And things quietly appear to be getting incrementally worse

Sigh! It appears that the appearance of agreement between Russia and Ukraine is still just that, with final details of exactly for how long, and at what gas price remaining to be finally defined.  The Moscow Times carries a quote from the Ukrainian Foreign Minister
"Everything is extremely unpredictable," former Ukrainian First Deputy Foreign Minister Olexander Chaliy said by telephone from Kiev. "This is leading to huge uncertainty. This is all very bad for Ukraine." Chaliy coordinated talks with Russia on gas issues from 1998 to 2004.
It appears that this may note bode well for the current government.
"This is a big problem for Yushchenko," said Peter Bobrinsky, head of equity sales at Kiev-based investment bank Concorde Capital. "When you swim with the sharks and you start bleeding, you're in trouble."
Part of the problem appears to be that the initial agreement was achievable because Ukraine gets some gas from Russia and some from Turkmenistan.  At the time the Ukrainians agreed to pay a higher price for the Russian gas, but, by blending this with gas from Turkmenistan, which retained a cheaper price, the overall increase could be kept to an acceptable level.  Unfortunately the Turkmenistan government would now like to be paid at the going rate also. The fact that Ukraine has also increased its take by 70 million cubic meters to cope with the cold, which the Russians must allow since otherwise their customers in Western Europe would feel the pinch again,  does not make the negotiations any more friendly.
 Particularly since Moscow itself is having to restrict supplies, at levels projected to reach 500 MW by Wednesday, due to the extreme cold. Given further that almost all Russian known deposits are now reported as being exploited, this has further connotations.
"As much as 98% of registered oil and gas deposits are now being developed," Vladimir Litvinenko, rector of St. Petersburg State Mining Institute, said. Litvinenko said a federal program should be launched for geological prospecting of deposits, with involvement from the state and the private sector.
 "The state, which levies the so-called 'flat' mineral resource tax, must allocate funds for the recovery of resources, create means for the funds to be used in new areas, and determine the terms for access to new sites," he said.

Unfortunately, as we have noted before, it is not just a lack of immediately known reserves that is limiting the possibilities of future supply.  An article in the Sunday Times points out that the majors are now paying for more exploration, and paying more for it.  

Seismic surveys, which cost about $2m a time, are designed to detect the kind of geological structures where oil might be found, such as rock formations whose outline resembles an upturned teacup.

Owners of offshore drilling platforms, such as Rowan, which offers the Gorilla and Tarzan rigs, are also among the first to profit during an oil-industry upturn. The most sophisticated deep-water drilling rigs cost up to $500,000 a day to hire, compared with $150,000 two years ago. With the world fleet of such rigs numbering less than 100, demand far outstrips supply. . . . . . . The going rate for hiring a floating rig is $250,000 a day. Two years ago it was $50,000 a day

And as for manpower
Last year, only 200 petrochemical engineers graduated from American universities compared with thousands in the industry's 1970s heyday. Britain produced 88 from three or four universities.
 And to give hope to those of us who are chronologically challenged, they note that pay rates are thus rising, and that the average age of the American oil worker is over 50.

Most of this information is not new to these pages, but I gave the quotes since some of the numbers have changed. It also indicates that those who expect a sudden increase in production to lower pricesmay expect to be disappointed.

Europe, March 2005:

Well, I guess we can tell which country is trying to kick the oil habit.

I wonder if I could ship tree starts through the mail?
Me thinks some folks will be needing some soon.


I think the photo is not showing a lack of trees, but actually a glut of snow...i.e. Europe is in a deep freeze at the moment...and heating energy is use is high.

But the photo says march 2005.
You could be right, but I doubt snow would be all the way down to southern France and Italy in March of last year.

Anyone else have a guess?

Well, we have all been reading about how global warming is decreasing the power of the Gulf Stream to warm Europe. I'm no oceanographer, but as I understand it: With increased average temperatures, icecaps and glaclers melt, dumping cold water onto the surface of the Atlantic, and counteracting the northward flow of warm water from the Caribbean via the Gulf Stream. Here's a link:

Thus, while global warming may rise average overall Earth temperatures, it could lead to colder European winters if this scenario is what's playing out.

France and Italy no doubt got snow last year in March.  Spain has been getting very heavy snows in the Pyrenees since 2001 which has resulted in extremely unusual snow falling in Barcelona city area and even on the island of Majorca in February 2003 and 2005.  There has not been a previous snow in Majorca since 1985.  Last year brought freezes to the southern mountains around Malaga.  So far this year, Barce' has received snow on 26 Jan.  Only the higher mountain peaks south of Granada usually get snow, but this year the range is completely white from Granada south all the way to the coast.  Snow even reached the lower mountain elevations ringing Malaga and Marbella.  I have also seen reports saying some mountains in Morocco and Libya have had snow this year too.
I don't know what point lads is trying to make but you can find more details about the picture here
Stuart, I have a question for you.
Sorry, didn't mean to post that. I'll post question in more relevant(future)thread.
Seismic exploration and contract drillers/equipment rental companies, pipeline constructors and most field service companies in general (onshore and off) are the first companies to drop rates and they often experience severe losses during downturn years.  The reason there's only a very limited number of offshore drilling rigs is that they are tremendously expensive to maintain, especially when they are not being used. If the majors would pay more attention to long term needs for production and reserve replacement, they could more evenly distribute exploration and drilling work loads over the downturn years and take advantage of significantly reduced rates. I suspect the reason they don't is that their shareholders won't accept high expenditures during downturns and that their profit does not depend too much on the service market rates.  The majors simply pay the rates and pass the higher costs on.  The public continues to buy gasoline when the sales price is high or low, so there's really no collective incentive for the majors to optimize expenditures over the long term.

