Rebane's Ruminations

You would? Really?

George Rebane

Would you lend money to someone who already owes you more than he can repay, wants you to loan him more so he can use some of it to pay you the interest on what he currently owes (a la Madoff), and owns a printing press that is already printing his debt to you into oblivion?

 

(If YES, then when would you stop?)

Bet You Didn’t Know About this Tax

George Rebane

This year I promised to write more stuff on technology and finances.  In the winter I also start writing the year’s TechTest2011 which will be taken in the spring by a select cadre of Nevada County’s high school seniors and juniors.  Reviewing some of the problems from previous TTs, I came upon one that involves taxes and should be of interest to all of us.

Not many people have a clue about how income and sales taxes combine to present us with the total tax burden we have to bear.  If we did, maybe more progressives would abandon their faith in ever higher taxes.  So let’s consider a simple example of dollars and cents or sense.

And they still don’t know jack –

George Rebane

My career as a markets watcher and investor goes back to 1970 when I started tracking stocks and mutual funds along with my aerospace company engineering peers.  We heard the pundits, analysts, and economists make their sage assessments and predictions, and pooled our resources to subscribe to some pricey financial and investment newsletters.  What we also studied very closely were the prognostications that these gentlemen issued to earn their daily bread and public adulation.

Being of a quantitative and analytical bent, we started paying attention to the high priced predictions we received through the mail, in newspapers, and on TV.  A little research quickly showed that these guys didn’t have a clue about what they were talking.  It was all blather.  Yet, then as now, the media audiences kept lapping it up, and the government agencies kept quoting their wisdom in support of whatever policies and/or regulations they were trying to foist.  The bottom line we discovered was that it was bad for your bottom line if you acted on what the stuffed shirts spouted.

 

But what galled us most was that they got to keep their jobs with whatever university, agency, or bureau they were with after constantly making such horrendous errors in their work product.  As engineers, any of us screwing up just once and half as badly would have been shown the door.  And back in those days such mistakes would have followed you to your next job interview.  As a result many unfortunate engineers gave up engineering, got their teaching credential, and became classroom teachers.

Happy 2011!

George Rebane

Here in Nevada County the new year arrived clad in a light blanket of snow with a few flakes still drifting from a gray but hopeful looking sky.  The nearby photo from our office window says it better.  It will warm up later.

Jo Ann and I take this opportunity to wish all RR readers a healthy, prosperous, and hopeful new year.  Although, to keep with the distinctive tenor of these pages, I have to admit that I can’t offer the ‘hopeful’ part as an equal opportunity wish to all readers.  Some of you of the 20% progressive bent might take extraordinary pleasure in seeing things happen in the next twelve months that would bring another tear to the eye of the 40% rest of us.  Instead, to those so afflicted I wish a robust start on the road to recovery, especially in the understanding of things economic and financial that affect both our national welfare and personal finances.

In the last regard, I will put on my financial engineer’s hat more often than in the past, and try to write more pieces useful for interpreting the fate of the public purse and its implication on your private purse.  There is much mismatch between what the administration says about our economy and the effects of public policy on that economy, and what we here on the ground experience every time we go to the store or pay a bill.  One need look no further than the much cited 2.6% official inflation rate, or our Social Security ‘fully funded’ by a drawer full of IOUs.

If nothing else, I sincerely hope that such reports will help you to ask more revealing questions of your financial advisor and/or improve your own financial planning.  My hidden agenda is that when we better understand how to handle our money, we will also make wiser decisions in the voting booth.

The flip side of such commentary is that it will require dusting off some math that many of us left in high school for safe keeping when we graduated.  But when something comes down to reality, it inevitably comes down to numbers.  Besides, those who have alternative approaches and/or want to refute my assertions will have something firm to cite for comparison and correction.

So thank you again for visiting these pages.  Your thoughtful feedback is always welcome, and the discussion threads you have launched have been stimulating.  In spite of our different views of the where, the why, and the how in our country, we can all join in a prayer that in the coming year America will be an ever stronger, independent, and sovereign nation-state, and keep its place as the achievable example and pinnacle of mankind’s civil governance.

The quiet is deafening

George Rebane

Gold is now comfortably at above $1,400 an ounce and rising.  It has risen over 28% in 2010 and over 170% in the last five years.  The other precious metals – silver, platinum, palladium – have done even better. 

