Peter Yastrow's Blog

More on Thinking; (pronounced “moron thinking”)

A recent article accused many of us pragmatists as “chicken littles”.  In spite of my rather large size, I felt the author was referring to me. Mr. Epstein sited examples where the economy was experiencing a recession, but then later recovered.  His logic rather simple: history repeats, and seen it happened before.

Mr. Epstein does not bother to discuss what propelled us out of recessions in the past, or why the recessions occurred in the first place.

The first example was from winter of 1983. Growth was expected to be a low 2.5%, but actually came in at 7.8% for the next four quarters? Perhaps it would be helpful if we understood that our economy grew in the 1980s because of the proliferation of computers. Borrowing was vital. A company had to become computerized, and investment in technology was critical to survival.  The technological innovations and productivity gains were massive. There is nothing on the radar now that is capable of producing the type of productivity boost that came from computers. Perhaps the financial soil is every bit as fertile as it was in 1983, but we don’t have the right crop.

The second example came from 1992. The economy slowed, but recovered. The economy slowed in 1990 as we awaited the January invasion date for Desert Storm- the first Iraqi war. The economy recovered fast in the spring of 1991 and then leveled out. The leveling out appears to be a slowing, but is a result of percentage changes being compared, rather than absolute levels. Then the economy began to grow dramatically. Mr. Epstein chooses to compare the low level of Consumer Confidence in 1992 to the low current levels as “PROOF” that we are on the verge of an economic rebound. Consumers are too pessimistic at the bottom he argues, and therefore the low levels of confidence now set the stage for recovery. The only difference is that the cell phone was just being introduced…  One of the most fantastic advances of mankind ever.

When we try to understand our economy, we need to step back from the numbers. The numbers don’t tell the real story. The numbers help to understand the scope and magnitude of issues, but can often confuse the reasons and explanations. The economy should grow as a result of healthy investment and productivity gains. Currently, the economy is slow, business is slow, investment is slow and for good reason. There are not “must have” technologies like computers, cell phones and the Internet forcing individuals and companies to get up to speed. It should be slow. If there was indeed a “better mousetrap” then our economy would grow- as it should.

I am not sure if the sky is falling. I am very scared. I get scared when I read articles that encourage us to stop thinking. I get scared when authors use contrarian logic as a guide to economic policy. I get scared when I think we just blew a $1,000,000,000,000, a trillion dollars, on things we didn’t really need.

j.o.y to the world          

peter

Economic Insight

There is a scene in the “Simpsons” T.V. show, where the teacher, Ms. Krabapple, asks the class a math question. Millhouse raises his hand, and as he stares at his calculator, and proudly answers, “LOW BATTERY”

 As I read articles and listen to economic discussions, I often find myself comparing the speaker, or author to Millhouse. It is all too common to hear people talk about the data showing improvement, or the numbers turning up, without understanding the specific reasons or mechanisms that created the improvement.. For instance, an economist might say productivity is up, without any understanding of how the productivity gain was achieved.

 If I lay off 1 person, and keep production unchanged, my productivity is higher. Certainly that is a lot different than borrowing money and investing in plant and equipment, which also increases productivity.

 Thinking is allowed.  But too many economists and market strategists rely on their formulas and historical relationships. These economists are staring at the statistics on productivity, and consumer confidence and other metrics, but have never seen the inside of a factory. These are the economists who say things like, “ at this point in the business cycle, employment starts to turn higher”.  These economists do not try to understand the data, or look past the numbers; they simply crunch the numbers, and report the findings. Their predictions do not take into account the global macro economic trends that are driving the world’s economies.

 Think people. Who is hiring? Who is firing? Ask your friends, talk to the cabbies and doormen. Understand that our economy is experiencing a major contraction. It is not going to magically mend itself. The government can’t spend a bunch of money on repaving roads and expect stimulus to result.  It does not work that way- just like breaking and then repairing broken windows is not going to stimulate business.

 Recovery is the wrong term. This is the new world. The last 10 years, were a façade, built on reckless lending practices. Our economy chugged along as housing boomed. Stupidity reigned, and very few stopped to think. How can house prices go up faster than incomes? Are houses learning to be more efficient? The price of houses increased because cheap money poured into the market. Take away the cheap money…and well thinking is allowed.

