Ascension Day

You may recall Mr. Goupil?

Weeks after we bought our house in France, Mr. Goupil arrived at the front door. A short, stout man with a round face and bright blue eyes, he informed us that he was our plasterer, by right of birth. His father, his uncle and his father’s father had done the plaster work on the Chateau d’Ouzilly. He would continue to do so…and we would continue to pay him.

Mr. Goupil’s vision of how the world should work is a peculiar combination of red and purple… Everyone has his place, his duties and his responsibilities in Mr. Goupil’s cosmology…but they may be assigned by the State or by God. He is a God-fearing communist, I believe, sure that everything should be carefully organized and not particularly concerned about who does it…

I mention Mr. Goupil because the euro fell again yesterday. In fact, it dropped below 86 cents – bringing it closer to its record low. This decline comes at a most unlikely time – that is, just days after a record jump in the U.S. trade deficit and the most recent of 5 rate cuts by the custodians of the dollar. Neither theory nor experience provides an explanation.

“Here we have an economy that is running a current account deficit of 4% a year,” writes Larry Elliott in the British on-line publication, the Guardian Unlimited. “It is one that has an overvalued currency and one where the corporate sector is showing all the classic signs of distress: falling profitability, cutting investment and laying off staff. It is an economy dependent on constant flows of hot money but which also gives investors the absolute right to leave with their money whenever they want. Faced with a similar set of circumstances in Thailand, dealers could not get out fast enough.”

“The rise in the dollar since February has been puzzling”, says Elliott, quoting the Bank of England, “as it has been associated with falls in US growth forecasts and short-term interest rate expectations relative to some of its major trading partners”. Elliott translates: “all our models say the dollar should be falling like a stone but for some reason it is going up.”

One of the wonders of the modern world is the dollar. The US is not Thailand and the dollar is not the baht… But like the baht, the dollar is paper… backed by nothing…and minded only by an organization – the Federal Reserve System – whose motives are suspect and whose competence is doubtful.

But, as Elliot tells us, “the herd mentality is powerful and, at the moment, the herd believes that Alan Greenspan has the situation under control, or at least pretends that it does.”

Does he?

One feels like a fool for merely asking the question. How could a single mortal control an entire global economy… involving billions of people making billions of decisions every day? Perhaps he is not mortal, after all.

No mortal man – even a former Randite – could stand in the way of fundamental economic re-adjustments…or the re- balancing of the yin and yang of nature itself.

“We are now in the midst of a capital goods recession,” writes Marshall Auerback, “capital expenditure, particularly in high tech, is in sharp decline. It is falling from an unprecedented lofty peak. It is being slowed down by the sheer burden of debt and the consequent inability to service that debt as saturation dynamics take hold. We have not seen anything approximating this condition in the US economy since the 1930s. The most comparable post-war situation is the bubble economy of Japan in the 1980s, during which a capital expenditure boom (also fuelled primarily by debt) reached an unprecedented 25 percent of GDP at its peak.

“The Japanese analogy is also instructive in many other ways. In the aftermath of such excesses, the unwinding generally persists for a long time and proves surprisingly impervious to repeated interest rate cuts.”

Cutting rates and debasing the currency are the only tools Mr. Greenspan has. Will they be enough to fix what economist Anirvan Banerji of the Economic Cycle Research Institute describes as “the the worst global cyclical outlook in 20 years?” Can Greenspan hold back the cycles of commerce and investment…greed and fear…expansion and contraction…that have marked human action since the beginning of time?

The Fed’s record of protecting the dollar’s value is pathetic. Nor is the history of managed currencies free from sturm und drang. In fact, Elliott makes the point that there have been twice as many financial crises since 1973, when gold was removed from the international monetary system, than before.

Still, who am I to argue with the market? The dollar is up. But Mr. Goupil gave me a clue as to why the dollar has held up so well against the euro recently.

“I’m sorry I am so far behind schedule,” he replied to an obvious question. “But all of a sudden everyone has work they want me to do. Mr. Morrant, for example. I know he’s been planning to redo his kitchen for at least 10 years. Now, he wants to do it right away. I told him I couldn’t do it until next year. So, he asked me if he could pay me for it now…”

“What’s going on?” I asked.

“Everyone wants to get rid of francs before we have to switch next January… You know, if you try to exchange more than a certain amount, they’re going to ask where you got them. And a lot of people don’t want to have to answer that question…”

It is a funny old world, as Maggie Thatcher put it. For now, the dollar’s value rests on hot money…’dirty’ money…and an absurd faith in the chairman of the Federal Reserve. But come January, the ‘dirty’ money in Europe should all have been laundered – thanks to Mr. Goupil and the world currency markets. The hot money may well have cooled off towards the dollar. And Mr. Greenspan’s control over the world financial system may no longer be in question. Most likely, it will be clear by then that the Fed Chairman was mortal after all.

