Shift in Social Mood Among Investing Public

Much of the investing public understand that low returns require much lower spending and much higher savings levels. Social mood has shifted from greed to fear, from wanting an early retirement, to wanting any retirement at all. Generation X experienced two stock market crashes and is generally more practical than the Boomer generation. The Millennials watched parents and friends lose their homes during the financial crisis. These are not temporary shifts in attitude. People who lived through the Depression never changed their ways even into the boom years of the 1980s and 1990s.

I've written a lot about the gap between public opinion on issues such as immigration and nationalism versus the established political powers in many Western countries. There's also a massive gap between public understanding of finances and the behavior of the establishment. This could lead to major political upheaval when pension funds fail, or worse, bond markets and currencies, because the public will not accept excuses having adjust their own behavior.

Marketwatch: This person asked the internet if it was necessary to save so much for retirement — the response was surprising

He got his answer. Reddit users took to the platform reminding him of other expenses he’s not considering, such as possible illness, job loss, divorce, a stock market crash, health care and other long-term care planning, and even taking care of parents when they get older (caregiving is not just a physically demanding role, but a financially demanding one).

“Your calculations are figured for perfection,” one user wrote. “Also remember your kids can borrow for college but you can’t borrow for retirement.” They also tore into his estimations — explaining that interest rates are just coming from all-time lows and that there is no guarantee he will see a 6% annual return for the next 40 years. “How does your planning work out if the market returns 3% per year in real terms?”

Other commenters added that there are so many unknowns in the next four decades. “I think it’s good to maximize retirement savings when you can as there may be periods of your life where you’re unable to do so for one reason or another,” SpidermansMom said. People shared personal stories: that user said her husband fell ill and lost his job, and they suddenly went from two salaries to one. He was too sick to watch their son, who stayed in day care, and she couldn’t save as much for retirement, but felt comforted by the fact they had been maxing out their retirement plans for years before.

Another user said his perception of his retirement changed after his dad died at 69 and he realized he’d personally rather have 15 solid years of retirement compared with his father, who only had three. Another shared that his father made $150,000 a year but today is unemployed with no money. “Fortunes change,” user palsh7 wrote. “Don’t assume anything. If you’re still feeling good at 55, by all means, cut back, but right now you want to invest.”

Third Great Depression, Japan is sunk

我们离“全球第三次大萧条”还有多么近
The first was in the 1930s, the second just past, and the third is not far off. For Americans, this may actually sound more like a repeat of the first Great Depression. The first part of the Great Depression ended in 1932-33 with a massive dose of inflation following the nationalization of gold and the devaluation of the dollar. However, this inflation was nipped in the bud in 1937, and along with an insane amount of government intervention that put Hoover's tinkering to shame, causes the depression withing the Depression.

A similar scenario is unfolding today. The U.S. central bank floods the world with liquidity, setting off inflation and booms in developing markets. Central banks are already starting to counter the loose policy of 2008-2010, but this time they are pushing against their own policies plus the Federal Reserve and to some extent, the ECB, which is bailing out several countries. As Liu Junluo says in this latest blog, central banks are a flawed system. I would take it a step further and say that if central banks are making policy, they are making policy mistakes. Based on current conditions, the mistakes will be very large this time, at least as large as in 2006-2008.

Monetary policy takes time. Andy Xie is looking for 2012 crisis, maybe he is also early. In the near term, watch Japan. That is the most dangerous country right now due to a deterioration in the savings rate. Goldman Sachs predicts that the savings rate of Japan will turn negative this year. That's important because it means that foreigners will become the marginal buyers of Japanese government bonds. Now, if you are a foreigner, you're first going to look to the U.S. and Europe, where rates are higher and debt levels are lower. Adding to the mix, the emerging markets are hiking rates and tightening monetary policy, reducing the pool of funds available for Japanese government bonds (JGBs). All of which signals higher interest rates.
Higher interest rates are bad news for Japan.

