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Sorta Optimistically Pessimistic for 2005

Richard Daughty
The Daily Reckoning

...the angriest guy in economics
The Mogambo Guru
December 30, 2004

- The national debt run up by the government, otherwise known as Official Public Debt, now stands at $7.528 trillion, up almost by $600 billion in the last year.

- Ted Butler, renowned silver analyst, says that the amount of above-ground
gold in the world is four times MORE than the amount of silver, making silver, surprisingly, more rare than gold. And the big paradox is that gold is selling at historic multiples of silver, which is the exact opposite of what you would expect on the basis of sheer rarity. Mogambo Tip O' The Day (MTOTD): buy silver.

- Franklin Raines, disgraced former head of Fannie Mae, proves that perfidy and failure is worth a retirement package measured in tons of money and benefits. Fannie Mae was originally set up to help poor people buy houses. Remember the phrase "poor people" because it is important. Instead, Fannie Mae has grown like the government cancer that it truly is, and is now so big that it is now one of the top two or three biggest corporations in the whole freaking country!

And not only that, but it is an absolute, total, colossal freaking failure at its mission. Their job was, to refresh your memory, to help a few poor people buy some cheap house, probably something out near where I live, as I seem to depress property values wherever I go and only very poor, very desperate people with literally no place else to go would even think of living near me. Homeownership was supposed to give these poor people a cuddly feeling of security, but which evaporated as soon as they learned that they had to fix anything that broke, and they couldn't just call up the landlord and yell at him to fix things anymore.

Instead, and I say this with that look on my face that means "I can't believe my freaking ears when I hear it or my eyes when I read it", Fannie Mae has actually driven up the price of housing to the point where not only can the POOR not qualify for a loan to buy a house anymore, but in some places not even the freaking middle class can afford to buy a house anymore, either! And why can't these people afford to buy a house? Because housing prices have been going up in price at double-digit inflation rates for years now, thanks to Fannie Mae. And now houses just cost too damn much, and that, and I stretch out my arm to point at THAT, is the horror of inflation, which is, if you are up-to-speed on The List Of Things That Make The Mogambo Go Out Of His Freaking Mind In Fear (TLOTTMTMGOOHFMIF), Number One on the list.

But this is not about me, although I love talking about me, and having people wait on me hand and foot, and cater to my every whim, and if I can't have that, is it too much to ask to be able to go ten lousy minutes without somebody throwing a roll of flaming toilet paper at me? I mean, I'm trying to get some work done here! But we were talking about Fannie Mae on the horrid Franklin Raines and that whole horrid Fannie Mae bunch and how they have not only failed at what they were supposed to do, but they actually made the situation much, much worse! And it is worse for many, many more people! Talk about your typical government program, eh?

And yet, here these guys are, getting fired and receiving these enormous retirement packages.

But we were talking about houses and the prices of those houses. And why do they cost too much? Because Franklin Raines and his stinking, grubby friends (which is, of course, Congress, the courts, the banks, and the powerful friends of either one) at Fannie Mae provided seemingly unlimited funding to buy mortgages. And where did they get all this funding? From investors. And where did the investors get all that the money? From the Federal Reserve, which created it out of thin freaking air and loaned it to the investors. And all this new money increased the money supply as it increased debt loads.

And here is where we take a short journey down a pleasant path that I hope will impress you. It is with great pleasure that I present a Mogambo Axiom Of Economics (MAOE) that has a lot of mathematical mumbo-jumbo that I can make up on the spot, mostly long and complicated formulas with all these cool mathematical symbols everywhere, and that rigorously proves that "All money must go somewhere." I hope is more profound that it looks, because it looks like nothing on the page. I originally thought of it at a recent Christmas party, and I admit that I was pretty blasted, and to tell you the truth I am amazed that I remembered it at all because I have apparently forgotten most of everything else that happened at the party, judging by my wife suddenly referring to me as Satan and how she is always making the sign of a cross when she looks at me, which is weird, since she is not Catholic, and a lot of policemen are suddenly asking me some very embarrassing questions. So, do me a favor here: Give it awhile to sort of sit in your brain, and then perhaps you will leap to your feet and say, "The Mogambo is not as stupid as we thought! In fact, it's brilliant! Because if a lot of money flows into one area of the economy, then prices in that area will increase. And then other capitalist entrepreneurs will start moving into that area, attracted, like moths to a flame, to all that lovely, lovely money flowing in, because they also have wives and children and mortgages, and they are also up to their eyeballs in debt, and things aren't going so hot here the last couple of years, and at this point I am pretty much willing to do anything for money, especially try and flip a few houses. And the increase in tax collections is like manna from heaven to stretched local, state and federal governments."

