July 28, 2004


Recession Watch (John Maudlin, 07/27/2004, Gold-Eagle.com)

Recessions are not things to be feared, if you are ready for them. It is just a different type of swell with different types of waves and breaks. You can ride that wave with the right type of board. Of course, experience helps, or at the very least good instructor is needed.

Even in a serious recession, life will carry on. Employment will be over 90%. Most of us will go about our business, adjusting to the ebb and flows. They are not typically long affairs and a rebound will always follow.

Recessions, the Austrian economists tell us, are necessary. They allow us to hit the reset button, curbing the excesses of the previous boom. Weak companies are replaced by the strong, debt is reduced, and entrepreneurs and business people everywhere are forced to become creative. [...]

In 2000, it was not consumers, but businesses that began to cut back their investment spending, and there was simply too much capacity and we had a business spending recession. Quick intervention by the Fed made home mortgages lower, which helped prop up a housing market. Remember, unemployment barely went above 6%, and along with normal population growth and increased use of sub-prime mortgages kept the demand for housing hot.
Because Bush tax cuts (not one, but three and all quite significant) put more money in the hands of consumers, and because low mortgage rates allowed home owners to refinance their homes, not only lowering their mortgage payments but allowing them to take cash out and spend it, consumer spending grew more or less steadily. I cannot find another example of a recession in which those occurred.

Coupled with government deficits, which are also (temporarily) a stimulus, the last recession was the mildest in post WW2 history. As I have noted, the "doctors" put the country on steroids, and the patient recovered. But there were a few noticeable side effects. Personal debt, which is normally reduced during a recession, has soared to levels never seen, both on a relative and absolute basis. Government deficits are again soaring. As consumer spending did not retreat the trade deficit did not come into balance. Since housing did not slow down, housing prices have risen by 20-30% over trend in the last five years.
Now, when we enter the next recession, the medicine cabinet, while not entirely empty, has been severely depleted. There will be no more tax cuts. Indeed, if Kerry wins, there is a guaranteed tax increase as the Bush tax cuts will be phased out. Rates are already low. Maybe, though I currently doubt it, the Fed will be able to get short term rates back to 3.5%. That means only about 2% or so of realistically effective rate cuts. That is not much in the Fed's tool box to fight a recession. Yes, they could "move out the yield curve" and force long term rates lower, but at some point, too many steroids will cause even more problems down the road.

Can consumers load up on even more debt? Probably not enough to make as much of a difference as in the last few years. Indeed, real wages are starting to drop.

While George Bush and Alan Greenspan currently look like economic wizards, another recession in the next 4 years, made deeper and longer by their over-prescription of the stimulus drugs, could seal their historical legacy as the last of the Keynesians.

This is, of course, terrible nonsense from a site that hawks gold (buying which is a good way to lose your shirt), but Brother Duquette has been putting up a terrible fuss so we humored him. Stay tuned for Harry and Jeff explaining how the peppered moth changed their lives.

Posted by Robert Duquette at July 28, 2004 7:31 PM

I knew you'd post a disclaimer!

Posted by: Robert Duquette at July 28, 2004 7:45 PM

I'm just glad I didn't buy gold as a hedge against inflation back in 1978 when it hit $800 an ounce.

Posted by: Raoul Ortega at July 28, 2004 9:02 PM

Raoul, you have to buy it before inlation kicks in, like in 1971. Or now. Buying in 78 to hedge against inflation would be like closing the barn door after the cattle have fled.

Posted by: Robert Duquette at July 28, 2004 9:09 PM

Oops, my memory loss due to aging is slowly getting worse-- According to those charts, it was Jan 1980 that gold hit about $840, having doubled in a matter of weeks. Then again, those Carter years are best remembered as a blur.

But on the other hand, the thing to do is sell your hoard during such a frenzy. When Nelson Bunker Hunt and family drove the price of silver above $40 an ounce, my grandmother took the silver plate and silverware which had been transported from the old-country (and had no sentimental value) and turned it into cash. A couple of weeks later the price had crashed back to the teens. A lot of attics, basements and closets got cleaned out back then.

Posted by: Raoul Ortega at July 28, 2004 9:23 PM


Or you could just buy stocks which always go up over time.

Posted by: oj at July 28, 2004 9:43 PM

I don't have that much time.

Posted by: Robert Duquette at July 28, 2004 10:26 PM

And you might buy Enron, which does not always go up even in the short run.

Posted by: Harry Eagar at July 28, 2004 10:28 PM

Diversify, Harry, diversify.