I can't tell you how many collegues left the oil business during the oil market crash in the 80s to make orange juice for the Coca Cola Co, etc.  In 1985 I worked for 3 service companies in Houston and each went broke during that same year.  Nobody with any brains stayed in the business.  Oil compaines paid a massive cost in loss of experience, which in my opinion, has never been recovered.  In 1986 after I couldn't pay my mortgage for 6 months, I left the USA for South America, Saudi Arabia, Asia and Europe, where I find  there is a much longer term view of corporate strategic needs, so they tend to hang on to experienced people rather than cut the higher cost workers at first opportunity, as does USA Corp.  Now with Peak Oil coming on, I'm average age+2, and I only see a limited time to continue in this business myself. I certainly can't see much of a future for any new graduate getting into this now.  Its going to be a few busy years then a quick run off a very high cliff.  So, for now, I'm as busy as I want to be, I just raised my day rate, and I'm working on a deal to move to a completely unrelated industry to build what may the largest plant to be constructed of its type.  I don't have a habit of looking back and I am budgeting a massive alternative energy feasibility study for the new plant.  If I don't find it, it may not get built, but then again, It'll be close to Venezuela.  

Its going to be a few busy years then a quick run off a very high cliff.

This is the way every noble lemming plans his life.
Stay the course.
May the LemmLord greet ye with open paws.

Ya.  I liked the lemming analogy. Guess I still had it in the back of my mind, huh?  But no, I'm making the big switch.  Its long overdue.  I'm just waiting on financing... IIHAPFETISTIBR. (if I had a penny for every time ...)  If that doesn't develop, there's some terrific cliffs over on the Algarve coast.  They actually look like it'd be fun.  
Italy Eni:  Russian gas delivery shortfall today
6 MMM3 (212 MMCFD)

Last 2 weeks;|0?xoidcmWopk&catId=-1073759905&cntTypeId=1005&portalId=0&lang=en&sessionId=11083780

I was particularly struck by the following quote, "As much as 98% of registered oil and gas deposits are now being developed," Vladimir Litvinenko, rector of St. Petersburg State Mining Institute, said.

The Hubbert Linearization (HL) method was 93% accurate in predicting post-1985 cumulative Russian oil production (using only 1985 and earlier data to predict post-1985 production).  This same method suggests that Russian oil production will be down to about one mpbd in 2020, versus about 9.5 mbpd right now.  

Will there be new production put on line in lightly explored basins? Yes.  But there are several problems:  (1)  it will take a long time to bring on new production; (2)  as the above post discussed, there are critical personnel and equipment bottlenecks and (3)  I seriously doubt that production from new fields will have a material effect on the impending collapse in Russian oil production.  

This is why I think that a very serious Peak Oil crisis is months--not years--away.

Because financial markets are based on expectations [as opposed to realities], they can turn on a dime, and generally they do so. For example, early in 1929 almost everybody was fat, dumb and happy. Irving Fisher, one of the most prominent economists of the day, had uttered a famous phrase about permanent prosperity and not worrying about market levels that by historical levels were grotesquely out of line. A few, a very very few investors kept their mental health and pulled money out of the market during 1928 and before October 1929.

The crash of 2006 [or it could be 2007; there is no way to know which year] when it comes will blindside most of the pundits, except for the chronic bears. Bears (people who preach gloom and doom and predict the market will go down) have a bad reputation, because most years stock markets go up. Of course, if every year you predict the market will crash down, sooner or later you will be correct.

I have no idea of what the exact scenario of the coming crash down in financial markets, nor do I know what month or even year it will come. But do you want to be afraid? Do you want to be very afraid. Sorry, that is not enough. If I am correct, a few years from now we are likely to see:
Dow Jones Industrial Average 1,000 to 1,200 range
Prime interest rate in U.S. 12% to 18%
Rate of inflation as measured by GDP deflator 15% - 25%

Why such cheer (That is a joke.) on my part? Primarily because of the huge and increasing debt load in the U.S. There is exactly one way to deal with excessive debt and avoid another great depression, and that is to have an unexpected and very large increase in the rate of inflation.

What will the future look like? Go back to the 1970s, after oil prices jumped. What did we see for the next ten years after 1973? Stagflation. What do I see for the next ten years. Stagflation much worse than the 1970s. Forget about economic growth, because with oil above $100 per barrel there will be no real economic growth. Oh, by the way, I think the odds are about five to three that the trigger factor for financial collapse will be the recognition that the housing market is kaput. Note that this issue is much more one of perceptions than reality. With financial markets, self-fulfilling prophecies come true with a vengeance.

How long did it take for Japan to recover from a collapse in real-estate prices? Fifteen years? In fact it has not yet fully recovered.

When will the U.S. and the world recover from the coming stagflation? I do not think that is the correct question. The big question is how well we will make the transition from cheap fossil fuels to other energy sources. The answer depends on political questions that are anybody's guess.

How did that ancient Chinese curse go? "May your children live in interesting times."