The official word is that there is nothing to worry about.  The world economies are slowly working their way out the Great Recession.  Interest rates are low.  More fiat money is being printed daily to make it easier to borrow.  With all the pent up demand and new cleantech legislation just kicking in, the job situation is bound to get better in the coming year.  Inflation - excluding education, healthcare, food, fuel, and utilities – is low.  At the same time the biggest buyer of US Treasuries is now our own Fed using freshly printed bills to quantitatively ease the economy.  We are assured that none of this is monetizing (sounds better than ‘inflating out of’) our debt.  Things are looking up.

Meanwhile, over to the side, right there behind the curtain, central banks the world over are quietly laying in stores of bullion, as are corporations and private investors.  And who knows what it all means that also quietly, ever so quietly, people who don’t need to but can, are beginning to borrow as if they didn’t have to pay it back.  No one wants to spook the sheeple for then there will be hell to pay.  Shhh!

From the 29dec2010 WSJ – U.S. investment bank Goldman Sachs Group Inc. says it expects gold prices to climb to $1,690 an ounce, and potentially even higher, over the next 12 months as a new round of quantitative easing keeps real interest rates low and drives excess capital flows from countries with trade surpluses—which have traditionally parked their money in U.S. government bonds—into other investable assets, such as gold.  "We believe that the crisis of confidence in the financial markets is just getting started," says Peter Grosskopf, chief executive of asset-management firm Sprott Inc., which holds $6.5 billion of assets, including physical gold bullion. "Deficits will widen and we will continue to invest more in the precious-metals sector."

Walking into the Liquidity Trap

George Rebane

QE2 used to be the short moniker of HMS Queen Elizabeth 2, flagship of Cunard’s luxury liners.  You boarded QE2 and forgot your troubles as you were transported across The Pond with more comforts than you could imagine.  Today’s QE2 is the code word most people hear and can’t put together with anything that might affect them, let alone cause them more discomfort than they can imagine.

QE2, the second tranche of ‘quantitative easing’, is planned to pump $600B more newly printed fiat money into the economy backed by nothing but the blather of the Obama administration.  Coming from the Fed, it is intended to turn loose more money from the banks that have been using past bailouts and QE1 to fatten their reserves instead of making needed loans.  The additional money is supposed to continue to ease interest rates and maybe even revive the housing market.  Not a chance.

The real purpose of QE2 is to ‘monetize the debt’ – i.e. to continue destroying the value of the dollar so that our government’s (or should that be governments’) debts and unfunded liabilities can be paid off in worthless dollars that add to up to the quoted nominal amounts that are on the books for the Chinese, Japanese, … lenders and our legions of pensioners.  In short, it is the quiet beginning of the last stage of government make believe that all is still well with our economy.

The thing here is to note that we have entered the dreaded Keynesian ‘liquidity trap’

"There is the possibility ... that after the rate of interest has fallen to a certain level, liquidity preference is virtually absolute in the sense that almost everyone prefers cash to holding a debt at so low a rate of interest. In this event, the monetary authority would have lost effective control."  John Maynard Keynes, The General Theory.

Expanding on this, John Hussman of the Hussman Funds writes –

Alternatively, monetary policy might transmit its effect on the real economy by directly altering the quantity of funds available to lend. In that view, a liquidity trap would be characterized by the failure of real investment and output to expand in response to increases in the monetary base (currency and reserves).
 
In either case, the hallmark of a liquidity trap is that holdings of money become "infinitely elastic." As the monetary base is increased, banks, corporations, and individuals simply choose to hold onto those additional money balances, with no effect on the real economy. The typical Econ 101 chart of this is drawn in terms of "liquidity preference," that is, desired cash holdings plotted against interest rates. When interest rates are high, people choose to hold less cash because cash doesn't earn interest. As interest rates decline toward zero (and especially if the Fed chooses to pay banks interest on cash reserves, which is presently the case), there is no effective difference between holding riskless debt securities (say, Treasury bills) and riskless cash balances, so additional cash balances are simply kept idle.

