The recent downturn in housing and the accompanying mortgage security crisis are merely the exposed tip of the deep irresponsibility at the center of our financial and political markets. The housing downturn is a superficial crisis that has exposed the fundamental financial imbalances produced by the incompentence and greed at the center of our economy. These imbalances are threatening to trigger a global crisis.
Although the fed's recent reductions in the Overnight and Discount Rates are large, rate reductions alone can not solve the underlying problems below the housing and mortgate security downturns. The rate reductions are a bone that the fed threw to the stock market. The recent fed rate reductions have accelerated, not diminished the actual crisis.
In normal times, these fed moves might work. Wall Street will not know what the mortgage securities are worth until the real estate market stabilizes, and that will not happen for at least 18 months. Sales in the real estate market depend on mortgage securities to fund their loans. The interest rates on real estate depend on the perceived risks and relative values of the mortgage securities. The fed reductions would normally reduce risk to all of the players in this chain of market relationships. If times were normal.
Rate reductions would be ok, if the US were alone in world and lived in a bubble. But at least 20% of American debt has foreign funding sources. China, England, and Saudi Arabia are holding trillions of dollars in their national reserves that are plunging in value. The fed's rate reductions, while propping up domestic credit, are accelerating fall of American securities, and American credit-worthiness across global markets.
The real problem, below our domestic and foreign credit crisis, is that the fundamental engine of American profitability is based on rates of growth that have proven to be unsustainable in the present, let alone into the future. These unsustainable growth rates have been fueled and funded by low-wage foreign labor, low interest foreign loans, and economic trickery with our retirement money. It appears that our citizens are rejecting the unlimited movement of foreign labor into the US, and our foreign lenders are looking to reduce their exposure in dollars.
During the last 20 years housing prices have been rising rapidly on a spiraling updraft of housing prices. To the forces of demographic growth and cheap money, another key source of funds behind this economic updraft is the massive amounts of liquidity injected into the equities market when Congress deferred taxes on stock investments made for retirement purposes. This alone pumped 40 billion a month into equities during the height of the dot-com boom.
Rising housing prices have been supported by this ever-expanding supply of market liquidity and credit to maintain upward pressure on prices. Between 1989 and now, this combination of economic tricks was sufficient to steadily push housing prices up. The 401k mutual fund money has also distorted the value of stocks, pushing equity prices higher than honest valuation merits, and contributing significantly to the dot-com bubble.
This monthly flow of tens of billions of 401k money into equities has also contribuited significantly to the speculative character of today's market. Despite this massive liquidity, the upper limit of housing price growth has been reached. At this point it appears that there is not enough liquidity nor credit in the US, or any will in global market, to maintain upward pressure on housing prices. The housing market reached the size where there was not enough buyers, nor credit, to continue further expansion.
This rise in housing prices has been going on for decades, but was supercharged after the dot-com bust. It was after the bust that the housing bubble was initiated to carry the economy across the down time of the dot-com bust.
After starting the housing bubble, Greenspan had five years to bring rates up sufficiently to quash the radical speculation in housing, defend the international value of the dollar, and build a sufficient rate cushion to allow future rate cuts in a downturn like the one we are now facing. Greenspan failed to respond.
The reason we are in this crisis now is that Greenspan did not raise interest rates enough as the economy rose out of the dot-com bust, but instead kept rates low, and ran the housing bubble through the roof.
This allowed speculation to seriously distort housing and housing securities while simultanously weakening the dollar. By not raising rates during the housing run-up, the fed now finds itself poised between a weak dollar and a weak market while maintaining historically low interest rates. This position neutralizes the ability of rate cuts to productively stimulate markets without seriously damaging the value of the dollar.
This means that housing prices for the last 20 years have had nothing to do with actual demand or value. Prices were established and driven upward by debt-based speculation, rather than responsible investment. The housing run-up was based on naked speculation fueled by cheap money.
We are experiencing an rather rapid reversion of prices in the housing market from speculation back to prices based on the level of sales that can be supported by the actual wealth of average individuals in society, and what they can responsibly purchase.
Unfortunately for our housing market, the middle and lower classes have been stripped of their share of the national wealth during the last 30 years, and are incapable of restarting the housing market, let alone maintain consumer consumption on their diminished share of the nation's wealth without a fat line of cheap credit.