If Ben Bernanke were to begin throwing money from helicopters in order for the US to inflate its way out of debt, what do you think would happen in the bond market? The US would collapse if it could not continue to attract foreign purchasers of new bonds. What sort of risk premium do you think they would ask for if the US were actively trying to debase its currency? Interest rates would skyrocket, which would be strongly deflationary. High interest rates and retrenchment due to uncertainty could take liquidity out of the economy far more quickly than Helicopter Ben could possibly inject it. This strategy would be political suicide.

Rather than trying to inflate the currency, Bernanke will be under political pressure to cut interest rates, but even cutting them to zero would not be enough, as the Japanese discovered. Nominal rates can go no lower than zero, but when inflation is negative the real interest rate can still be high. A corollary of this is that cash appreciates whether or not it is held in a bank, which would give individuals who still have cash no incentive to keep in the system. The withdrawl of cash combined with copious amounts of bad debt - from the crash of the housing market among other things - may well cause bank failures, which would cause further cash withdrawls and further bank failures. Before long, the US begins to look like Argentina.

There is no way out of a deflationary depression as the huge imbalances which have built up begin to unwind. The future will look a lot more like the 1930s IMO than the 1970s, although this depression will probably be compounded by natural resource supply interruptions and extreme price volatility. Deflation puts downward pressure on all assets relative to cash, but price reductions would not lead to greater affordability as purchasing power would fall even more quickly for most.

For those burdened by debt - a large percentage of the population - interest rates would be crippling. As credit spreads between high and low risk debts widen with a flight to quality, nominal rates for high risk debt could increase dramatically, which would be in addition to the effect of negative inflation. Purchasing power under these circumstances would fall off a cliff.

We have a great deal more to be concerned about than a 3% annual decline in oil production would suggest. A financial crisis does not play out as a slow squeeze. Vicious circles of positive feedback driven by fear can pick up momentum very quickly, leaving very little time to adapt.

I agree with most of your comments, and your scenario may indeed come to pass.

However, a study of 4,000 years of the history of money shows one great eternal truth: The history of money is the history of inflations. True in the time of Hammurabi, true almost always except for abnormal periods such as 1815-1913 when there were no major Eurpean wars, and also there was the gold standard and the increase in value of the English pound during most of this hundred years--a very unusual time.

Big disruptions bring big inflations.
American revolution . . . hyperinflation.
Civil war . . . hyperinflation in Confederacy, extreme inflation in the North

Note that in terms of 1900 dollars, the dollar in the year 2000 is roughly worth 4 cents.

If the choice comes to 30% unemployment or 30% inflation, which way do you think the Fed will jump.

Oh, BTW, I like your idea of dropping money from helicopters; it would be much more efficient and effective than our current income redistribution programs. Also, it would work great on reality TV . . . .

Bernanke like Greenspan will prefer 30% unemployment over 30% inflation. Sadly the value of the dollar has always been more important than the worth of persons.
Since when is there a necessary opposition between the value of the dollar and the worth of persons? Do you know who is the most hurt by inflation? Elderly people on pensions. After them, just about any working stiff whose wage fails to keep up with rising prices is hurt. The rich can always move some of their capital into vehicles that will protect them from inflation.

Unemployment is terrible for the unemployed. Inflation is terrible for just about everybody.

"Inflation is terrible for just about everybody."

Not quite.  It depends on how deep in debt you are, and whether the interest rate for your debt is fixed.  Let's assume it is and do a little math.

Let be:

Inc(0) Income at t=0
FP(0) Financial Payments at t=0 (principal + interest)
PGSB(0) Price of the Goods & Services Basket you consume
PI(0-1)  Price Inflation of your basket from t=0 to t=1
So PGSB(1) = PGSB(0) (1 + PI(0-1))
II(0-1) Income Inflation for you from t=0 to t=1
So Inc(1) = Inc(0) (1 + II(0-1))
Finally FP(1) = FP(0) by initial assumption

Assuming zero savings rate at t=0
Inc(0) = FP(0) + PGSB(0)

To be better off or at least break even, you want
Inc(1) >= FP(1) + PGSB(1)
Inc(0) (1 + II(0-1)) >= FP(0) + PGSB(0) (1 + PI(0-1))
Substracting Inc(0) = FP(0) + PGSB(0) from both members
Inc(0) II(0-1) >= PGSB(0) PI(0-1)
II(0-1) / PI(0-1) >= PGSB(0) / Inc(0)
Replacing above PGSB(0) = Inc(0) - FP(0)
II(0-1) / PI(0-1) >= (Inc(0) - FP(0)) / Inc(0)
II(0-1) / PI(0-1) >= 1 - (FP(0) / Inc(0))

So, if right now your financial payments take 25% of your income, and "your" CPI rises by 10% over a certain period, you break even if your income rises by 7.5% over the same period.

The relevant questions are:
What proportion of Americans are net debtors?
What's their average Financial Payments/Income ratio now?

Of course, the biggest losers are very poor people with no debt whatsoever and whose Good and Services Basket consists of the bare essentials, which are the products whose price will rise most.

The next biggest losers are net creditors, i.e. bondholders.  Who are the main holders of Treasuries? Japan's and China's Central Banks.  They do not vote nor will they turn to the streets.

