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A Doom and Gloomer Gives Up: Happy New Year!   (January 1, 2007)

OK, I admit defeat: there will not be a recession in 2007, or ever again. The U.S, and global economy will continue on an upward trajectory of strong growth for the foreseeable future, powered by the same formula which has worked its magic for the past six years: unlimited money for borrowing, low interest rates and easy lending standards.

We all know how this has worked: as trillions of dollars of freshly created debt floods into the global economy, assets--real estate, metals, stock, bonds, collectibles, companies, you name it--rise in value, pushing equity higher, which then enables the owners to borrow even more.

Doom-and-gloomers (yes, like me since 2003) keep insisting the imbalances created by this global debt bubble will bring the system down, but ha! There's no limit to the debt the average American can support. As this chart shows, if debt continues at its current pace, it will reach 100% of disposable income in a few years.

To which we boosters and cheerleaders say: so what? American consumers will just borrow more to make their debt payments; what's the big deal?

(I found this chart over at Fred Roper's Satellite Sky blog, and made a modest extrapolation. I recommend his commentaries on national healthcare and other topics.)

OK, so actually I'm still a doom-and-gloomer. Over the past year, I have posted chart after chart reflecting the uptrend in U.S. bond yields, which presage a trend of rising interest rates. As interest rates rise, so do payments--for consumers, corporations and the government itself. As interest payments rise, the ability of new borrowers to keep jacking up asset prices falters, and asset prices actually begin falling. (Look no further than the housing market for evidence of this.) As assets fall in value, owners find they can no longer borrow more money; in fact, as this chart shows, their disposable income shrinks rapidly as servicing their existing debt takes an ever-increasing chunk of their income.

Less money available to spend means less money flowing into the economy. This contraction of spending leads to a contraction in the economy, which is called--oh, dread!--a recession. Back in the distant, misty past of pre-bubble economies, this cycle of growth of debt and contraction/paying down of debt was called "the business cycle." But the powers that be found the down years of such cycles politically inconvenient, so they decided to rid the world of the business cycle by never encouraging debt to shrink.

So here we are, running on a treadmill of ever-increasing debt--and the treadmill, despite all the frantic manipulations of the powers which have benefitted so greatly from the debt expansion, is speeding up. As it speeds up, consumers find a walking pace is no longer sufficient; now they have to start running. And as they tire, they start falling off the treadmill into bankruptcy and foreclosure. Sure, the wealthy will be gliding along, barely noticing the thinning crowd; perhaps they'll even be pleased to find less people on the beaches of Maui and Ibiza.

I now introduce "the Greenspan Clock." For those of you with short memories, Fed Chairman Greenspan voiced a famous concern in early December, 1996, that the stock market--at that point, barely starting its final stratospheric bubblicious ascent--was in the grip of an "irrational exuberance." It took 3 years and 4 months for that irrational exuberance to play itself out.

Many of us began voicing doubts about the sustainability of the housing/asset bubble in mid-2003. We have been mocked and scorned as doom-and-gloomers, pocket-pundits who cling to outmoded views of finance and economics, views which have been banished to history's dustbin by the eradication of risk and high interest.

The hour hand of the Greenspan Clock has clicked into 2007, three years since the unsustainable nature of the U.S. and global economy became too obvious to ignore. Is the 3.5 years timetable of "irrational exuberance" about to play itself out once again? Stay tuned.

Note to readers: Since launching this modest blog in May 2005, site traffic has increased from 28,823 visits in 2005 to 453,793 in 2006. Bandwidth (data served to visitors) jumped from 2.5 GB in 2005 to 97 GB in 2006. Thank you once again for your readership, and I hope you'll stick around for the 2007 oftwominds.com show.

For more on this subject and a wide array of other topics, please visit my weblog.


copyright © 2007 Charles Hugh Smith. All rights reserved in all media.

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