The reversion of prices to normal market conditions has not only exposed millions of homeowners to foreclosure and made the value of all mortgage based securities uncertain, but it has triggered a global "moment," a global realization that the American markets and financial system are not properly valuing assets, or responsibly structuring credit and growth.
This has made it vitally important to every player in the global economy, including nations, global investors, and global business interests, to immediately ascertain the actual value of all American assets, especially the dollar. This realization has exposed all american assets, especially the dollar, to a radical reevaluation across global markets.
Although the Fed's recent rate reductions have marginally shored up domestic credit markets, they have destabilized the international institutions holding mortgage securities by significantly undermining the value of their dollar holdings. This has damaged global confidence in the dollar, and has intensified the necessity for international financial institutions to reassess not just the value of the dollar, but the centrality of its role in international transactions.
This does not matter as much to domestic financial institutions, but it puts international holders of dollar-denominated securities in a position of getting screwed by either outcome: If the securities fail, they are screwed, and if the securities are preserved by devaluing the dollar, they are also screwed.
The fed's rate reductions were the final trigger that caused global markets to finally seriously reassess the value of the dollar, after over a decade of weakness. This reevaluation has in turn exposed the fact that the massive US corporate profits taken during the last 10 years have been made in an economy that is drowning itself in debt.
The recent massive downturn in the dollar signals the world has had a change in their perception of not just the dollar, but of the American economy itself. This has caused such a precipitous drop in the dollar that major players can no longer just reevaluate the value of the dollar, but are now reassessing the dollar's central position in global markets.
Why we are here
The American expansion during the last 30 years can be characterized as a frenzy of consumer consumption married to a frenzy of corporate profits. The consumer and corporate elements of the expansion are connected at the hip, both in economic, as well as psychological terms. Each side requires the greed, ignorance, and justification of the other side to maintain its own position.
Consumption and profit are, in fact, different manifestations of the same selfish irresponsibility. The consumer mentality expresses lower class selfishness by exposing that "our" working class has accepted debt shopping and "consumption," as the nature and goal of life. Simultaneously, our massive expansion has revealed that our elite and business classes consider the nature and goal of life to be the pursuit of unbridled growth, profit, and power.
Both sides of our great expansion, the worker and the businessman, are dependent on gross consumption, debt, and irresponsible "profits" for their mutual existence. Both sides of this sick equation have been based on nothing more than irresponsible growth, fueled by massive demographic expansion, funded by irresponsible speculation.
This irresponsible expansion has created a vast American private debt that exceeds our ability to repay, either today, or out of projected future profits. The bursting of the housing bubble has made this very clear to all disinterested observers.
In other words, our expansion, and the profits generated by the corporations for the last 20 years, have been funded by expanding consumer debt, which until recently was collateralized by the speculative growth in the value of the housing and equities markets, not by actual economic growth and expansion of the wealth of consumers.
Although our population growth is very real, the real growth in the overall wealth of our country has been a mirage funded by sub-prime loans and cheap money.
The last 30 years of massive demographic and economic growth has been used as cover by our corporate aristocracy to put aside our democratic practices, and loot our economy, drain our infrastructure, and move the bulk of the wealth of our country from the bottom and middle to the top. That is the real root of our housing, credit, and currency crisis.
Our country has plunged itself into an unsustainable downward spiral of massive debt to fuel this 30 year upward spiral of profit and physical expansion that pushed corporate profits and consumer consumption to historical levels. Now the world is going to balance the books, because we have refused to.
The result is that the housing bubble is triggering a cascading collapse that is traveling through our set of nested economic imbalances. The bursting of the housing bubble has sparked a mortgage crisis which has initiated a credit crisis which is triggering a reevaluation of all dollar-denominated assets in the world.
At the end of this cycle, we are going to find that our inability to face our housing, mortgage, and credit bubbles has significantly diminished the willingness of foreigners to finance American consumer credit. It started in housing, moved into credit, and is now collapsing the value of the dollar.
This in turn has exposed the world to the sad fact that American corporate profits are being sucked out of an economy that is, and has been, losing money.
So, independent of the vastly expanding profits of the corporations, the ultimate basis of American profit has been exposed as a pyramid scheme based on the availability of ever-expanding debt to payback previous debt. This is now common knowledge among global investors. The inevitable result, which we are now experiencing, is that the value of the dollar is shrinking faster than corporations can increase their profits to offset the actual loss of value.
The Fed's infusions of cash and lowering of the discount rate will do nothing to re inflate the speculative bubble in housing, nor will it give the market clarity as to the actual value of the mortgage securities. But it will accelerate the dollar's loss of value, which will have the overall effect of tightening, rather than loosening, credit.