Posted by: jefferson park at July 28, 2004 10:33 PM

Indexes, Harry, so the rest of us don't have to pay for your dotage.

Posted by: oj at July 28, 2004 10:34 PM

Harry (et. al.):

People who bought Enron after about June 2000 were just speculating on the spikes in natural gas prices. Even without all the book-cooking, it was just not a good decision. Same thing with all the telecom flame-outs.

There are plenty of good buys on the street: for example, you can buy any of a dozen REITs (office and storage) that are in good financial shape and pay over 6% right now. Plus, most have appreciated about 8-10% over the past 3 years. Take a good look at regional bank stocks. And so on. The market is not always a jungle, and you don't always have to be a victim.

Posted by: jim hamlen at July 28, 2004 11:41 PM

Correction to my earlier post. I am in stocks, gold mining stocks. They are like a leveraged play on gold, going up and down with the gold price, only moreso.

I would expect energy stocks to do well going forward also. Don't buy the cheap energy mantra, energy usage is growing faster than production. Oil production is getting close to peaking


Posted by: Robert Duquette at July 29, 2004 2:12 AM

A: people don't diversify. There isn't anybody I can remember posting here about his own investments who doesn't claim to be beating the market.

Robert, for example, is not highly diversified.

B: If everybody buys index funds, the market grinds to a halt. If everybody doesn't, then some people end up holding bags of Enron or whatever.

Posted by: Harry Eagar at July 29, 2004 2:51 PM

Geez, Harry, you really don't understand economics at all. Do you think there's a thousand dollars in a jar somewhere and we all split it up with some winning and some losing in a zero sum game?

Posted by: oj at July 29, 2004 3:03 PM

No, but as I explained in a later post, if everybody plays, then either we all get the average, and no more; or some lose.

Even if the pie gets bigger, some don't get any pie at all. Some get obese.

That may be what you are after. That's what you'll get, whether you are or not.

Posted by: Harry Eagar at July 29, 2004 9:49 PM


You've lost me. Right now the government gets about 1% on its SS holdings. Give people accounts and they'll get 6 to 10%. Same money, just a different rate of return.

Posted by: oj at July 30, 2004 12:46 AM

Diversification is overrated. It is a risk avoidance strategy for people who don't know much about the companies that they invest in. A better strategy is to have fewer holdings and follow them closely.

At best the broad equity markets will underperform over the next 10 years. There is a substantial risk that they will crater sometime during that period. The economic fundamentals are stacked against them. If your financial situation can handle either of those two scenarios, then more power to you. But relying in rules of thumb like "stocks always go up over the long run" can get you clobbered, depending on how much time you have. As someone once said, over the long run we are all dead.

Posted by: Robert Duquette at July 30, 2004 10:53 AM


Yes, those are called everyday citizens. Privatize accounts should be relatively low risk. The market is only cratering in the fevered imagination of goldbugs.

Posted by: oj at July 30, 2004 10:56 AM

Private retirement accounts, instead of SS accounts, would have to be relatively low-risk, to be politically acceptable.

As to Robert's point about the doing without the money until the markets recover, we already do without the money. As a self-employed person, I pay 14+% of my gross to SS, and so I must do without that money until I turn 70.

I'd like to see a small part of our contributions to privatized SS accounts go to paying insurance against a market dip when we start tapping our retirement accounts, to provide a guaranteed minimum payment.
Bears like Robert would surely take the other side of that bet, so it wouldn't be any problem to find an insurer.

Posted by: Michael "Market-beater" Herdegen at July 30, 2004 2:18 PM

I don't object to changing SS, though I don't have any good ideas to offer about how to do it.

But I get visits -- got one yesterday -- from people who were invested privately and are unhappy now because their withdrawal from the income-producing sector coincided with declines in the values of their stocks.

Unless everybody is totally in index funds, that's going to continue.

As a political matter, if largish numbers of people are left holding the bag, the government will be required to make them whole, at the expense of all you clever investors.

It'll be like Continenal Illinois Bank for ordinary folks.

Posted by: Harry Eagar at July 30, 2004 3:40 PM

I won't be a bear forever. At some point in the next decade, people will panic and get out of the markets en-masse. Then valuations will be attractive again. To expand on Harry's point, the position that you don't want to take in the market is the position that the majority takes. When everyone is in the market, there is noplace for it to go but down.

Posted by: Robert Duquette at July 30, 2004 11:48 PM

The market has never gone down.

Posted by: oj at July 30, 2004 11:51 PM