 J.o.y. to the world

 peter

MULTIPLIER EFFECTS

The concept behind any stimulus plan, or easing campaign is quite simple. By assisting or jump-starting a sector or segment of an economy, we can then expect that other sectors of the economy will also benefit. In economics, the concept of a multiplier effect, with regard to bank lending, is considered an absolute. There is no doubt among FED officials and economists world wide, that we can expect a domino effect with regard to lending. For example, lending money to a bread maker will mean that the farmer sells more wheat, eggs, and butter. The farmer’s increased business causes him to buy more chicken feed, and milking machines. The cycle continues on, as the people who provide for the farmer see their sales rise. This ripple effect through the economy causes the positive benefits of the original bank loan to be multiplied.

    When we created mortgages, we also had multiplier effects.  When a mortgage banker secured a loan for a homebuyer; there was an enormous ripple effect.

The homebuyer needed movers, and curtains, and paint, and cable, and dishes, and towels, etc.  All stores, from Bed Bath and Beyond to Home Depot, were positively impacted.

    By making lending standards more stringent, and realistic, we should anticipate a huge negative multiplier effect. The reduction in loans being made will lead to less stimulation across many, many sectors of our economy.  This contraction across all industries can only be offset by a new driver, or stimulating industry. Without a big development, then we will be hard pressed in this country to offset the drop in real estate activity.

   HOWEVER- I am not advocating a reduction in lending standards- or any program that continues to allow misguided U.S. consumers to borrow money recklessly.

The last 10-15 years we saw our economy grow like never before. Lifestyles advanced.  The standard of living increased. Unfortunately, this growth was a result of negligent lending that created a multiplier effect.  Americans saw their business boom, and their property values increase. They were lulled into believing that this was the new normal.  Now that this reckless lending has been curtailed, the multiplier effect has been lost as well. 

   Economies require constant technological breakouts and innovation in order to grow. We benefitted from computers in the 80s; the Internet pushed us along in the 90s.  Then something changed. In the years that followed, our economy was fed a diet of artificial activity.  We borrowed and borrowed rather than created and innovated. We built houses with borrowed money. The lenders thrilled to be making loans. The borrowers thrilled to be buying a house. (Maybe the biggest problem we face/ buying outright vs. credit)

   It felt the same. The multiplier effects seemed real, and many of us developed a huge misconception of how strong the economy, our own finances, and our own businesses really were.

J.O.Y. TO THE WORLD        peter

Tags: lending, multiplier effect

Pop! Goes the Weasel

The Fed slashed interest rates. They dropped the rate that they charge to borrow money all the way below ¼ of a percent. My daughter has $100 in a kiddie account at the bank that pays ¼%. You cannot imagine the look on her face when she got her shiny quarter after waiting a whole year. The returns are so dreadful that people are forced to put the money to work elsewhere. That is how a Fed Easing Cycle works: they drain the pond. They drain the pond until the fish grow legs.

Does anyone see the paradox?

After a decade of reckless borrowing, the Fed is forcing us to engage in reckless lending.

The housing boom and subsequent bust was fueled by cheap money. The cure is even cheaper money.

This is far from over. The recovery is tepid at best; unemployment is not abating, and the average American has lost over 30% of their wealth over the past 3 years as housing prices have tumbled. Furthermore, the Fed has done all they can do. They can’t take rates negative.

Do not be confused because stocks are up 60% from their lows. Stocks are still far from the highs, and are starting to stall. We will not be able to regain the standard of living we enjoyed as a nation in the 2004-2007 years any time soon. That period was powered by poor lending standards and greedy borrowers. That period was not like previous booms. Prior booms were powered by innovation and technological advances– advances that caused real growth and real prosperity.

The last five years were not real growth that resulted from any advancements. Rather, it was an orgy of borrowing and bingeing that has resulted in a huge dislocation of credit and resources. Too many people now depend on real estate, mortgage finance and home building for careers. Without stupid lenders and greedy borrowers, the commissions and projects are fewer and farther.