At that, my eyes bug out and I stand back and look at you in absolute awe! I had no idea that you were that educated in economics! And then I remember that, like Buddhism, macroeconomics only takes a few minutes to learn, but a long time to acquire wisdom. I humbly bow to your achievement!

Now, what I want as my reward for coming up with this brilliant new economic verity is to be the new head of Fannie Mae. If all it takes to get fired and received a multi-million dollar annual retirement package is to spend a few years growing into a malignant cancer and be worse than a total failure, then THAT is the job I want! If there is one thing that I am good at, it is failure. I'm a natural! So now, everywhere you go, I want to hear it loud and clear, "Mogambo for Fannie Mae! Mogambo for Fannie Mae!"

And in a similar vein, Bob and Barb at 321gold.com have a pithy quote from Henry Ford on their site that shows that old Henry knew about more things than cars and assembly lines, and I want to get it into my own stupid newsletter because I take my hat off to old Henry, which is what I call him because he is dead and there is nothing he can do to make me stop calling him by his first name, and in this way maybe somebody will think "Hey! That Mogambo is quite a fellow! He knows lots of important, famous guys!" But Henry said, "It is well that the people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning."

So here is Fannie Mae providing these selfsame "people of the nation" with a glaring example of the misery of how our government, banking and monetary systems have run amok, and not only is there no freaking revolution, but the guy responsible is going to retire rich as a reward for being a complete failure!

Not only that, but Fannie Mae has a $2.306 trillion Book of Business, but only $29 billion in capital. That comes out to a leverage of 80:1! This is the range of leverage that caused Long Term Management to go belly up!

Wasn't it H.L. Mencken who said something like "The people in a democracy decide the kind of government they want, and they ought to get it good and hard"? Well, we are about to "get it good and hard."

- Chris Gaffney of the Daily Pfenning newsletter writes, "First I expect interest rates to continue to rise globally and therefore, interest rate spreads will pretty much remain stable. Take advantage of any short-term dollar rally in these thinly traded markets to get currencies on the cheap."

This advice, namely to capitalize on short-term rises in the dollar by using that temporary strength to buy foreign currencies, applies also to precious metals and other commodities, especially oil. OPEC is apparently being pressured into reducing the price to keep the idiotic economic mess we have created from collapsing before December 31. It can't last and it won't. In November, oil imports into China rose 46 percent, to 11.12 million metric tons from a year earlier. In October, their oil imports were 34 percent higher than a year earlier. Does exploding demand sound like a scenario for lower oil prices in the long term? Hahahaha! It does? Hahahaha! You must work for the government!

- Peter Schiff of EuroPacific Capital quotes Chris Dialynas, who is a managing director at PIMCO, who has written an essay entitled "Trouble Ahead, Trouble Behind." To quote Mr. Schiff, "In deadly serious terms, the paper argues that America's Asian creditors should forgive a portion of the debts owed to them by the U.S. government in exchange for the U.S. government imposing what amounts to a broad based austerity program, resulting in a substantial decline in American living standards. The paper further proposes that America's creditors would agree to this restructuring because in its absence, their eventual losses would be far greater, as the U.S. government would have no choice but to default on its sovereign debt.

"This raises the obvious question of what credit rating PIMCO believes U.S. government debt actually deserves? A triple A rating basically implies a zero probability of default. Since this paper argues that default is all but inevitable, it would imply that not only should U.S. sovereign debt not be AAA rated, but that it should fall into the category of junk."

Congratulations, Alan Greenspan! You took an America we were all proud of, and turned us into a bankrupt nation where our bonds are so worthless that they are junk bonds on the verge of default. And congratulations, Congress, which said or did nothing to stop, or even slow down, the idiocy. And congratulations, news media, who were so ignorant and stupid that they did not raise the alarm, as was their damn function. And congratulations, school system, which teaches that this is all correct, and special congratulations, universities, who actually make it their business to teach this ridiculous economic theory to the virtual exclusion of Austrian economics! It is a sad story of failure, failure, failure all around.