Up until now, Japan’s government has been able to “cover the minimum payment” by borrowing from reserves in its Government Pension Investment Fund and selling its debt to Japan’s life insurance companies. But as seniors, which now number nearly one in four, start drawing down those assets, those avenues will be closed to further purchases of bonds issued by the state. In fact, they will soon become net sellers of their existing holdings in order to support the new pensioners, and then, “who will buy?”

Japan’s government revenues of $1.6 trillion annually fall short of its expenses of $2 trillion, creating an annual deficit of $400 billion. Kyle Bass, who runs Hayman Advisors, estimates that debt service eats up $244 billion every year. He calculates that if investors demand just an additional two percentage points in interest, that would double that debt service. Bass concludes that “the Japanese have created the circumstances for the greatest financial failure in world history.”

Japanese interest rates could easily rise 2%, it would bring their yields to roughly the level of U.S. bonds right now.

Credit markets in the U.S. actually seem to be picking up steam at the moment, which means this all may be a year or two, or more, away. I'm watching Japan for the possible spoiler though.

我们离“全球第三次大萧条”还有多么近

What are savings?

FOFOA has taken some flak for this comment in the post Focal Point: Gold

Money is debt, by its very nature, whether it is gold, paper, sea shells, tally sticks or lines drawn in the sand. (Another shocking statement?) Yes, even gold used as money represents debt. More on this in a moment.

Critics point out that gold extinguishes debt. However, unless the end user wants to make jewelry out of the gold, it represents a claim on production and/or assets in the economy. In a purely fiat currency system, where sea shells or paper dollars are money, but the system has no debt, you can't loan paper dollars or sea shells, you can only swap them for goods and services. In this system, if you sell a chicken for sea shells or dollars, what do you have? You have a claim on your neighbors production or assets to be used at some time in the future.

On his blog, FOFOA argues that people do not want to hold paper dollars for very long because the supply increases over time. Therefore, we can split the function of medium of exchange and wealth preservation. You will hold paper dollars when you want to transact, but you will shift your savings into something that does not have a rapidly increasing supply—gold. In a sense, this gold represents the world's debt to the holder. The holder of gold has foregone consumption of goods and services today and taken gold to preserve the value of their foregone consumption.

Here's an article by Frank Shostak which explains savings and its role in the economy.

Only savings can create wealth

The more sophisticated and productive a particular economy is, the more stages of production it will have. Conversely, the fewer stages of production an economy embraces the less wealth it can produce. For instance, with bare hands an individual who is alone on an island could pick up 25 apples per hour from an apple tree.

By means of a special stick his hourly output could be raised to 50 apples. If the stick would have been readily available our individual could have raised the output of apples immediately.1 If, however, the stick is not available, it must be made. The making of the stick takes however time. Implying that while previously (i.e. without the stick) apples could be picked up immediately, now it takes time before apples could be picked up. Since now, he first have to make the stick before it can be employed in picking apples.

With a more sophisticated equipment it would be possible to raise the hourly output of apples further. However, this will require to invest much more time in making this equipment. In other words, although a more sophisticated production structure will enable a greater output, the waiting time will increase. Adding new production stages lengthens the production structure i.e. the time elapse between the beginning of the production process and its turning out a product ready for consumption increases.

What makes it possible to add new stages of production is the fact that various individuals who are engaged in the making of the stages are supplied with goods and services necessary to sustain their lives and well being. In other words during the period of building new stages those individuals must be sustained-they require means of sustenance and thus access to the pool of means of sustenance or the pool of funding.( In the case of our individual on the island, the pool of funding will consist of saved apple that will sustain this individual while he is engaged in making the stick). Without the pool of means of sustenance or the pool of funding, no economic activity can emerge. On this Menger wrote:

"Needs arise from our drives and the drives are imbedded in our nature. An imperfect satisfaction of needs leads to the stunting of our nature. Failure to satisfy them brings about our destruction. But to satisfy our needs is to live and prosper. Thus the attempt to provide for the satisfaction of our needs is synonymous with the attempt to provide for our lives and well-being. It is the most important endeavours, since it is prerequisite and foundation of all others".2

The size of the pool of funding determines whether a more sophisticated equipment could be introduced 3. For instance to build sophisticated equipment to pick up apples requires one year of an individual work.

