Stock Market Will Be Flat over Next Ten Years--Boomers Will Work 'til They Drop

The Great Depression lasted nearly ten years. The reason for depressions is that the Federal Reserve Bank creates excessive liquidity. The liquidity is used to stimulate the economy, but the stimulation is in the wrong place. For example, there may be no demand for an additional shoe store at 6% interest, but if interest rates are brought down to 4% then a new shoe store becomes viable. But the new shoe store will be sustainable only at 4% rates. If rates are kept that low, the amount of money created will exceed the value to the economy that the shoe store adds. The result is inflation. The public starts to realize that it is subsidizing businesses that cannot be reasonably justified. Everyone is paying out money through inflation so that the shoe store can stay in business. Better to make the shoemaker welfare payments and not waste so much money. The public starts to protest. The Fed then contracts the money supply, raising interest rates back to 6% or even 7%. The shoe store closes. In 1980 the prime rate was in the twenties. The higher interest rates throw more businesses out of business than were started due to the initial stimulus. A depression occurs.

What has forestalled the inflation is overseas sovereign investors' subsidization. Never before in history have other countries been willing to make themselves poorer by purchasing the additional liquidity that a country creates to keep interest rates low. This phenomenon will not last forever. It could last for 10 years, though.

Because there has been inflation in line with the past 20 years (eg., in the 3-4% range, and recently none due to credit contraction) there has been little impetus to raise interest rates. In fact they have been reduced in order to limit the effects of the bank credit contraction, which occurred for the very same reason as inflation. The Fed created excessive reserves, and mismanaged banks lent money via credit cards and mortgages that were unlikely to be repaid. When this pattern of lending had to change, there was a market collapse.

Because of these policies the country has been becoming poorer but not through inflation. Rather, the credit collapse caused people to lose jobs even though interest rates have not been raised.

Interest rates are now almost as low as they can be. If rates are raised significantly, additional businesses will be closed. If rates continue this low for long, the foreign subsidies to our economy will eventually end. The Fed has created an unsustainable system.

The period of time that this will take to clear up will be longer than the Great Depression. If you count the market decline of 2001 as part of this cycle, it already has been as long as the Great Depression. It may not be cleared up in the Boomers' lifetime.

That leads to the question of what Boomers are to do about retirement. The savings rate has been low, and few boomers have the assets to retire. A rising stock market such as existed up until 2000, ten years ago, would have subsidized the Boomers and allowed them to retire. As well, Social Security has been curtailed since their parents' day (the retirement age will be 67 or likely older), and anyway, Social Security is insufficient for retirement for all except the poor.

But the Boomers may be forced into retirement because of job losses due to the Federal Reserve Bank's being forced to raise rates. If the economy had been allowed to progress naturally there would have been better businesses, more innovation, less overseas plant transfers and a more dynamic economy. The misallocations due to the Fed would have been smaller.

If there were no Fed there would have been no problem.

In inflation-adjusted terms the stock market will not be able to advance until the misallocation of credit has been cleared up; the real estate market is stable and advancing; firms can be subsidized with additional Federal Reserve monetary creation; and inflation is stable. That is, for the stock market to begin advancing the basis for a new bubble will need to be created. This is what Jimmy Carter and Ronald Reagan did in 1979-1982 by allowing Paul Volcker to contract the amount of money and raise interest rates to very high real levels.

True reform of the American economy so that innovation is spurred in the way it was in the late 19th century will require major economic upheaval and abolition of the Federal Reserve Bank.

I doubt that either party has the courage to do this now. Hence, the stock market will not in the long term advance in real terms, although it might advance in nominal (not inflation adjusted) terms if the Fed continues to subsidize it through monetary expansion. In that case hyper-inflation with non-asset holders getting squeezed as real wages are further diminished is a real possibility.

Bernanke, Ridin' That Train, Lowers Rate 75 Basis Points

"Ridin' that train. High on cocaine. Casey Jones you better, watch your speed. Trouble ahead; trouble behind. And you know that notion, just crossed my mind."--The Grateful Dead

Money News on Newsmax reports that the Fed has lowered interest rates 75 basis points (from 4.25 to 3.5 percent), "the biggest one day move in recent memory".