Bill Bonner
Baltimore, Maryland
May 24, 2001

On my way back to Paris…

I asked my friend, Eric Fry, to begin writing the market notes. Eric, editor of Grantsinvestor.com, has his office on Wall Street and watches the markets more closely than I do. Eric will also be the guest host on CNN-FN next week, 9:30 – 11 E.S.T. You’ll see my letter, below, as usual.

From Eric:

*** The new and improved, post-bubble Nasdaq isn’t bulletproof after all. After six straight days of gains, the index finally took one between the eyes, falling more than 70 points. The Dow also staggered a bit, falling 151 points.

*** The real reason for the decline is anybody’s guess. Probably folks just decided to take a break from buying stocks for one day to go on a picnic or to fly a kite. But, according to the mouths on TV, politics is to blame. It seems that Sen. James M. Jeffords, a Vermont Republican, is toying with switching parties to join up with the Democrats because of disputes with the White House. This would give the Democratic Party a clear 51-to-49 majority in the Senate. Jeffords will let us know in which trough he feeds sometime today.

*** Another reason for yesterday’s sell-off may be that business across the board just isn’t very good. Fred Hickey observes, “Ingram Micro, the world’s leading distributor of computer and networking products ($30 billion annually) held their quarterly conference call with analysts this week. CEO Kent Foster stated in no uncertain terms: “We see no evidence at all of a turnaround.”

*** “According to Gartner Dataquest, U.S. PC unit sales fell 3.5% in Q1, the first quarterly sales decline since they started keeping records.”

*** The Fed surveys “professional forecasters” to see where they think the economy is headed. The soothsayers have lowered their forecast for economic growth this year, says the Philadephia Fed, from 2.2% to 1.2%.

*** Profits are headed down, too. High inventories and excess capacity prevent them from raising prices…while energy costs and a high dollar squeeze out profits. In the first quarter of this year, profits were only half that of the year before.

*** Washington Post columnist Fred Barbash takes the grim numbers at face value. “The last I heard, profits were tanking almost across the board as far as the eye could see, especially in technology,” a puzzled Barbash writes in the International Herald Tribune. “Chief executives were complaining of a lack of ‘visibility’ as they handed out earnings warnings.” Although Barbash acknowledges the presumed effect of 5 straight rate cuts and understands the theory “that the market anticipates an economic turnaround even before things turnaround,” he is skeptical that nothing but clear skies lie ahead. So are we.

*** The clear-sailing crowd will not be troubled in the least that the US current account now plumbs record deficits. At 4.6% of GDP, the current account deficit exceeds the levels that our 1980s investor forebears found so alarming. “For perspective,” James Grant observes, “the deficit peaked a 3.5% of GDP in the mid-1980s, a foreign exchange era best remembered for the dollar bear market that preceded a famous stock-market panic.”

*** The palpable, although perhaps not imminent, risk of the current account undermining the dollar’s value prompts Jim Grant to wonder, “What are the risks to a natural owner of dollars of choosing to own nothing but dollars?” Grant provides an implicit answer to his rhetorical question by contrasting today’s US dollar with 1970s-era Swiss franc.

*** “A quarter-century ago, the Swiss offered protection against the ravages of price inflation. Today, the dollar provides exposure to the sweets of asset inflation. A quarter-century ago, the mythology of the Swiss gnomes lent value to the franc. Today, the vaunted reputation of Alan Greenspan enhances the value of the dollar. In the early 1970s, the Swiss Government charged negative interest rates to dissuade nonresident speculators from holding francs. In 2001, the Federal Reserve is chipping away at the funds rate, but not with the object of discouraging monetary inflows; on the contrary, the current account deficit (and the world’s willingness to finance it) is at the heart of the American system.”

*** More on the dollar, Alan Greenspan and life in the 21st century…below…

*** An early snow-melt looks likely to boost hydro-electric power production in the Northwest, thereby alleviating the California crisis…temporarily. Dennis Gartman predicts: “The media this week will be filled with news of collapsing energy prices in the West…[But] more, not fewer, rolling blackouts will take place in California as the summer progresses, for the hoped for benefits of renewed hydro- power will prove modest and temporary.”

*** “The snow pack is approximately 58% of the 100-year average in the Northwest…” Gartman continues. “Once the market realizes that the reservoir elevations are not where they normally are at the onset of summer [and] that the snow melt has stopped in early July as opposed to the end of August…prices will resume upwards again and rolling blackouts will resume.”

*** Why trust in God to fill the reservoirs when you have lawyers on staff? The Wall Street Journal reports, “California’s two top-ranking Democratic state lawmakers sued the Federal Energy Regulation Commission (FERC)…to force the FERC to cap wholesale electric power.” If Greenspan can establish a “just and reasonable” interest rate for the entire economy, how come FERC can’t pick the right electricity rate for a state with only 30 million residents?

*** Maybe tech is getting a little too hot. Yesterday, my office received an “Important Safety Recall Notice” from Dell Computer notifying us that Dell is recalling “certain batteries” that power certain kinds of Dell laptops. It seems that the defective batteries “are subject to overcharge, potentially causing them to overheat, release smoke and possibly catch fire.”