 

Ruminations - 28dec2009 (updated 29dec09)

George Rebane

- Obama gets an 'A' from me
- Nigerian bomber underlines the government employee
- Washington’s double taxation of investment gains

Never mind the fruitless foreign policy escapades and stimulus packages that have not stimulated.  Candidate Obama promised one and all a “fundamental transformation” of the country into European type redistributionist socialism.  Many people didn’t pay attention or thought he was joking – he was not.  When Obama gets this healthcare bill on his desk, no matter how mollified it may appear, he will become the most effective American president since Reagan, and maybe even more effective when it comes to implementing his political ideology.  This will earn him an ‘A’ in my book.  And if he succeeds making Cap and Tax (aka Waxman-Markey) into the law of the land, I believe that he will become, hands down, the most effective president in our history.  We will then become such an economical and geo-political basket case, that there will be nothing left for us to do but sue the international community to launch a global order and accept us as a charter member.  Total success.

That government is the employer of last resort has been a longstanding theme in these posts.  This was again verified when Mr Abdulmutallab of Nigeria tried unsuccessfully to blow his balls off along with the left wing of the Northwest airliner in which he was a passenger.  Now can you imagine the Homeland Security and TSA workers who already had the guy on a watchlist, persona non grata in Great Britain, and were in receipt of the fact that in Amsterdam he had bought a one-way ticket for cash and checked no baggage.  Since 9/11 data on all passengers departing for the US is transmitted to our people before the plane takes off.  But that is only effective if there is someone with the appropriate skill set to read and react to such information.  Apparently the TSA gives ‘equal opportunity employer’ a new level of meaning.

Not to worry, the SEIU will guarantee that these people will do a much better job administering nationalized healthcare and enforcing the new CO2 regulations.  In the interval the TSA is placing another layer of loonie-tunes strictures on the rest of us in the vain hope to convince everyone that they are on the job.

Today’s WSJ highlights the poor performance of the Dow Jones Industrial Average over the last decade when inflation is taken into account (here).  Now, as students of economics, we all know that inflation is a monetary phenomenon in the hands of those who control the supply of our fiat money.  And we also know that inflation is a purposive tax on dollar-based assets.  The bottom line here is that we are not supposed to notice that we are taxed once by inflation, that reduces the real gains of our investments, and then taxed again on the nominal (not real) profits as we attempt to dig ourselves out of the current slump.  Cynical is no longer the appropriate word for it.

[29dec09 update]  President Obama has upgraded his assessment of HSA's performance to "catastrophic breach".  Well OK, perhaps I was a bit too reserved in my comment above.  However, the tack they are now taking is classic government CYA (not California Youth Authority).  When ignoring or incompetently applying an existing law occurs, the event is used to pass new laws that more comprehensively restrict a broader population.  Recall Rahm Emanuel's comment about not 'wasting a serious crisis'.  With the new 'hands in the lap for the last hour of flight' rule now in effect, one can look forward to a not too distant tomorrow when all passengers will be required to strap on a diaper, and sit in new seats fitted with wrist and ankle shackles for the duration of the flight.  Your government in peace and war.

Dollar Takes Latest Hit (updated 23aug2009)

George Rebane

Ruminations readers are aware that inflation is a tax on all of our dollar-denominated assets (here).  Now that we are staring a Weimar-like inflation in the face with all the dollars that the Fed generates out of thin air, our government is beginning to worry that too many people will catch on in time to get out of dollar denominated assets.

The latest evidence of this is the expansion of Commodity Futures Trading Commission’s powers (22aug09 WSJ).  They now tell us that for our (the small investor’s) own good, they will start restricting our ability to easily trade in commodities like wheat, copper, pigs, and gold.  People have fled the dollar in the hundreds of billions of dollars by buying new commodity ETFs (electronically traded funds).  These ETFs closely track the world prices of the commodities that, of course, rise in the face of truck loads of newly printed dollars flooding the world.  The government doesn’t want us to have such an easy escape from the dollar.

These ETFs work as open ended funds by buying more of their underlying commodity (and their futures), and issuing new shares whenever you buy another share of the ETF.  All shares are backed by financial instruments that command the ownership of the underlier – pretty straight stuff.  But our government says that such purchases by the retail investor is speculation, and artificially drives up the price of the underlying commodity for those who actually use the stuff to make things we buy.

Well yes, it does.  But it does that because we’re all bailing out of our dollars, and that’s because there are too many depreciating dollars floating around out there (and many more on the way).

The CFTC will seek to make such ETFs into closed-ended funds that fix the number of shares that can be issued.  Then as more people buy the ETF’s limited shares, their price will become a premium above the commodity price, thereby making them less attractive to the retail investor.  At least that’s how the feds want to limit how we can get out of dollars that they intend to tax through inflation.