However, if the pool of funding is the only means of sustenance to sustain this individual for one month, obviously it will not be possible to build this sophisticated equipment. Implying that it will not be possible to increase the output of apples. The pool of funding therefore, sets a brake on the use of the more productive but longer stages of production.

Individual's time preferences, as manifested by the pure rate of interest, determines how much of a given flow of real wealth is allocated towards consumption and how much towards savings, and hence towards the pool of funding. Lowering of time preferences i.e. lowering of the pure rate of interest, implies that people are now willing to wait for any given amount of future output.4 Implying that they are ready to allocate proportionately more of the means of sustenance towards longer stages of production. A rise in the time preferences and in the pure rate of interest means that people are less willing to wait.

This means that they will allocate proportionately more of the means of sustenance towards the immediate production of consumer goods and less towards the longer production stages. The pure rate of interest fulfills the crucial role of coordinating between the length of the production structure and the pool of funding.

The introduction of money will not alter the essence of the analysis we have presented so far. Money now, will offer not only the services of the medium of the exchange but also the means of savings. In a world without money individuals would encounter difficulties in saving perishable goods. The introduction of money resolves these difficulties. Instead of saving i.e storing perishable goods, now people can save money.

However, to fulfill the role of the medium of the exchange and the means of savings, the money stock must remain unchanged. This will guarantee that production will precede consumption. It will also guarantee that money is fully backed up by the means of sustenance. Thus, whenever a producer exchanges his goods and services for money he acquires a permit to access the pool of funding whenever he requires it.

By exchanging his goods for money he enables the buyer of his goods to engage in production, thereby allowing the overall production flow to stay intact. It is this uninterrupted flow of produced goods that provides the full backup to money. This means that whenever a producer decides to realize his money i.e. to exchange them for goods and services he will be able to find these goods.

What, however, enables this uninterrupted production is the continuous flow of saved goods i.e it is the saved means of sustenance that permits the ongoing expansion in production of wealth. Note, that while the pool of funding consists of real goods and services i.e. means of sustenance, it is expressed or denoted in terms of money. The existence of money, so to speak, enables us to grasp the existence of the pool of funding.

Money, however, does not create this pool. Nevertheless, one could argue that money supplies services like any other good and therefore it must be part of the pool of funding. Contrary to other goods the increase in money cannot improve on the services it provides. On the contrary it will only dilute its purchasing power and cause wealth destruction. With regard to the increase in the quantity of other goods this will raise benefits to humans. Consequently we can conclude that money is not part of the pool of funding. (An increase in the money stock will not enlarge the pool of funding).

Trouble erupts whenever the banking system expands the money stock i.e. creates money out of "thin air". For this increase in the money stock gives rise to the consumption of goods which is not preceded by production. It generates exactly the same results as the counterfeit money. For under these conditions the buyer of goods does not use them to support his own production. In fact he consumes and produces nothing. Consequently the buyer of the money/or seller of goods can never realize his money, for the means of sustenance to support these newly created money was never produced. Any attempt then, to lengthen the production structure by means of an expansion in the money stock must always fail.

In other words the expansion in production of goods and services requires an expanding pool of means of sustenance. Printing money which boosts consumption, doesn't cause more, but rather less means of sustenance. If the increase in money would permit to lengthen the production structure, then it would imply that money can be a substitute to the non existent means of sustenance.