Yes, good point. But as I mentioned elsewhere, inflation helps only with existing fixed interest debt. It makes it very hard to take on new debt. And I have little doubt that the U.S. government will need to sell vast amounts of new debt for years to come. Thus, I don't expect the Fed to inflate the currency.
SouthSider, I've already addressed that issue in another post to StoneLeigh here:
That means the outcome of my scenario must be slightly adjusted.  Rise in oil prices on NO demand from the US due to  high inflated dollar price that nobody in the US can afford to pay, but oil at same price in other currencies not much affected by losing USD trade, followed by .. lower life standards forever in US, while  standards drop rapidly in Europe, or Europe must disengage from US trade altogether, only trading with China and Japan and other Asian countries, and the oil producers and maybe Brazil and Canada.  Forget invading Iran.  New target is Canada.  Canada, where are your WMDs?  Until everyone runs out of oil.  Its getting far too complicated for this engineer.  ECONOMISTS or US MILITARY  PLEASE STEP IN NOW.
I don't think the Fed can choose between 30% unemployment and 30% inflation. Ben Bernanke may think he has that kind of control, but I see him as quite powerless to prevent a tidal wave of events from washing over him. As I was trying to explain above, even a deliberately inflationary strategy such as printing money would lead to deflation as liquidity would be withdrawn from the economy more quickly than it could be injected.

I see deflation as inevitable, but deflationary episodes are generally rapid downward spikes which do not necessarily last for a long time. I would argue that the Japanese bubble has taken as long as it has to deflate because it was cushioned by a thriving export market and because they had such an enormous surplus to burn through before the bad-debt situation would really have to be faced head on. I would expect the final resolution of the Japanese bubble to begin shortly as the former creditor nation has become a debtor second only to the US and its export markets are likely to dry up as the US moves into a financial crisis compounded by peak oil and gas. I would predict another round of deflation and a systemic banking crisis for Japan, but once that deflationary impluse has run its course, hyperinflation may be a real possibility there.

I can imagine something similar for the US, although probably over a shorter time frame as there is no surplus to burn through. The US has already outsourced wealth creation, and would probably not have been able to find healthy export markets in any case as so many other economies would also be impacted simultaneously. If a deflationary crisis eventually leads to the US being cut off from foreign capital and foreign resources (having lost the ability to project power at a distance effectively), and with limited capacity to produce even the necessities of life, then hyperinflation may occur here as well at some point. Stability does not necessarily return just because a deflationary phase comes to an end, although that far into the future uncertainty becomes huge. I think we are in for a rough time for several decades at least.

On the historical point, you might enjoy The Great Wave: Price Revolutions and the Rhythm of History by David Fischer. It's a meticulously drawn history of inflation over the last thousand years, but also very readable. I first read it many years ago and found it fascinating.

Stoneleigh, I'm just wondering if you'd offer an opinion on what the point is of the Fed hiding the M3 come march? If not to hyperinflate then what? Could it allow them to massively devalue the dollar without having as much foreign investment get pulled out as quickly?
Do you really think the M3 slight of hand trick will fool everyone long enough to actually see any delay?  

I see the some indications of a flat spot starting to happen right now.  I'm keeping my seeing eye on the SP500 and my blind eye on Treasuries.  If the FX stays the same, interest rates must go up.  If interest rates stay the same, FX must go up.  If neither happen, then buy gold.  To me the SP seems like a reliable indicator of foreign investment appitite for equities and often indicates the general inversed direction USD:FX conversions will take.  Any feelings on that?

I doubt if hiding M3 will make any practical difference. The Fed may think they can inflate out of the current situation, but IMO any attempt to do so would have the opposite effect.
Hyperinflation + unemployment -> revolution
That path was Germany, 1923 to 1933 with the Nazi destruction of the Weimar republic (using the tools of democracy) as the revolution.

Another possible path:
Gasoline $6 per gallon, unemployment 20%, American cities burn as the Dow Jones Industrial Average crashes down to 550 and National Guardsmen refuse to fire guns at rioters and looters.

Or if you really want to cheer up, consider possible outcomes to the 2008 Presidential election:
Hilary Clinton 30% of vote
John McCain 30% of vote
Pat Robertson on Moral Majority party, 40% of vote and wins in Electoral College

No, I do not have a crystal ball. But I own no stocks, no bonds (though I might buy some TIPs, sorry, Treasury Inflation Protected securities), and I keep the balance in my checking account below $500 in case there comes another bank holiday.

I think FED has learnt his lesson from 1929 and will not let it happen again. 70-s were bad but the 30-s were even worse. They will pick 70-s because that way they will give the chance of the economy to clear by inflation. Everybody does that, I've not seen a single government that picked another way out of its unsustainable debt. High inflation, high interest rates, high unemployment, plumetting dollar...

Actually this has already begun and accellarated precipitously with the appearence of GWB and his war games. But as for now they are keeping it hidden by manipulating inflation statistics (2% a year? tried to buy a house recently?) and as a consequence getting artificial economic growth. The latter and the ever widening interest rates differential will keep the foreign investments flow for some time but everyone is aware that it will not go on forever.

2% a year? tried to buy a house recently?

Houses are considered assets, and asset appreciation is not counted as inflation.

That's interesting, because if I have to pay higher rent or mortage for my new house this seems to reduce my buying power. Which resembles too much an inflation to me. Are you sure?

At least in Bulgaria I know for sure that housing is included in CPI, I find it strange (manipulative?) if it is not included here.