We note again that the government will not restrict the big guys like Goldman Sachs and Morgan Stanley from buying commodities for their own portfolios and their big accounts.  Just the little guys will be impacted ‘for their own good’.

In 1933 FDR made the private ownership of gold bullion, coins, and certificates illegal in his futile attempts to control the economy and end the Great Depression.  For autocrats to control a population, they must first take away the people’s guns and gold, and force them to use a manipulable fiat currency for their medium of exchange.  Forget about using that fiat currency as a store of value when a country’s debt and unfunded liabilities are already beyond repayment, and are now approaching levels where it can no longer make interest-only payments on the monies owed.   

[23aug09 update]  Perhaps readers new to RR may take my words as hyperbole or exaggeration.  I try my best not to indulge myself in that manner.  Here is an example of the utter sleaze that leftwingers in Congress are attempting with 'under the radar' legislation that will criminalize the legal ownership of guns.  HR 45 cannot stand the light of day, so it is being ushered through the stinking, dimly lit back alleys of Congressional law making.  The Big Brother brigades in that corrupt body want only criminals and the state to have guns so that the overwhelming number of law abiding citizens become like the post-Bolshevik Russians or the Germans after Hitler took the reins - forcibly compliant.  
 

Imported Dollar Multipliers and Local Economies (14jan09 update)

George Rebane

With the worldwide economic downturn that is being amplified by the mavens in Sacramento, there is a lot of interest and attention paid to local economies.  Here we are trying hard to keep existing businesses (by buying locally) and at the same time attract more firms or cash importers to our community.  In this piece I attempt to give a working understanding of the ‘output multiplier’ which summarizes the economic effect on a (local) economy from the arrival of an imported dollar.  (A more general discussion of multipliers is available in this short pdf Download EconMultipliers.)

It’s long been known that every dollar that comes into a local economy produces more than just a dollar’s worth of benefit to the community before it leaks back out.  This benefit is calculated using the so-called ‘Output Multiplier’ or simply ‘multiplier’ which is just a number like 1.83. 

The total benefit of an imported dollar is then equal to the multiplier in dollars – for example $1.00 * 1.83 = $1.83.  It’s as if the multiplied dollar amount was actually making the rounds in the local economy.  The reasoning behind such a multiplier is easy to understand.  Say, a retired person living here gets a check from a pension plan or an investment account.  Depending on her lifestyle, she may spend 60% (the retention factor) of her check in the community and the remaining 40% (the leakage factor) for expenses that are outside the community – for example state and federal taxes, online shopping, a big box store in the next county, and so on.

If we now assume that she’s a pretty typical spender, then we see that the 60% of the cash that stayed in the county will be spent in such a way that 60% (or 0.6 * 0.6 = 0.36 = 36%) of that cash also stays in the community, and so on until all the money leaks back out of the local economy.  The question now is, what is the sum of all the diminishing pieces or percentages of that imported dollar that benefit the local economy – that is the multiplier number that we seek.

Money Math

George Rebane

 

Broken Windows and California’s Greenhouse Gas Plan

George Rebane

The jury is in on California’s syndicated columnist Thomas Elias – his acumen in economics is about a bubble out of plumb.  The man’s 4nov08 piece ‘Greenhouse gas plan might green state economy’ in the San Diego Union (repeated in today's Onion) was full of the liberal drivel that government funded make-work programs will somehow again revitalize California’s lethargic economy.  The plan he’s referring to is CARB’s Cap and Trade Scope Plan to implement AB32 recently passed by our politicians in Sacramento.  Californians will now joyously accept money from the feds to develop technologies designed to reduce greenhouse gases whether they need reducing or not.

None of these new ‘green businesses’ will be able to make it on their own.  Instead, if they follow government diktat and play like they’re real companies selling into real markets, products which are really desired by customers, then they and everyone in the pipeline will get money.  Our own little county will do its best to also belly up to the trough as part of its economic development hopes. 

Where will the money come from?  Well, a bunch of it will come from the good folks in Ohio (my favorite state for transfer payments to California), because we can’t tax ourselves enough to fund such tomfoolery.  And if you really sharpen your accounting pencil, the money will actually come out of thin air – the honorables in Washington will just print more of the stuff.  We must always remember that our country is broke as far as funding any of these marginal bamboozles like bank bailouts and carbon footprint eradication programs.