It is accepted by some economists that although loose monetary policy impairs wealth formation, it nonetheless can lift the total level of economic activity. However, every activity regardless of its nature i.e. whether it is a wealth or a non wealth generating activity, must be funded. In other words people who are engaged in these activities must have access to a means of sustenance.

Without a means of sustenance no activity can emerge. A given pool of funding can only sustain a given level of activity. Now, if a larger percentage of funding is diverted, as a result of a loose monetary policy, towards non-wealth generating activities, less funding will be left for wealth-generating activities, overall activity however will remain unchanged. In order to raise overall activity i.e. to lift production of goods and services, it will be necessary to make the production structure more productive.

This however, will require a lengthening of the average time between the beginning of the production process and its turning out a product ready for consumption. This, however, will require more means of sustenance. Since money cannot be a substitute for the means of sustenance it therefore cannot make the production structure more productive and thus raise the level of economic activity.

A view that a loose monetary policy could lift the level of total activity presupposes that monetary pumping somehow creates funding. If this were the case then loose monetary policies around the world would have eradicated poverty a long time ago. Now, as long as the pool of funding continues to expand, government loose monetary policies give the impression that they can lift the total economic activity. That this is not so becomes apparent once the pool of funding is stagnating or shrinking.

Most mainstream economists who advocate monetary pumping and the artificial lowering of interest rates in order to counter recessions, totally misconceive that the interest rate is just an indicator. It is just a manifestation of the demand versus the supply of savings. Being a manifestation it cannot substitute the non existent means of sustenance and grow the economy as suggested by mainstream economists. Again what is needed for economic growth is an expanding pool of funding.

1. Murray N. Rothbard, Man, Economy, and State (Los Angeles:Nash) vol. 1 p 42.

2. Carl Menger, Principle of Economics, New York University Press, p77-78.

3. Richard von Strigl, Capital and Production, translated by Margaret R. Hoppe and Hans H. Hoppe Ludwig von Mises Institute p 8.

4. Murray N. Rothbard Man, Economy, and State (Los Angeles: Nash), vol. 2, p488.

Putting two and two together

Credit-card late payments fall to eight-year low

Late payments for bank-provided credit cards fell in the first quarter to the lowest level in eight years, the American Bankers Association reported Wednesday.

Bank-card delinquencies, reflecting card payments that are at least 30 days overdue, fell to 3.88% of all accounts in the first quarter -- the lowest rate since the first quarter of 2002 -- compared with 4.39% in the fourth quarter of 2009, according to ABA data.

Consumer Credit Plunges In May, April Revised Much Lower

The latest consumer credit number continues the decline we have seen in recent months, plunging from $2424.4 billion in April to $2415.3 billion in May, a $9.1 billion decline, or 4.5% annualized, on consensus of $2.3 billion. Yet the biggest stunner was the April revision which was whacked from +$1 billion to a revised -$14.9 billion!

In other words, there has been a $24 billion decline in consumer credit in the past two months. The biggest hit was, as usual, experienced by revolving credit accounts, which fell by a 10.5 annualized rate to $830.8 billion, from $838.2 billion in April, and just north of $910 billion a year earlier.

You can't have a bad debt if there's no debt to begin with.

Another explanation for the former story is that people are not paying their mortgage in states where there are non-recourse mortgages, but they are paying their credit card bill to keep their spending going. Once they are foreclosed on, however, they will have to find a place to rent and their spending will drop.

Why Economic Models Fail

The main reason I do not put any faith in modern economic theory is because it removes the human variable from the equation. In a free market, different economies will have different characteristics and behavior patterns due to structural and cultural differences. A case in point is the savings rate in the U.S. and China. Michael Pettis explains:

Rising interest rates increase the reward, and so in response, households reduce their consumption and increase their savings. The obverse is that the interest rate is the penalty for anticipating consumption, and because rising interest rates make it costlier to borrow to finance consumption, they reduce consumption and increase savings (borrowing is negative savings).