From the BLS site:


7. What goods and services does the CPI cover?

The CPI represents all goods and services purchased for consumption by        the reference population (U or W) BLS has classified all expenditure items into more than 200 categories, arranged into eight major groups. Major groups and examples of categories in each are as follows:        

FOOD AND BEVERAGES (breakfast cereal, milk, coffee, chicken, wine,          service meals and snacks)          
HOUSING (rent of primary residence, owners' equivalent rent, fuel          oil, bedroom furniture)          
APPAREL (men's shirts and sweaters, women's dresses, jewelry)          
TRANSPORTATION (new vehicles, airline fares, gasoline, motor vehicle          insurance)          
MEDICAL CARE (prescription drugs and medical supplies, physicians'          services, eyeglasses and eye care, hospital services)          
RECREATION (televisions, pets and pet products, sports equipment, admissions);          
EDUCATION AND COMMUNICATION (college tuition, postage, telephone          services, computer software and accessories);          
OTHER GOODS AND SERVICES (tobacco and smoking products, haircuts and other personal services, funeral expenses).

Also included within these major groups are various government-charged user fees, such as water and sewerage charges, auto registration fees, and vehicle tolls. In addition, the CPI includes taxes (such as sales and excise taxes) that are directly associated with the prices of specific goods and services. However, the CPI excludes taxes (such as income and Social Security taxes) not directly associated with the purchase of consumer goods and services.

The CPI does not include investment items, such as stocks, bonds, real estate, and life insurance. (These items relate to savings and not to day-to-day consumption expenses.)

For each of the more than 200 item categories, using scientific statistical procedures, the Bureau has chosen samples of several hundred specific items within selected business establishments frequented by consumers to represent the thousands of varieties available in the marketplace. For        example, in a given supermarket, the Bureau may choose a plastic bag of golden delicious apples, U.S. extra fancy grade, weighing 4.4 pounds to epresent the Apples category.

HOUSING (rent of primary residence, owners' equivalent rent

This is what I mean, has been going up pretty much in synchron with real estate prices. If you purchase real estate as an investment then I suppose it is not included in CPI; but if you are buying to live in it, it would be included, isn't it?

Obviously this is what the "owners' equivalent rent" is about. Unfortunately I'm not aware how they calculate it but if I buy a house to live in it, I'd expect it to be correspondent to the mortage I'm paying.

Actually, I live in an area where real estate has skyrocketed, but rent has hardly budged for years. In my neighborhood it now costs about twice as much on a monthly basis to buy instead of rent. The CPI is determined as the change in the the rental equivalent of the house you own. Thus, on a CPI basis, there is virtually no housing inflation here, but the cost to buy a place has risen astronomically. Obviously, if you live in a place where rents have risen along with purchase prices, the local CPI would be different.
My brother in LA said his house doubled price over the last 2 years.  He wants to take profit, but another equally sized house will cost him the same thing.  I'm with you Levin.  Where's the profit in that?  Sounds like inflation compounded with increased capital gains tax liability that he will have to pay if he sells the house, then he can't go out and buy a new one for the same price because then he paid the gains tax and he's actually got less!  Manipulative is too nice a word for lying while they change their data content and definitions to suit justification of the lie as they magically increase taxes as all the while the Pipsqueek says he's reducing taxes.  In my book, that's fraud, but my book is not the "Black Arts of Economics".  What puzzles me is my brother is an economist.  Shouldn't he know better?
Don't count on it. My university teacher in international finance lost his savings in a classical Ponzi schema.

Sometimes reading too much takes you back.

If that house has been his primary residence for two out of the past five years, then he likely won't have to pay capital gains tax. The law changed in '97, I think. Of course he should check with an accountant.


Housing is a necessity (like air, water, and food), not an asset, and housing is most definitely subject to inflation: p;cm_ite=NA
Of course housing is a necessity. Nobody disputes that. The question is what part of the price of housing do you count when you figure out what inflation is? The necessary part is what it cost to rent. If rent goes up 5% in one year, that 5% increase is included in the CPI. But if the cost to buy the same house goes up 20% in one year, only the rental equivalent, i.e. 5%, is counted as inflation. The rest is asset appreciation.
You cannot spend equity.  To realize any "asset appreciation", you must sell and either become homeless or turn right around and pay the same $ to buy an identical but now-costlier home again.  This is known as "replacement cost", and instantly negates any perceived asset appreciation, which existed only on paper.
Housing costs are based on purchasing price, not rents paid in the neighborhood. The CPI index is meaningless numbers massaging to the average joe on the street (like myself).  Simple fact is that EVERYTHING costs significantly more year to year, not the fictious 2% claimed by economic pundits.
Well, your argument is with the U.S. Dept. of Labor, Bureau of Labor Statistics, not with "economic pundits" and certainly not with me! Seriously, there is another option -- you can sell you house to capture your appreciation and then rent, waiting for prices to stabilize or fall. Plenty of people have done that.
Home prices never fall, Southsider1. There is not evidence of that occuring at any time in the last century.
Plus, it is home ownership that is the "American Dream", not home rental.
I'm in a posting mood today, and could not resist to make this third one.  So, from my two previous posts, instead of

"High inflation, high interest rates, high unemployment, plumetting dollar..."

you'll most probably get

high inflation
low interest rates for new loans for the Government
low interest rates for existing loans with adjustable rates (those with fixed rates will keep them, obviously)
high interest rates for new loans (but who cares)
low unemployment
plummetting dollar

But let me elaborate on the last point.  Plummeting against what?  Against the Euro?  Do you have an idea of the fiscal health of European economies?  Quantitatively worse than the US in fiscal deficit/GDP and debt/GDP.  And qualitatively worse because their deficits are much more structural: they have not get into deficits because they cut taxes or entered into a costly war, and so they cannot get out of those deficits just by raising taxes again and withdrawing troops.  Do you have an idea of the prospects for the dependency ratio in European economies in coming years?  Worse than those of the US.  So, against the Yen then?  Now, that is a joke.  Japan is much worse than either the US or Europe regarding current fiscal health and prospects for dependency ratio.  And there is a further handicap for Japan: they have both a food deficit and an energy deficit, while the US and Europe have at least a food surplus.  Ok, Japan has a big trade surplus right now, but their exports are "discretionary" items.  When oil production starts to decline, international trade will become more and more about "essential" items: food and energy.  Japan has neither.

