Now Playing: Cognitive Dissonance and Wishful Thinking   (July 5, 2011)

This month's Double Feature: Cognitive Dissonance and Wishful Thinking, two thrillers about floundering Central Banks and frantic Ministries of Propaganda.

The global economy is now dominated by Cognitive Dissonance and Wishful Thinking on a grand scale. The push to convince us of "normalcy" and a "return to growth" are strongly reminiscent of the Phony Year of 2007, when the subprime mortgage meltdown was toppling the entire global credit market, yet we were constantly reassured by financial authorities that it was all safely "contained."

We were promised a happy ending to the second feature, Wishful Thinking.

As the second half of 2011 begins, the level of cognitive dissonance between what we're presented as reality by the central banks, media and government--that the "soft patch" is over and the "recovery" is once again full steam ahead--and what the data says is extreme.

All available evidence suggests that credit is tightening as fear awakens in the credit markets. To mention just one such point: as the excellent Acting Man financial blog noted recently, the yield on short-term Treasury bills is now negative, meaning that investors buying these bonds are paying for the privilege of having the U.S. Treasury as the counterparty.

This strongly suggests they care only for security, that is, getting their principal returned to them, and not at all for yield (interest on their cash). If the global credit markets were healthy, why would anyone choose a negative yield?

In Survival+, I used the word derealization to describe the disconnect between what we experience and what the propaganda/marketing complex we live in tells us we should be experiencing.

The Status Quo--in the U.S., in China, and in Europe--has staved off reality for a full 2.5 years since the 2008 global financial meltdown via by adding unprecedented sums of public debt to "solve" the crises of private overleverage, overindebtedness and malinvestment.

This "fix" has already failed, but the EU has bought a few months at best with the latest bailout of Greece's Kleptocracy.

Note that the time bought by each new "fix" is diminishing with every intervention. I have likened this process to the onset of diabetes, where the body's sensitivity to insulin declines even as the body attempts to overcome the desensitizing by producing more and more insulin. Eventually the system breaks down.

Massive, unprecedented interventions bought 2.5 years of bogus "recovery" 2008-11, but that level of intervention--roughly $100 billion a month in Federal Reserve "stimulus" and $130 billion in Federal borrow-and-spend stimulus a month--cannot continue at that pace, as it is destabilizing the entire system.

In the same pattern of reduced effect from greater applications of borrowed money, the EU bought a year of "recovery" with last May's bailout of Greece. Now the latest ECB bailout, which exceeds the previous bailout in size and complexity, is buying perhaps two months before the crisis reappears, like a 1950s movie monster, even stronger and more destructive.

This systemic decline in sensitivity to central-bank/State interevention suggests the end-state of "extend and pretend" and "mark to fantasy" is drawing nearer, as the next round of stimulus, quantitative easing, bailouts, etc. will buy considerably less time for the Status Quo than the last fix.

At some point, the announcement of a new bailout or Fed "fix" will boost spirits and markets for a few days rather than a few months. At the very end of this process, the announcement of the next "fix" will crash the credit and stock markets because participants will finally understand that the fixes are only floundering, last-ditch acts of desperation which have zero chance of actually working.

In other words, neither Cognitive Dissonance nor Wishful Thinking have happy endings.

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