This explanation for the positive relationship between the interest rate and savings rate makes it a little surprising, then, that in China and in certain other countries, especially those typically included as examples of the Asian development model, rising interest rates are often associated with higher, not lower, consumption.

...Last year, just after the PBoC cut the deposit rate early in the year, one of my students told the class an interesting story that may at least partly explain. She said that the reduction in the deposit rate had upset her aunt and uncle because they had been saving money so as to have a certain amount for their twelve-year-old son for his university education. Every month his mother put some part of the family’s household wages into an account at the bank for that purpose.

How much should she save?

Obviously she had done a fairly straightforward calculation to figure out how much she needed to add to this account every month. The amount of money she had in the account earned interest, of course, which was added to the total savings. She calculated whatever was needed in addition to the interest income to achieve her final target, and this amount was taken out of the family wages every month and added to the account. What was taken out of wages, of course, shows up in the national accounts as the family’s savings rate. The rest is the family’s consumption rate.

When the PBoC lowered the deposit rate, this meant that if she expected to reach her target she would have to match the decrease in interest income one-for-one with an increase in the amount she saved out of monthly wages. In their case, then, a lower deposit rate was necessarily associated with a higher savings rate – and the amount this particular family consumed out of total wages declined.

As Pettis goes on to explain, part of the reason for U.S. savings rates moving along with interest rates is that a lot of wealth in the U.S. is invested in real estate and financial assets that rise in price when the interest rate falls, whereas in China, a large amount of savings is still done through bank deposits.

Read the whole thing for a discussion of how this affects the revaluation of the yuan.

Savings Just Getting Started

The personal savings rate increased to 7% in May. I believe it will rise much further because the U.S. must replace the depleted savings of the past 16 years. I found personal savings rates at the Bureau of Economic Analysis. There are two savings rates compiled, one from National Income and Product Accounts (NIPAs)and one from Flow of Funds Accounts (FFAs). They differ slightly, but the trends are the same. The savings rate was relatively steady between 1952 and 1992, but then quickly began to drop. I treated 1952-1992 as the "natural" savings rate, and 1993-2008 as the "bubble" rate. The average savings rate from 1952 to 1992 was 8.7%, and 2.7% from 1993 to 2008. Assuming the 40-year savings rate was the natural rate, I created the chart below to show the annual difference from the natural rate. Notice that the savings rate increased during the 1970s and 1980s recessions, just as it is increasing now. The question I have is whether Americans must "make up" the lost savings of the past 16 years. If so, the savings rate could be headed to 60-year highs. This is worrisome for any business dependent on the American consumer.
Here's an article using Eliot Wave analysis of the savings rate. It uses a different data set, but reaches the same conclusion.
The Bull Market in Savings as Cash has Been King for 10 Years

It's somewhat amazing that cash is not capturing anyone's fancy because a tremendous society-wide thirst for cash is spreading fast. "In a deflation," the Elliott Wave Financial Forecast has stated, "Rule No. 1 is to unload everything that isn't nailed down. Rule No. 2 is to sell whatever everything remaining is nailed to." The banking system is surely deflating, because, echoing Elliott Wave Financial Forecast's wording again, "Desperate American Banks Are Selling Everything That Isn't Nailed Down." SunTrust is selling its stock in Coca-Cola, an asset the bank held for 90 years. Merrill Lynch sold its founding stake in Bloomberg as well as various other subsidiaries.

Meanwhile, "Americans are selling prized possessions online and at flea markets at alarming rates." Pawnshops and auction sites are booming. At Craigslist.org, the number of for-sale listings soared 70% in eight months. This fits with our review of Craigslist's prospects when it was getting started in 2005: "This is just the set-up phase. Once the global garage sale really gets rolling, truly astounding volumes of dirt-cheap goods will be available on-line and elsewhere." The global garage sale is on. The chart of the U.S. savings rate shows that the bull market in cash has come to life.