So, again, plummetting against what?  Against commodities, of course.  And against a currency (or two) that cannot be printed at will by a Central Bank.  And that has (have) a track record of a few thousand years.  Guessed?

You are so right to point out the problems in Japan and Euroland.  I can't argue with the massive structural changes that will be required in order to compete with the US use'em and toss'em labor practices, banking practices, lower dollar value and aging population... etc.  But, that only goes to prove to me just what EXTREMELY bad shape the US dollar must really be in.  Heck the Euro had to hit 1.35 (65% increase over the 0.8150 low) before some sanity materialized and the no-brainers realized it simply couldn't appreciate any more without a total collapse of Eurotrade.  We are still struggling like hell to maintain a small bit of Eurotrade with the residual 46% increase in Euroexports over USD exports the last dollar devaluation stuck us with.  Do you have any idea how difficult it is trying to sell your goods at a 46% competitive disadvantage?  But that still doesn't rule out that another dollar inflation-devaluation crash cycle isn't on the way.  I mean, they haveta' get rid of that debt somehow.  Dept of Treasury is the one calling the shots.  It's them that keep printing all that money, selling C (?) rated bonds and holding the knife against Euroland's, Japan, China's, Saudi Arabia, Iraq's ... the whole f*** world's economic (or physical) throats.  (Do you know the word ...revolution? See Islamic Gold Dinar)
How about Exports / GDP?
Or (a hint here) Exports / Net Investment Position?
Most people are not aware that Bernanke - besides being a brilliant economist - has an ability which will prove extremely useful in the coming interesting times: being able to think out of the box.

With that in mind, let me address some or your points:

"The US would collapse if it could not continue to attract foreign purchasers of new bonds. What sort of risk premium do you think they would ask for if the US were actively trying to debase its currency? Interest rates would skyrocket."

The operative word here is new bonds.  We have to discriminate between the primary and secondary market.  In the secondary market interest rates will certainly skyrocket.  But the Treasury will be able to place emissions of new bonds directly to the Fed at whatever desired low interest rate, even zero.  I.e., the Fed will buy 10-y Treasuries directly to the Gov at face value, while similar Treasuries already in the (secondary) market will trade at a deep discount.  That's called "monetizing the debt", or in other words printing money.  Inflationary? You bet.  But the Federal Gov will keep going (and the State Govs too, probably).  And fears of deflation will evaporate like dew under the morning sun.

"The withdrawl of cash combined with copious amounts of bad debt - from the crash of the housing market among other things - may well cause bank failures, which would cause further cash withdrawls and further bank failures. Before long, the US begins to look like Argentina."

Argentina was on a currency board monetary system, akin to the US gold standard before 1933.  In such a system, the Central Bank cannot act as lender of last resort, hence bank failures.  Today the Fed can print unlimited amounts of money to assist any bank in problems.  So this is not an issue.

"For those burdened by debt - a large percentage of the population - interest rates would be crippling."

In another post I showed that, the more burdened by fixed-interest debt you are, the more inflation is a blessing to you.  AFAIK, the large majority of debt is under fixed interest rates schemes.  In any case, if it were important to address the case of debtors under adjustable interest rates (and with Bernanke's mentioned ability in mind) the Fed could just lend to a particular bank at two rates:

  • 4.5% (e.g.) up to the necessary amount to cover that bank's existing loans.  That way the bank will not need to raise rates charged on those loans in order to maintain profitability.

  • 10% (e.g.) for money borrowed by the bank in order to make new loans.

Bottom line: the Administration keeps running, no deflation but inflation that melts debt away, people keep their homes, bondholders lose big, and the only people that could suffer if not assisted are the very poor who have no debt and consume mainly essential items, whose prices will rise the most.
In my opinion, Ben Bernanke could be the most brilliant man ever to walk the Earth and it still wouldn't make any difference. The scale of the problem facing the Fed is simply beyond him, as it would be beyond any man. To think otherwise is simply hubris. The image that comes to my mind is of King Canute ordering the tide to obey him. I think Bernanke accepted the poisoned chalice with this appointment and that history will judge him harshly, however unfair that may be.

Modern commentators speak somewhat contemptuously of those who presided over the Great Depression and were powerless to prevent it, or even mitigate it to any great extent. Were they really just stupid, or were they overwhelmed by circumstance? Ben Bernanke is about to walk a mile in their shoes and we will see whether modern financial leadership really is superior.

To address some of your specific points, America needs to attract funds from foreigners and those funds will dry up if there if a deliberate attempt to debase the currency, whatever sleight of hand the Fed may chose to employ. Would you buy long bonds if you seriously thought the interest rates were going to rise substantially in the future, reflecting an increasing risk premium to owning those bonds? The future value of your investment would fall substantially if you had accepted a low interest rate over the long-term while other bonds with only slightly longer maturities were paying much higher rates. You'd be betting either on the long-term solvency of a government determined to destroy the value of your investment now and in the future, or on your chances of finding a Greater Fool somewhere down the line to take on that risk for you.