And yes, once government starts pouring money into this newest ersatz industry and guaranteeing its profits, investors will pile on because there will be enough of the new greenbacks for everyone on this gravy train.  So what’s not to like?

The Long-Term Investment Myth

George Rebane

We’ve all been advised to invest for the long term – buy quality and just hang on to it – for best results.  But all long term investments have to take buying power (aka inflation) into account.  The astute investor knows that inflation is a government assets tax and acts accordingly.  If we look at the inflation adjusted performance of quality stocks, as in the Dow Industrials, then most of us are in for a surprise.  The chart below (from Chart-of-the-Day) was sent by a correspondent.  (This is a semilog chart on which all equal vertical distances represent the same *percentage* gains or losses.)

You can play with the numbers yourself, but one thing becomes clear right away.  Since the beginning of the Great Depression in 1929, the Dow has now less than doubled.  This gives an effective annual yield of about 0.9% for the 80-year long term.  But you say that no one has an investment horizon that long, and you would be right.  So what would you pick as a more reasonable investment horizon – 10, 20, 30 years?  Well, it doesn’t take a rocket scientist see from the chart that your annual return for such periods depends greatly on when you bought in and when you decided (or life decided for you) to sell.

The main point here is that blind buy-and-hold strategies have an oversold reputation.  And this explains why all the brokerage services, newsletter gurus, and technical analysts continue to make money.  They claim to help you buy low and sell high – in short, they help you do what you’re not supposed to do, time the market.  As you can see, market timing is not something to casually toss out the window.  By the way, had you sold your 80-year investment when the Dow was recently at 14,000+, your annual return would have been about 1.3% - whoopee!

For an alternative investment strategy, which many of us today wish we would have practiced, consult the now-famous trader and math professor Nassim Nicholas Taleb in his ascerbic and fascinating to read essays Fooled by Randomness and The Black Swan. 

More Problems from Government Solutions

Mike McDaniel

As long as we look to the government for solutions there will always be a problem.

I would be a hypocrite to be a financial advisor and not believe in free market capitalism.  Anyone invested in the markets must believe in free market capitalism.  A characteristic of our free market system is the fact that there will be good times and bad times.  An investor must learn to take the good with the bad. No one faults the markets when they are rocketing higher. But, when it comes time to revert to the mean we look for bailouts.  So the main stream media calls on our politicians in Washington to relieve the free market participants of the bad times inherent in free markets.

[The “fat cat” bankers are not free from blame even though the government did not catch their hands in the cookie jar. Their punishments have been handed to them by the markets (see the demise of Bear Stern, Lehman Brothers, and others).  The market continues to levy justice to the executives that engineered, concealed and pawned off the toxic debt to investors.]

It has been reported that the recent $700,000,000,000 bailout sparked a 99-1 ratio of constituents against the bailout to those who favored it. Could it be that Americans don’t think our politicians are capable of solving this crisis? Could it be that our politicians (both past and present) helped create the financial crisis of today?  Yes and Yes.

In my opinion, the current crisis was generated and has frustrated investors due to the following:

 The socialist dream of housing for every American mandated by our politicians (regardless of the homeowner’s ability to pay back the mortgage) was a catalyst for the crisis.  Each of the State of the Union addresses going back to 1994 that I can remember showed a president (Clinton and Bush) touting their administrations ability to get the uneducated, less financially fortunate Americans into homes of their own.  This “accomplishment” comes at a price.

 The Federal Reserve (under Alan Greenspan) kept key interest rates too low for too long.  The over supply of funds to our nations bankers encouraged our bankers to design unconventional loans as a means of getting funds into circulation.  Once qualified homeowners refinanced 2-3 times in 3-5 years, bankers designed plans to expand the definition of “qualified.”

 Bankers looked to a laundry list of government regulatory agencies (SEC, OST, FDIC, HUD, US Treasury, and Federal Reserve to name a few) for acceptance, oversight and approval of the newly designed loans.  The banker’s new “unconventional loans” passed EVERY government agency's litmus test.

 Investors and credit rating agencies relied on and made investments based on the perceived oversight by the SEC, OST, FDIC, US Treasury, and Federal Reserve that was non existent.   Supervision was entrusted to various government agencies at the peril of investors around the world.