The Fed has cut rates. Hopefully real growth will result. But it is doubtful. More likely, the Fed’s campaign will lead to a new orgy of borrowing and lending that will artificially inflate some other industry for a few years. Maybe that is why stocks are up 60%. It’s just one bubble replacing another.

Tags: credit, economics, Fed, interest rates, recession, recovery, stock market

Perpetual Motion Machine

As a child, I had a series of gears and cogs that could be assembled together. By placing small gears next to large gears, I could generate incredible speed or power, all with a simple turn of a crank. Over time I built an elaborate replica of a clock, complete with spinning soldiers. All of the spinning, turning and revolving was driven by one motor buried deep inside. The possibilities of different contraptions was limitless, but all were bounded by one simple fact: Either you had to have a motor, or a crank; the thing would not turn itself.

I likened it to the food chain that we all know from science class. The carnivores eat herbivores. The herbivores eat plants. The plants get the energy from the sun. Plants use the sun’s energy to create carbohydrates out of carbon and water. This process of photosynthesis is the crank, or the motor, that powers 99.9999% of all life on the planet. Like my elaborate system of gears all connected to the crank, each animal connects, one to another, leading all the way back to the power source- the sun.

People are engaged in a huge interconnected economic system like my homemade clock or the food chain. Each person’s profits are derived from the people that they interact with: just like a gear’s rotation is a product of the gears with which it is meshing. All economic activity needs a crank, or a power source. Our economy is driven by a motive force at the beginning of a great big system of intermeshing companies. All businesses are dependent on that source.

Consider a mining town that is thriving. There are restaurants, car dealerships and all sorts of businesses. Yet, as soon as the mine stops producing, the town begins to implode. The stored wealth in the resources was being unlocked, and the town was profiting. Without the stored wealth in the coal, the town’s commerce grinds to a halt. The same as stopping the crank on a series of gears, they all grind to a halt.

Before the Industrial Revolution, our economic machine was much simpler. In the late 1800s, human beings engaged primarily in farming and ranching. Then with the invention of the Fulton Steam engine, and soon after internal combustion engines, we began to produce all types of amazing new tools. We left the farms, and began to create industries. The first industries were making tools to help the farmers. Then we had industries that made tools to help the people who made the tools. Each business and company connected to other companies and joined the chain.

The transition from an agrarian society, to an industrialized society, reminds me of getting a new and bigger set of gears as a kid. I would add more and more gears to my elaborate designs, making them larger and more complex. Eventually the table would be so loaded with gears meshing with other gears, it became difficult to know where it all started. As we industrialized society, we added more and more businesses to the chain, and made our economy larger and more complex. We made it so complex that most people are completely ignorant about our economy and the forces that drive it.

Joy to the world - Peter

Tags: economics, food chain, gears, income, industrialization

Manhattan Project: REDUX

We need to consider a “Manhattan Project” type of approach:

During WWII, from the years of 1942-1946, under the control of the U.S. Army Corp of Engineers, our government led a project to develop the first atomic bomb. The “Manhattan Project” was run by General Groves. On September 17, 1942, Groves, who was only a colonel, was given control of the entire project. He took control of all the scientists and assembled the nuclear research. The project was completely organized and managed by Groves. It was Groves’ genius of organization that combined Fermi’s work at the University of Chicago with corporations like DuPont and Kellogg’s. Over the next four years, the efforts of over 130,000 people were harnessed to solve the problems and tackle the obstacles, all in an effort to build the bomb.

Our country has new problems and new obstacles to overcome.

Our ridiculous reliance on fossil fuel, and specifically crude oil, has funded terrorists, despots and thugs. Our ridiculous reliance on fossil fuel is polluting our atmosphere. Our ridiculous reliance on fossil fuel threatens our very existence, and yet we do nothing. We should be outraged, we should be ashamed.

Our government should oversee a project to develop new ways of powering our lives. Private industry will not be able to solve the problems. Public corporations will not invest the money to overcome the obstacles. The private sector cannot afford to think about problems on this scale.