Do you seriously think the Fed can bail out a very large number of banks, and perhaps Fannie Mae and Freddie Mac as well? I seriously doubt the Fed's ability to act as lender of last resort to that extent, but even if it could do so at the national level, the scope of the problem is international. Can an international lender of last resort with deep enough pockets be found? Personally I doubt it, which is one of the reasons I see the coming financial crisis as being so serious.

I am right with you there Stoneleigh. Yes, Bernanke could buy bonds directly ("monetizing the debt"). Trouble is, a move like that would likely attract the attention of the so-called "bond market vigilantes." Holders of existing bonds would start selling in this scenario, forcing interest rates up. If the Fed became a large scale bond buyer of last resort, the market would force the US economy to pay a price.

I think we probably HAVE learned a few things from the lessons of the 'Thirties -- which means, we might be able to avoid committing some of the same errors. But some of the problems we face are entirely new and even Bernanke will have to learn as he goes along. Not an enviable task with so much at stake.

Stoneleigh, sorry for the delay.  Hope you'll see this reply.

"Modern commentators speak somewhat contemptuously of those who presided over the Great Depression and were powerless to prevent it, or even mitigate it to any great extent. Were they really just stupid, or were they overwhelmed by circumstance?"

They were fettered by the influence of a very strong paradigm: the gold standard.  You might want to read: Bernanke and James (1990), "The Gold Standard, Deflation, and Financial Crisis in the Great Depression: An International Comparison" at

"America needs to attract funds from foreigners"

Does it really?  I completely agree with the rest of the paragraph as it applies to normal investors who care about the future value of their investment.  However, lately a large portion of Treasuries are being bought by Asian Central Banks where the people making the decisions could not care less about the future value of their investments (it is not their money in the first place), but just want to keep their currencies low against the dollar so that new factories get built by fresh foreign direct investment, existing factories keep humming along, and as many as possible of their fellow citizens keep busy at all that.

But I will concede that they might start behaving like normal investors.  In that case, the flow of foreign funds into the US will come to a stop and could actually reverse.  Therefore, the US current account deficit will no longer be balanced by a matching capital account surplus.  Which will tend to make the dollar devalue against other currencies.  Which will tend to make foreign products more expensive for Americans and American products cheaper for foreigners.  Which will tend to decrease US imports and increase US exports, thus contracting the trade and current account deficits.  The Asians will produce less or at long last will start producing for themselves (and keep doing that for the countries that provide them with real goods as opposed to paper).  This adjustment is exactly the global rebalancing process advocated by respected economists such as Stephen Roach.

Will that necessarily have a deadly effect on US interest rates?  Not necessarily, if the Fed acts unfettered by existing paradigms, which I think it will do.  As I said, the Fed could start buying completely all new emissions of Treasuries at low interest rates, so the Government will be just fine.  And existing private debt at variable interest rate could be fine too if the Fed starts providing funds to the banks in a two-tier system:

  • at low rates to the extent necessary to cover existing loans, so that the banks will not need to raise rates on them, and new loans for projects related to renewable energy sources

  • at high (market) rates for all other new loans (we want inflation, not hyperinflation).

So, the net result of the US not attracting any more funds from foreigners is: much lower consumption of imported goods in the US, possibly lower production by the Asians (incidentally what the doctor would order for PO), the Government keeps getting cheap financing, existing debtors (which include the majority of American households) are fine, new projects for renewable energy get cheap financing, interest rates of existing bonds (those in the secondary market) skyrocket, bondholders lose big time.

Now, this might be shocking to you because it is strange to your paradigm, which has been shaped by what the Fed has been doing the last decades, in much the same way the paradigm of pre-keynesian economists had been shaped by centuries of gold standard.  But a Central Bank shamelessly financing the government and lending to the banks in a multi-tier system is something that has been done in Thirld World (excuse me, emerging) countries for decades.

"Do you seriously think the Fed can bail out a very large number of banks, and perhaps Fannie Mae and Freddie Mac as well?"

You bet.

Don, you hit the nail right on the head.  Only one thing. It already tried, but failed to happen.  (Now remember, I'm an engineer, not an economist, so this is a bit of a stretch for me.  One thing to my credit is that I've never attempted to predict the stock market before.  I've always left that to the experts, but it does seem like a no brainer now, so I take my stab.)  This inflation (devaluation of the USD) had already started to happen during the last couple of years, but the Bank of Japan saved the USD's raw exposed bacon.  What I think is that the Japanese valuation problem derived from the Yen increasing in value from 160 to 125 USDJPY since the Jimmy Carter days.  That made the value of everything in Japan so high, the only thing that could happen afterwards was that the value of everything in Japan must somehow drop to return to levels corresponding to what I call  a renormalized world value.  Everyone knew that the high Japanese prices would eventually have to drop, so they were, and today still are for the most part, still waiting to buy cheaper property and/or obtain a positive interest rate on their Yen savings accounts again.  Since they never got it, they started buying anything that paid interest or would appreciate in one form or another, so they began buying dollar investments, internet bust.coms, US Bonds and property in Hawaii and on the US west coast, and golf courses anywhere.  They were just starting to get out of that trap when the USD attempted to devalue (ie. inflate)  again with the .com bust, this time in relation to both the Yen and the new Euro.  The Bank of Japan started buying USD in an attempt to support the USD and threw away billions in the process.  Each time they bought USD to equalize dollars against the Yen, they inadvertedly raised the Euro and Swiss Franc, as did every other currency.  Eventually the Dollar stabilized at 104-105 and has now rebounded to 117-118 Yen, almost where it started, but there is still some residual value hanging around with the Euro and other curriencies.  If the Bank of Japan did not buy 800 billion some dollars/year, the USD would probably be at around 75-85 today and Japan would have been back at the same place they were 15-20 years ago, just entering another 20 year period of no investment activity and negative interest rates.