- Kurt
Richebächer writes, "Just consider that the dollar has 'only' fallen 8.3% the past year, but it translates into a $124 billion loss for foreign stockholders! (And that's regardless of whether their stocks are up or down!). How long will foreign investors stand losses like that? How long would you? If the dollar keeps slipping, foreigners will start dumping their U.S. investments - selling for any price they can get. The flood of unwanted shares will utterly destroy stock prices. The major indexes will hit lows not seen in decades! And the money people have in stocks or bonds will vanish."

So how long can this go on? Well, Mr.
Richebächer has looked at the evidence, has looked at the historical precedents, and after running the data through his gigantic brain and his years of experience, figures that "If history is any guide, this dollar crisis could last seven to nine years." And I think so too, and probably much longer than that, much as I never regained by teenage glory, which was a hell of a lot longer ago than some stinking seven to nine years, and Rome has never regained her glory after 1,600 years.

- "The Specter of Deflation" an essay on the LewRockwell.com site, by John Calverly, has this timeless observation: "Deflation is a new and troubling threat for all of us, brought up in an era of continuous inflation. Almost nobody alive today, even the venerable Mr. Greenspan, was an active market participant or policy-maker in the 1930s, the last time the United States suffered deflation. Yet, during the 19th century and right up to the 1930s, deflation was common, indeed even normal, while inflation was usually only seen at the height of economic booms and in wartime."

This is because up until the current historical period, business was left alone, and
gold was money, and fiat currencies were still only in nightmares and the historical record that documented the unstoppable destruction that results from any economy so suicidal as to use one. And it is Adam Smith's Invisible Hand of the marketplace that pits one producer against another, each one trying to produce things that are better and cheaper and newer. And all that money thus freed up was available to be spent on other things, new things, exciting things, and thus increasing the standard of living for everybody.

Then, and you can tell by the way the soundtrack has gone all moody and somber, we now live in an historical period where idiots, with new and idiotic economic theories, have installed a cartel of central banks around the world. Nowadays, thanks to these corrupt bastards and the ignorant morons that constitute America's general population, we NEVER have prices that gently go down, we NEVER free up money to be spent on other things, thus we NEVER increase everyone's standards of living. Now, all we get are constantly higher prices, a bigger and more repressive system of governments, a currency that grows more and more worthless every day, and a constantly falling standard of living. And as bad as this sounds, it is only PART of the egregious result of having a central bank and a fiat currency that is spiraling out of control.

As an example, world dairy prices have almost doubled since 2002. Doubled. In two lousy years.

- For those of you concerned that the unequal tax treatment of your
gold holdings, and judging by my email there are a lot of you, J. Kent Willis has reported that "Joint legislation from Nevada Senators Reid and Ensign aka 'Fair Treatment For Precious Metals Act' passed the US Senate in 2004 with a vote of 92-5. The House has not approved it yet, but will soon." The bill will treat gold bullion investments as it does other equities, with short and long term tax rates of 20% and15%, instead of continuing to treat gold as a collectible, and thus taxable at the 28% rate.

For those of you who are impatient, he goes on to say that "There are legal ways around it now anyway, including but not limited to, holding bullion in an approved self-directed IRA, provided you withdraw it properly so it is treated as ordinary IRA income."

- Barry Down and Bill Matlack are stockbrokers who have written an interesting paper entitled "With Paper Money- Confidence is Suspicion Asleep", which is a quotation from Disraeli, who was once the Prime Minister of Great Britain.

They write, "From its peak in 1985, the dollar dropped by a third, but the US current account deficit is much larger now than it was in the 1980s. Conclusion: over time the dollar has a long way to drop, perhaps destined to lose over 30% of its current value, thus pushing the euro exchange rate to over $1.80."

These two guys are stockbrokers who "specialize in
gold and mining equities", so maybe they are a teensy bit biased in their judgment. But I rise to my feet and shout "Huzzah! Huzzah!" when they say, "But make no mistake about it, irreversible damage to confidence will be inflicted on the world's paper currency system and the stage will be set for the inevitable repudiation of all unbacked paper currencies. Eventually, a new system of currencies centered around gold will be initiated, and confidence will then be restored and suspicion will be asleep, at least until some other future generation also tries to substitute paper for gold."