Only a government that is charged with the mission of developing a new and better system can harness all of the resources and combine all of the elements in an efficient and organized manner.

This is the role our government should take.

When the U.S. wanted to solve nuclear physics, it was solved.

When Kennedy said “TO THE MOON,” we went.

Now we need to define a new mission.

Our country is at a key point in its history. Our standard of living is eroding. We cannot tweak interest rates and borrow our way out of this problem.

We need to think big. We need to take big steps. We need to focus our energy and talent in order to make this happen. Our economy, our safety, our future will all be brighter.

J.o.y. to the world - Peter

Tags: globalization, government, inventions, science, technology

Monday Oct. 26

In today’s trade, we saw a dramatic reversal in equity prices. After opening strong and rallying early in the session, the market tumbled. The sell off was attributed to heightened concern in the financials.  The weakness in equities stemmed the sell off in treasuries.

peter

Cars- Obviously, we are morons.

My daughter asked me one morning, as we made our way downtown, “What do cars eat for breakfast?”

I played along, knowing that she had a new pun, “What do they eat?”

“Traffic JAM!” she said, as she giggled.

My then-7-year-old knew that traffic jams stunk, and making jokes when things stink is what we are famous for.

However, I have to fight traffic like so many others, twice everyday, and after a while, you run out of jokes.

It is really ridiculous though…

I drive to work in my family room. Two heated leather recliners, a small sofa and an awesome stereo- I look left, and I look right, and there are even more idiots driving family rooms too.

What are we doing?

I am driving 2000 pounds of metal, with seating for five. Spewing poison into our atmosphere, so I can get to my place of business. That’s the best we can do? Every day hundreds of thousands of us clog the streets and pollute the air. Each of us burning fossil fuel to cause explosions to push pistons to turn drive shafts to propel a vehicle that is much larger and heavier than we need.

It is crazy.

Then consider the fuel.

Gasoline contains benzene, one of the most carcinogenic substances ever discovered. It is derived from petroleum, or crude oil. We buy a substantial portion of our oil from foreign countries. Several of these countries aid and abet (as well as fund) terrorist groups. The very groups that have sworn, “Death to America.”

Come on America!

We need to see the forest for the trees. We need to rethink transportation systems, and cars. We need to step outside of the box and develop a new way of moving people around, and leave the rest of the furniture at home.

J.o.y. to the world - Peter

Tags: cars, fossil fuel, traffic

More on Money

(not to be confused with moron money)

There is a healthy discussion with regard to the “Saving the Dollar” taking place right here at PeterYastrow.com. I am psyched reading all of the comments. However, I think we need to set a few things straight.

Lower rates make an economy go faster.- No debate.

BUT, there is a cost to lowering rates- No debate.

Otherwise everyone would keep rates at zero- but like all things economic, there is a golden mean, an ideal level.

So, let’s not get all crazy. There are costs associated with cutting rates to zero. We can debate whether or not it is fair; who will feel the most pain, and how the costs will manifest (will it be inflation, depression, stagflation…?).

We can also agree that rates are low. Historically, in nominal terms, they are low. In real terms, they are low. But, if there is massive deflation coming… they ain’t low enough.

I like to think of supply and demand. There is a huge supply of money. Demand is weak. The pain is being felt by savers.

The analogy I like is a cancer patient. We have performed financial chemotherapy on our very sick economy. The weakness in our currency is akin to the patient feeling weak, sluggish and rundown. However, we all understand that there are terrible side effects from the most powerful cures.

J.o.y. to the world - Peter

Tags: demand, discussion, interest rates, money, recession, supply

10,000 in the DOW

The charts indicate that we need to be aware of the bigger picture. Our recent rally really fizzles when we see it in context of the last 10 years. The recent 3000 point rally is not quite as impressive when we see it next to the 7000 point drop that preceded it.

The technicals suggest that we are not out of the woods. Traders and investors need to be taking advantage of this fantastic bounce and sell some holdings. Further rallies from here will be met with tremendous resistance, but sell-offs could be quite dramatic.

J.o.y. to the world - Peter

Tags: daily outlook, DOW, investing, rally, stock market