private sector will be required to pay in the future.

So after 3 years the mountain has grown larger and our airplane has not changed course.

Instead of looking at our private sector's mountain of liabilities our economists are dead set on keeping us from repeating the Great Depression.

Let me describe what happened during the Great Depression. We had 4 years of pain from 1930 to 1933. Most of the pain was caused by bad economic policy by our government. But even with the extremely bad government policy our private sector was allowed to deleverage.

This directly caused the greatest boom in our nation’s history.

From 1934 until 1953 our GDP grew a total of 580%. This was a compounded growth rate of over 10% a year for 20 years.

Our country has never grown that fast for that long.

Our incompetent economists are desperately trying to keep us from reliving the Great Depression. The goal is to become like Japan.

Their goal is 20 years of economic stagnation.

So instead of recreating the greatest period of growth in our country’s history our economists are intending to lever up our government 30 to one, without deleveraging our private sector.

This will slow the economy to a crawl so it will be impossible to pay off our government’s debt without destroying our currency.

Our private sector desperately needs to deleverage. Economists are manipulating markets to force people to borrow more money and spend it on speculation.

I suggest that we fire all Wall Street economists and hire astrologists to make policy decisions in the future.

Let us not forget,

Astrology worked out pretty well for Ronald Reagan.

Fine Tuning my Snap Trades

A year and a half ago I suggested that it was a great time to buy into the stock market as equities were making new lows. But I did suggest that I wanted to be out of the market by the end of 2010 as the stimulus started to run out and as corporate earnings peaked.

I have suggested that for at least the next 5 years there will be no long term gains in the stock market but there could be monumental short term volatility. In my post Snap Trading I suggested how I will manage my retirement account and my Virtual House Equity.

http://taxhome.blogspot.com/2010/03/snap-trading.html

The market is getting close to the peak earnings so this current rally seems to be a good opportunity to sell my snap trading gains of the last few months and move to a market neutral position.

I have been selling my equity investments and I am buying into ETFs: FXP, PST, SRS, SH and VXX.

I am almost market neutral. If the market goes up I will happily trade into a small short position to weather the economic storms ahead.

Today the stock, housing and bond markets are more dysfunctional and volatile than anytime in history thanks to monumentally bad government policy.

Anyone 100% long in any of these markets is a fool.