Regardless of the future of
gold-backed currencies, the drop in the dollar guarantees a 30% higher price for gold as a result of a 30% drop in the dollar. Unless, of course, the rest of the world suddenly stops believing in gold and are willing to part with theirs at lower and lower prices in their own currencies. And with the economic upheaval that is bearing down on us, I don't see much chance of that! And neither do they, as they keep buying more and more and more gold at higher and higher prices.

- To demonstrate the economic lunacy of Gregory Mankiw, who is the chairman of the President's Council of Economic Advisors, I turn to his own textbook, "Principles of Economics" and look up "debt" in the index. There are two, count 'em two, references to debt. One is "debt, government, 555" and the other is "debt finance, 544." On page 544, we read that, "The sale of stock to raise money is called equity finance, whereas the sale of bonds is called debt finance." Nothing much there about debt.

So we go to page 555 to find out about government debt. When we get there, we find that the entire subject of government debt is summed up in two sentences. "When the government spends more than it receives in tax revenue, the shortfall if called the budget deficit. The accumulation of past budget deficits in called the government debt." This is the extent of the problems of government debt, according to Mankiw.

Then he gets into the "crowding out" theory, which is the hypothesized result of the government running huge budget deficits, and coming into the credit markets and borrowing all the money that is available to lend, thus keeping any other borrowers from getting the financing they need. Mr. Mankiw, of course, does not mention that the "crowding out" effect, which is obviously true, has never actually been witnessed in real life. The reason? The damn Federal Reserve is going to create more money and credit at the first sign of any stinking "crowding out" effect and the upward pressure on interest rates. Mr. Mankiw does not mention this important fact, either because he is ignorant of it, or because he has written a very poor textbook on economics, or he is trying to conceal the inevitable rampant fraud and corruption that stems from having a central bank and a fiat currency. Especially when you have a judiciary that ignores the Constitution whenever they sense what they think is a "good justification" which is something left over from last week's MoGu which has really stuck in my craw, for some reason. And that reason for THAT being that it is this spreading corruption and lying is how countries and societies and cultures are destroyed from within.

It is not my place to figure out which of these he is. Parenthetically, when I am in the mood for an argument, which is all the time, I use that fact to prove that God does not exist, because if a truly loving God existed, then surely He would have put The Mogambo in charge of tracking these people down and charging them with the crime of treason to the Constitution. But whatever it is, the very fact that he thinks this bizarre way is reason enough why this man should not have been appointed to the President's Council of Economic Advisors, and especially why he should not have been a Harvard professor of economics in the first place.

As a final dig at this Mankiw guy, listen to this thing he calls "Keynes's Interest Rate Effect" on page 689. When prices are falling, see, households need less money to meet their needs, and they seek to invest their excess money in something to earn a little interest. No problem so far. But here is where it gets weird. "As households try to convert some of their money into interest-bearing assets, they drive down interest rates. Lower interest rates, in turn, encourage borrowing by firms that want to invest in new plants and equipment and by households who want to invest in new housing."Why in the hell firms would want to invest in plants and equipment in the face of slack demand in beyond me. But he doesn't listen to my complaints, and goes on to say "Thus, a lower price level reduces the interest rate, encourages greater spending on investment goods, and thereby increases the quantity of goods and services demanded." (Italics in the original). Notice the weird way that originally there was no demand for goods and services, and that is why there was all this excess money lying around in people's accounts, ready to be loaned to somebody. But suddenly, thanks to lower interest rates, there is all this new demand for the same goods and services that people didn't want originally! Weird, huh? And trust me when I say that the deeper you go into this whole modern economics thing, the weirder it gets, and if Buck Rogers was in a spaceship going someplace that was this weird, he would turn that spaceship around, go home, and take the beautiful Dale Arden out for a pizza.

- Doug Noland quotes Jennifer Hughes in the Financial Times as saying "US high yield, or junk bond, issuance, has reached record levels this year as companies have sought to take advantage of investors' appetite for risk." Memo to Jennifer Hughes: Nobody has an appetite for risk. They only have an appetite for yield. And people are desperate for yield, as Alan Greenspan has tried to correct his previous horrendous monetary policy mistakes by pounding interest rates into the toilet for a couple of freaking years. And with prices rising at rates higher than interest rates the whole time, people are desperately searching for something, anything, that will earn more money so that they can at least try and break even.