The only thing that will save millions of families from foreclosure and mortgage securities from collapsing, is for housing prices to continue rising in value. That's not going to happen.
The real estate market can no longer depend on the middle-class to pull up the nation by its own bootstraps, as the middle-class has been robbed of their share of the national wealth.
Credit for the real estate market is no longer based on national or local conditions. American credit is now subject to, and dependent upon, the changing global estimation of the value of the dollar, and the risks associated with dealing in dollars, to obtain funds for consumer credit. The world is not only demanding America pay more for the credit necessary to maintain our consumer spending, but they are making much less money available to fund American debt.
These dollars, which would normally loaned back to the US by our dependent trading partners, are now being invested in better, more secure opportunities.
It appears that the big holders of dollars are dumping them on the market, not by selling dollars, but by buying huge amounts of global commodities with their excess dollars. I believe that the recent large price movements in global commodities indicate that the big global players are offloading massive amounts of dollars into commodities such as oil, copper, wheat, gold, and a range of other commodities.
It looks to me like the Brits, Arabs, and Chinese are selling dollars without going through the foreign exchange markets by buying commodities that they will later sell for anything but dollars.
These radical increases in all global commodities prices are working through the markets as I write, and are a direct indication in the global loss of confidence in the dollar.
Long before housing could stabilize, in a couple of years from now, the shocks from the housing and credit markets on the global economy pose a significant likelihood that the value of the dollar will drop sufficiently to limiting the credit available to restart housing, thereby stifiling any housing recovery, and putting significant downward pressure on our economy for years to come.
The net result of all this will be a significant decline in American economic activity accompanied by a significant upturn in prices. This portends a long downturn, not just for the American housing market, but of American consumption itself.
It appears to me that we are heading into a significant downturn that will be followed by an extended period of stagflation.
We are entering a very dangerous situation where it is highly possible that the world will retract a significant amount of our credit until our economy, rather than our corporations, actually becomes profitable.
The fed's hands are effectively tied. If the fed raises rates, the dollar will proportionally stabilize, but the housing speculators will scream in pain. If the fed drops rates, the dollar will plunge, and our domestic party will continue for a bit longer, as the world burns dollars around us.
The fed is damned if they do, and damned if they don't, raise rates.
At this time two things are clear: Housing will continue to fall for 18 months to 2 years, and the credit crisis will deepen in response to the fall in value of both housing and the dollar.
At this point no amount of Fed intervention will prevent the various markets from falling precipitously. The failures of the housing, auto, credit markets and the collaspe of the dollar will eventually pull the dow down to between 6800 and 7200. I see this as the market level that our actual economic activity will support. I see us hitting this low by June of 2008.
American economic weakness presents a significant risk of bringing down unstable foreign economies, such as China, and likewise, economic disruptions in China could cause even greater disruptions in our housing, credit, and currency markets that would make our present imbalances seem insignificant.
Our indebtedness and economic trickery is exposing the whole world to a significant risk of a sustained global downturn in economic activity, if not an outright global depression.
But nobody really knows just how these massive American debt imbalances will work out. The disturbing fact is that the US is not doing a damn thing to address or change the fundamental causes of our dangerous position: Irresponsible growth based on speculation.
That's where we are right now, between a rock and a hard place. Uncertainty and instability will characterize the markets until the US stops buying on credit and moves the basis of consumption off debt.
This is why the Fed's pumping the financial markets with cash, and dropping the interest rates are so disturbing. Rather than paying the bills, and only growing responsibly from now on, the fed is trying to grow our way out of this jam with cheap money, when it was our irresponsible growth based on cheap money that brought us to this crisis.
Unfortunately for our corporate devils and their consumer minions, we have run out of the money, energy and water with which to grow out of the hole our previous growth has put us in. We are tapped out, and this era of irresponsible speculative growth is officially over.
It's time to pay the bills
The Fed cannot stop the global markets from reevaluating American housing, American credit-worthiness, the dollar, and ultimately the global role of the dollar. Consequently, the value of all assets based on the dollar are now uncertain.
This reevaluation is now reverberating around the all of world's interdependent markets. It will only slowdown and stabilize when the repayment rate on our debt exceeds the rate at which we are borrowing.
And that's not going to happen voluntarily.
Hang on tight, this is going to be a crazy ride.