 The corruption, mismanagement, and inabilities of management at Freddie Mac and Fannie Mae (both are Government Sponsored Enterprises) produced, concealed and then exacerbated the problem.

 Lastly, investors that flocked to “safe haven” investments such as gold/silver, energy, agriculture, foreign currencies have not been rewarded for their beliefs/actions due to our government’s heavy handed intervention.  Our government’s bailout inclinations have stepped in to manipulate the world markets.  The market will return to a “free market” when the government returns to its typical role. 

The overall trend is clear. Systems put into place by politicians to aid the free market system have and will continue to fail taxpayers and investors.  As long as we look to our politicians for solutions there will always be problems. 

Mike McDaniel is a Financial Advisor and principal of McDaniel Wealth Management. He can be reached at (530) 478-0326. 

Don't Blame the Oil Companies

Michael McDaniel

Yes. I said don't blame the oil companies for excessive prices at the pump.  For months now I have put up with comments attacking the companies that provide fuel for our vehicles.  I do concede that oil company management teams both past and present may be to blame for a portion of the prices we are paying at the pump. However, I contend that the oil companies cannot be solely blamed for the high prices.  An examination of facts...

The Devaluation of the US Dollar:

• Blame the United States Federal Reserve.  First and foremost our very own FED has been implementing a monetary policy that continues to crush the value of the US dollar (both via inflation and weakness versus other nations currencies).  As our currency becomes worth less, countries selling us oil require us to pay more. 
• The current ill health of our banking system (an extremely important variable in any economy) decreases the demand for US Dollars. Would you be eager to invest in a foreign country which is taking historic means to keep their banks solvent? As our currency appears to be more risky, countries selling us oil require us to pay more.
• Growth in other countries have proven to decrease the demand for US Dollars.  With the global economy growing at a faster pace than the US it is natural to see other currencies strengthen versus the US Dollar. As our currency becomes worth less, countries selling us oil require us to pay more.

Supply and Demand:

• Increased demand for oil by India and China (and the rest of the developing world) force prices higher.
• Our leaders continue to ignore the resources available here at home, ANWR anyone? I expect most cultures are confused that the USA would rather go to war and kill humans in search of oil, rather than put our Alaskan wildlife in jeopardy. 

Education, Values, Ambition:
Where have all the Scientists gone?  Didn't we get a glimpse of the threats/addiction to oil in the 1970's? Am I to old fashioned to expect that the greatest country in the world could design a solution to this issue over the past 30 years? Again I ask, where have all the scientists gone?  We cheer our athletes, actors, musicians... maybe it is time to give some hype to our future scientists/technicians knowing full well that it will be one of them that will answer the call and save the day. 

Profit Margins:

• Where do the energy companies stand in terms of Profit Margin? For every dollar of sales or revenue how much do their owners earn in "profit?"
  
  • Exxon Mobile owners manage to take home approx 10 cents on every dollar of total revenues, or a 10.85% profit margin.
  • Johnson and Johnson is often noted atop lists for exemplary ethics, their profit margin is 18.64%, owners of JNJ profit approx 19 cents for every dollar of total revenues.
  • Microsoft owners earn over a 28% profit margin.

Though I do not give the oil companies a full pardon, I hope these insights provide a more productive discussion than just pointing fingers at the oil companies.

Investing while Inflating

George Rebane

Attempting to hang on to your money today is very hard, and it’s about to get harder.  Your greenback dollar is being destroyed at a prodigious rate, and destroyed it must be since at its present value there is no way that our government can meet its commitments to all those whose votes were bought with our bought-and-paid-for assets (yes, I said assets), and our children’s future earnings.

The government will have to come up with over $50,000,000,000,000 (that’s trillions for those who don’t count zeros) of unfunded liabilities in the next couple or three decades to cover its obligations – and that’s in the value of today’s dollars.  There is no way that it will collect this amount in taxes while the people still have their guns.  So the only solution is the classic one for overspent governments – destroy the coin of the realm and pay off the promised amounts in worthless fiat money.  No-one from either party has come up with a better solution.  (Except that the socialists have some ideas about your guns.)

The government has a number of ways to exact this tribute, the two major ways being simply by taxing your labor and your profits, and then adding the hidden tax of inflating the currency.  Before going any further let’s be clear that the buying power of your dollar can go down for two distinct and independent reasons.  First, by inflation when there are more dollars chasing the same amount of goods and services - inflation is purely a monetary phenomenon.  And second, when market or other non-monetary forces increase demand or diminish supply for goods and services.