Gold stocks continue to perform well, but at 11:40 the Dow is down 138 points to 11961, the S&P 500 is down 23 points to 1302 and the Nasdaq is down 55 points to 2285.

The Fed is concerned is concerned about recession fears and the recent sharp stock market declines. The interest rate cuts should boost stock values but will also continue to depreciate the dollar. The Fed reduces interest rates by printing money. Lower interest rates enable unproductive firms to remain in business because their costs of borrowing are reduced. Firms that do not create a market-determined value that would enable them to exist are subsidized by increasing the money supply, which reduces wage earners' inflation-adjust salaries. Thus, the Fed is taxing the productive sectors of the economy to subsidize the unproductive ones. The unproductive sectors are centered on big business, the financial sector and Wall Street, who have (1) extracted excessive CEO and investment banker salaries; (2) repeatedly made terminally stupid business decisions; and (3) and now go to the Federal Reserve welfare trough for a bail out.

Meanwhile, the dollar will depreciate and inflation will escalate.

Although the markets are cool now, they likely will heat up in response to the reduced rates, but the response will be temporary.

Howard Katz's Goldseek Article

Howard S. Katz has an interesting article in Goldseek. He writes:

>"Over the past few weeks, there have been dozens of forecasts in the newspapers about the possibility of a coming recession. In most of these, the forecasters have not been identified as anything more than “economic experts,” etc. What is going on is just a public relation campaign to convince the public that something bad will happen if we do not print money at a faster and faster rate. Usually no evidence is cited, just “experts say.” Sometimes there is an incredibly ignorant use of statistics whereby data which will be revised away in a few months is cited as authoritative. For example, the preliminary employment report for August ’07 showed a drop of 4,000. This was widely cited as evidence that the economy was heading for recession. Then the number was revised and is currently listed as an increase of 93,000 (very close to average for the year). No apology from the recession mongers. These people pretend to be scientists attempting to predict a recession, but in fact they are public relation shills, trying to convince the media to support a central bank policy of easy money and credit.

>"According to (Keynesian) economics, as it evolved over the 20th century, recession and inflation were opposite things. A recession was caused by not enough demand. Inflation was caused by too much demand. As noted, we currently have $900 gold and $100 crude oil. The CPI is advancing at the fastest rate in 17 years. The PPI is advancing at the fastest rate in 27 years. How, even in their own terms, can these people believe that there is both too much demand (“inflation”) and not enough demand (“recession”) at the same time?

>"Currently the stock market is being hammered down by propaganda about the coming recession. Of course, when the propaganda is successful and Bernanke completes his easing, this will make stocks go up. Those who listen to the recession propaganda and sell will sell near the bottom. It was precisely to deal with situations like this that the old timers made the rule, buy when there is blood in the streets. However, the rule should have been, buy when there is blood in the media because what is happening is not happening in reality, only in people’s minds. Again, in deciding on a massive easing at a time when the dollar was very weak anyway, Bernanke essentially threw the dollar out the window. The U.S. central bank has made the decision to trash its own currency. I don’t have to tell you that this means BUY GOLD. Unfortunately, most of our sources of information in this society are full of lies. Their purpose is to make the banks and their other vested interests rich, and to do this they have to make you poor. Believe the lies, and you are a loser.

>"In a very real sense, a recession is like an infestation of witches. It is an imaginary event. It can be listed with the belief of the Aztec Indians that, if they did not offer the Sun God a human sacrifice every single day, then the sun would not rise the following morning. The difference is that the Aztecs never knew what science was. A century ago our society did understand scientific method, and there is no excuse for letting that knowledge slip away.

>"So, dear reader, if you want to be a gold bug, then you must aspire to see reality as it is and not believe the lies reported in the media. This is my job at One-handed Economist (see my web site www.thegoldbug.net). Visit us, and see if I can make you a gold bug and put some extra money in your portfolio."