- From Bloomberg we get Wing-Gar Cheng, who writes, "China's crude oil imports in November rose at the fastest pace in five months as government measures to slow the economy failed to curb fuel demand growth." Well, duh! The only way growth is curbed is when profits disappear, usually due to the horrendous cost of high interest rates that swamps the returns of the business venture, and there is little to no chance of that happening any time soon in China!

As if that wasn't enough to be bullish about commodities, the China Daily reports that a "leading water official" says that "China is likely to experience a 'catastrophic' drought next year, threatening water supplies and grain production." And with reduced supply of grains due to drought and increased demand due to increased wealth from the growth, those two curves will equilibrate at much higher prices. And it is a truism that you make money by buying low now, and selling high in the future.

- According to the Office of the Comptroller of the Currency, the latest Derivatives Report shows that Total U.S. Commercial Bank Derivatives expanded to $84.18 trillion, which is up 26% from one year ago. 26% of $84.18 trillion is $21.88 trillion. So, the derivative positions in the banks increased by twice the entire GDP of the USA! My head is spinning around like a demented Christmas toy! The damn banks increased the money at risk in derivative contracts by twice the total value of all the goods and services created in the whole freaking country in a whole year? My God! And you DON'T think we are headed to disaster?

- Henry T. took exception to my phrase in the last MoGu, "You own
gold. Nothing can happen to you." Like a lot of other people who are fearful of another confiscation of gold by the government, like the commie bastard FDR did in the 30's. He says "Wrong. Hoards will be confiscated. None are more hated than those who foresaw disaster and took proper steps to avoid it. Especially if we told them so. Then we ants learn that grasshoppers are carnivores."

- I got this from somewhere that I forget where, but "Brokerages and investment banks will award average bonuses of $100,400 per employee to roughly 158,000 people, up from $99,700 a year ago."

And where did all this money come from? You and me. They might have gotten commissions on our trading and retirement accounts, so we paid. They might have "done a deal" where the ultimate price will be paid by the customers, which is you and me again. They might have gotten it from their own trading, which came from, again, you and me.

Make no mistake: All the money that these guys got will have to come from you and me, the final consumers, as there is no other place that it CAN come from, and that means that the prices we will pay will be higher than they otherwise would.

- John Crudele at the NY Post has taken a look at how the U.S. Treasury posted, on its Web site, a financial statement for the USA, but done in the same way that private sector companies are required to keep their books. The reason that they did this was that they had to, as "This method of accounting for the government's finances, namely using Generally Accepted Accounting Principles (or GAAP), is now required by law."

Mr. Crudele paraphrases to note that "In the fiscal year 2004, government revenues were $1.9 trillion . . . The net cost of the government's operations was $2.5 trillion . . . Total revenues less operating costs resulted in a net operating cost of slightly more than $615 billion." In short, he say that "the government ran a deficit of $615 billion," which a little calculator work will convince you comes out to a cool $5,802 for every worker in the country who has a non-government job. And that is just the deficit!

When you get right down to it, that $2.5 trillion that the government spent last year comes to $20,661 for every American worker in a non-government job!

"Now, allow me to translate" he says. "Look at the last line called Total Assets minus Total Liabilities & Net Responsibilities. The liabilities grew to $45.9 trillion at the end of 2004, compared with liabilities of $34.8 trillion at the end of the previous year. In other words, what the accountants call the net present cost of unfunded future obligations grew by a massive $11.1 trillion in just the past year."

That $11.1 trillion figure ought to be familiar to you: it is equal to the sum total of GDP in the United States. In one year, we went on the hook for an amount equal to the total value of all the goods and services produced in this country for an entire year. We took on so much more debt, in one year, that the additional obligation equals everything we made for the year.


*** The Mogambo Sez: It is the last Mogambo Guru of the year, and I feel compelled, like so many others, to writing my concluding optimistic remarks, and extending my best wishes for a prosperous New Year. So let me say that I hope things do not turn out to be as horrible as I think. But they will. But at least I am optimistic about it!

Dec 29, 2004
Richard Daughty
email: scgcjs@gte.net

The Daily Reckoning

Richard Daughty is general partner and C.O.O. for Smith Consultant Group, serving the financial and medical communities, and the writer/publisher of the Mogambo Guru economic newsletter, an avocational exercise the better to heap disrespect on those who desperately deserve it. The Mogambo Guru is quoted frequently in Barron's, The Daily Reckoning and other fine publications.

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