Our Financial Mess is Bigger Than You Think

George Rebane

Most of us concerned about the future of the Republic have been following the subprime mess and its larger implications for our nation and way of life.  For those passengers not concerned about why the cabin floor is beginning to tilt, this is the time to hit the exit button and go find an empty deck chair.

Michael Lewitt of Harch Capital has written an extremely well-composed analysis of the ragged edge on which we find ourselves financially, and a prescription for how to put ourselves back on a firm footing.  This piece is especially important now that Secretary of Treasury Paulson is proposing the next pallet of palliatives to fix the US financial system.  Whatever will be implemented will affect all of us.  Lewitt’s article, ‘How To Fix It’, is not a sound bite but grist for the serious reader.  You may not agree with all of it – it shakes some of my long-held beliefs – but it is an education about the edge of our financial cliff and also a stake in the ground. And as such, it marks a place to take a stand and communicate your own thoughts to the local politician who in all likelihood doesn’t have a clue about what is going on and just keeps an eye on the polls.  Well, here’s your chance to find out how you want to affect the polls.

Kudos to John Mauldin for making this piece of clear thinking available to wider audiences.

PS.  Check out this little piece and glue it together with Lewitt's article.

The Screwing You Get For The Screwing You Got

George Rebane

This used to be the bawdy definition of ‘divorce’, but now, alas, it will have to do double duty for Social Security as well.  For those of you not yet retired or close to retirement and paying in to Social Security, be prepared for (drum roll please) The Entitlements Meltdown.  TEM is a certainty since to maintain promised payout levels we would all have to be taxed at rates between 50% to 80% according to Boston University economist Laurence Kotlikoff. 

If you consider this to be a slim chance, then Plan B is for the US Government to say ‘just kidding’ to you younger workers by citing the 1960 Fleming v. Nestor decision of the Supreme Court, to wit – the government has no legal obligation to pay the worker because the worker has no legal right to Social Security – entitlements are not a contractual obligation like other government securities.

Add to all this the fact that, as David Brooks of the NYT recently reported, “the U.S. government has $43 trillion in unfunded liabilities, or $350,000 for every taxpayer. Standard & Poor’s projects that in 2012, the U.S. will lose its AAA bond rating.” , then you begin to get the right perspective here. 

I say ‘begin’ because the unfunded liabilities story doesn’t end there.  States have an additional layer of unfunded liabilities waiting for future taxpayers, and then we have your local county and city.  Our Nevada County governments currently have visible unfunded liabilities in the order of $50M for just government worker pension benefits.  (For an up-to-date report on this visit SESF.)  Other layers are waiting to be added.

Recall that the federal government gets money only through taxation, borrowing, and printing the stuff (called fiat currency) – the latter two go to make up the ‘invisible tax’of inflation.  From here on out your dollars are going to be protected only to the degree that they are backed by a healthy and growing economy abetted by a fiscal (taxing and spending) policy that keeps investors investing.  When investment stops, then look out below because Santa Claus resigned some time ago.

Today's Markets - A Perspective

George Rebane

I received the following email from a friend and member of our little investment group.  He is the most astute and insightful investor I personally know and his remarks are forwarded, with permission, for the consideration of those readers interested in what's going on in the today's security markets.

Today is a fine example of inefficient markets.  Short term investors are concerned with the bounce in consumerism and the increase in inflation concerns (less likelyhood of further rate decreases)  Hence, commodity prices are down.

Long term (which really counts)

   1.  Who really believes that the worst of the credit crunches are over?  The only way the govt can TRY to avert a housing disaster and a severe stock market decline is to continue (mid-term) with interest rate reductions.  This reads as increases in the money pumped out by Washington.

   2.  The bail-outs for failing mortgages and falling real estate prices will ultimately resemble the corrupt effort the last time this happened.  A government market of last resort supporting and auctioning real estate.  This will add funds to the fire.

   3.  The countries across the seas will not stand by and accept a weakening dollar and damages to their export positions.  They will also pump out more and more currency.

   4.  Investors in all countries will ultimately lose faith in currencies and turn more and more to assets that can retain purchasing power.  This will ultimately support gold, silver, timber, energy and (yes) the stock markets.

   5.  Lots of volatility ahead and many opportunities to fall for the short term head fakes.