And Today, the US Government asks for what?; another X trillion dollars for the 2006 budget, including 400 billion EXTRA to keep on continuing with Iraq (they haven't yet asked for any for Iran yet, thank God).  My point being, as you well know, that this simply can't go on.  Maybe it can for awhile longer, but sooner or later Japan and China are  going to find Japan, China, India and maybe Europe, Iran, Russia, Venezuela and Saudi Arabia make better trading partners, since they don't pay with inflated paper. When that happens, be prepared for the USD to drop of the face of the planet without JPY support.  I think that has started  happening again.  Why else is China making all efforts to develop trade with any possible alternate partners?  

I also think another indication might be if the Saudis let their Riyal-Dollar peg move a fraction of a micro-hair.  China made a token Yuan revaluation last year and it rocked the FX for several weeks.  If Saudi does it, it will be rocked for years.  Right now, my Saudi friends seem to be literally floating in USD and many don't want to invest in anything relating to USD now, due to devaluation and subsequent inflation risk and the banker's anti-Arab-biased security questions and hassles.  They would rather invest in other places, at least up until this Cartoon Affair, in Europe with many also moving money to Dubai and Abu Dahbi to buy properties and gold accounts, hence the value of gold breaking from the Euro and Oil late last year (I think).  For sure I don't see this Iran Oil Bourse helping that situation.  In any case, when the value of their stock market maxes out, (There are only so many pegged Riyals that can fit into their stock market), either a revaluation of the Riyal must come or a decrease in their stock market must come.  If the second happens, it would mean a crash in oil prices had happened.  With all that current oil money floating around, its hard to see a decrease happening.  If either of those.. as Redd Foxx used to say "Elizabeth! Its the big one!"  Either total crash or total dollar inflation.  You know Don ...I'm with you on this one, and think its the big one coming right now.  Those high interest rates you're talking about must be just right around the corner.  And it'll be exactly as you say... just when nobody is looking for them and the're least expected... bang hit by the inflation frieght train.  I think we saw the US Treasury's  last card showing in the last bump up in interest rates.  I think they will go down slightly (just to sucker everyone out there into maxing out the credit cards buying stocks at rediculous PEs) then ... no more foreign credit and a wicked bounce in interest and inflation (devaluation) straight up to 15-25%.  All that's left to be seen is if the S&P tops out and starts declining soon.  And I to, seem to recognize the exact same flight approach pattern we have today as being the same one you mention that began back in the Jimmy Carter days.  One day gold was what $40-50/oz and in no time.. 800+/oz.  Nobody was more surprized than me.  So what happens after that?  Easy.  Then comes the crash in oil prices, but with that crash happening concurrently with Peak Oil supply decreases, it can only mean that its gonna' be one hell of a crash.  Oh Oh!  Just in are Toyota's high profits.  Hasn't been much for US auto makers lately.  Can you see it happening?

Because speculation drives financial markets and commodity markets, there can be huge fluctuations--sometimes lasting years--that have nothing to do with underling "real" (that is, correcting for price-level level changes) economic output or wealth. Expectations drive prices. Expectations at the extremes of financial markets, such as the tulip bulb craze in Holland centuries ago or the Mississipi Bubble, or the U.S. stock market of 1929 result from collective or herd behavior, combined with the "greater fool" theory.

The "greater fool" theory goes sort of like this: "Oh yes, I know the price of condominiums is way too high, but I can still make a ton of money by buying ten of them with nothing down and then flipping them next month just using OPM ("Other People's Money," a scammer's term used by real-estate tricksters to convince you that you can achieve instant fabulous wealth by borrowing everything and shifting risk to the sucker lenders.) As long as the gravy train is moving, I'm on it."

I've done some FFT work on selected FX conversions and there do appear to be (fuzzy) time cycles starting at 13 to 200 days and reaching out to roughly 15-20 year time windows.  The longer the frequency, the more fuzzy they are, but they  appear to be there in any case.

I've never been able to make the OPM real estate pyramid numbers work for me.  It always showed a slight negative return, because I've never assumed I could keep a 100% occupancy rate, and it also shows a lot of running around trying to keep them rented out @ 85%.  Looking at what you're suggesting, I realize that I have never included the (inflationary) "expected price rise" in the sales value equation.  If you can turn them around within 1 to 6 months with "a profit", it is clear to me that the equation must include a heavy inflationary bias to show positive ROIs.

I completely agree with you Don that this is a very important factor.
Beware The Ides Of March
By Mathew Maavak
07 February, 2006

Excellent article about all the events converging in March this year.

Hey wait!!  My birthday is in March and I don't want the whole world as my birthday cake.

Do you share my view, HO, that this NG problem is not so much a short-term crisis but an ongoing long-term problem with no real resolution in sight?