Saturday, May 17, 2008

When the illusion fades away

A bottomless pit

Today's earlier posts:
Vietnam is the new China is the new America
Debt Rattle, May 17 2008: Harvest Time in Spring

Ilargi: We've posted reports from European think tank LEAP/E2020 before. Here's their latest. They're a bold and hard hitting unit, something I appreciate, even if I don't necessarily agree with them on every single point.

As you can see in this free public summary of the report, LEAP/E2020 foresees a pretty complete meltdown of global economic systems starting very soon. It would not surprise me if they were right.

New tipping-point in the global systemic crisis:
When the illusion that the crisis is under control fades away…

- Public announcement GEAB N°25 (May 16, 2008)

Sorcerer's apprentices are doomed to repeat the same mistakes on and on. In 2007, the authorities' and large financial institutions' attempt to conceal the subprime crisis (1) (which had already started hitting hard on the markets in February-March 2007) resulted in a severe and sustainable shock in summer 2007.

Well, in the coming weeks we will experience a "remake"; of the same scenario, i.e. a serious aggravation of the January-March 2008 financial crisis at the beginning of Summer 2008.

In this 25th issue of the Global Europe Anticipation Bulletin, our team therefore decided to describe five of the seven trends currently at work and soon to result in this new tipping-point of the global systemic crisis (the last two trends – Europe and Asia - will be analysed in GEAB N°26):

  1. Real estate: A bottomless pit

  2. Global financial bubble: Inflation only is progressing

  3. US economy: Recession settles down

  4. US public deficits: The big return

  5. Dollar: The rebound that does not exist

  6. Europe: Decoupling confirmed – The heart of Euroland resists / UK enters recession

  7. Asia: Severe slowdown ahead

We also formulate a complete series of strategic and operational recommendations aimed at preparing oneself to the upcoming Summer-2008 shock (on subscription).

In this public announcement, we also wish to explain in what way this new operation of « euphorisation » in fact will contribute to worsen the upcoming shock.

Indeed, despite all the signs indicating that the crisis is going on (bank losses and continued process of financial asset depreciation (2), proliferation of medium-size bank failures in the US in particular (3), increasing weakness of large insurance companies (4), steady collapse of housing prices (5), contamination to real economy and non-US economies (6), pursuance of the US currency fall (7), economic slowdown in Europe (8),...), financial authorities, large banks and the international media have undertaken to profess that the crisis was under control.

Powerless as they are in real-life, these sorcerers' apprentices have come to resort to a « psychological weapon » to curb the crisis. The global systemic crisis still has long to live, having nothing to do with this virtual reality where central bankers, private bankers and financial media seem to be operating. Of course large banks took advantage of today's general “euphoria” and managed to share past and future (even greater (9)) losses by launching vast operations of recapitalisation (10).

US housing: a bottomless pit - Evolution of home prices in US 20 largest cities 01/2000-02/2008 - Source : S&P Case-Shiller

This time however, contrary to last year, operators are unwilling to be fooled. According to LEAP/E2020, this is a major psychological factor, one that will contribute to emphasize the impact of the crisis once the mirage of a crisis-under-control fades away at the beginning of this summer 2008.

Indeed, the global financial system, and in particular its US pillar, is currently staking its all (though our team is not so sure the system is fully aware of it). But the credibility of the Fed and of large banks is extremely low today (not mentioning political authorities'). Operators (whether they are individuals, simple savers or sovereign funds) are suspicious and beginning to wonder if they are not being manipulated.

If, as our researchers believe, they realise in a few weeks that indeed they were being manipulated and that the crisis is far from being under control but on the contrary is reemerging even bigger, then real panic movements will swoop down upon financial markets. When it comes to mass-psychology, nothing is worse than the collective feeling of having been fooled on purpose.

Here is a simple illustration that will speak to all those of you who know that banks « hold » the vast masses of investors because of the confidence savers have in their capacity to manage their investments: imagine what would be the consequences of a sudden savers' refusal to keep on letting banks manage their savings as they want, and their insisting upon switching their portfolio into less risky investments!

Such a move could provoke a 20 percent drop on global financial places in just a few days. This nightmare probably haunts central banks in general, and the US Federal Reserve and the Bank of England in particular (whose economies are closely linked to stock market behaviours). Paradoxically, it is by refusing to face the direct consequences of the financial crisis that they are paving the way to an even greater shock.

Indeed, contrary to what they say (and maybe to what they really believe), there is no bottom to the pit that can stop the fall; or rather, there might be a bottom but its getting deeper day after day (11). Ironically, those who in the past years used to say that there was no limit to profit and benefit increases, are now trapped in a process where the bottom gets always deeper, where losses keep increasing endlessly as reference asset prices fall always lower, and where the only things that go always higher are energy and food prices. But isn't irony one of the only identifiable features of History?

The tragic part is the billions of people now struggling to buy their food because of soaring inflation in food commodities; or the dozens of millions of people who bought houses in the US, UK or Spain these years and find themselves with endlessly devaluating assets; or the dozens of millions of employees, individual entrepreneurs and government staff about to lose their job.

US opinion on state of the nation's economy (12/2006 – 04/2008) - Source: Washington Post/ABC News

"Was it so necessary to save « private Bear Stearns » at the price of such unprecedented financial leniency? " is the question each and everyone should be asking to financial experts. "How can we save the dozens of millions of unknown economic operators today stormed by the crisis?" will become the central question for all political, economic and financial decision-makers from this summer 2008 onward.

In consideration of the virtual atmosphere according to which the manipulation of information is the utmost means of governance, our team tends to be rather pessimistic as to world leaders' capacity in providing efficient responses to the second question. But in any event, it is this second question which is important because it still belongs to the future, even if time is running out.

In the next issue of the GEAB – the summer 2008 edition, our team will describe in detail the outlook for the second semester of 2008 in each great region of the planet; as well as the options available, region by region, sector by sector and category of asset by category of asset.

The complete edition of GEAB N°25 is available on subscription



(1) At that time, our team called this operation a "players' euphoria".

(2) Almost every day, an American, European or Asian bank announces billions of USD or EUR worth in new losses or profit reduction. In the past 5 weeks for instance: Citigroup (source: Bloomberg, 04/18/2008), UBS (source: New York Times, 05/07/2008), Crédit agricole (source: France24, 05/13/2008), HSBC (source: ICWales, 05/12/2008), Lehman Brothers (source: Financial Post, 04/17/2008), Deutsche Bank (source: International Herald Tribune, 04/29/2008), Mizuho Bank (source: India Times, 04/11/2008), Royal Bank of Scotland (source: Financial Week, 04/28/2008), etc... the complete list would be wearisome.

(3) Three bank failures already in the US in the past three months, not mentioning Bear Stearns' bailout by JP Morgan on Fed money, and Countrywide whose providential bailer, Bank of America, is getting more and more reluctant to complete the operation. Sources: CNNMoney, 05/12/2008 & BusinessWeek, 05/06/2008.

(4) As anticipated by our team a few months ago, large insurance companies are beginning to acknowledge major losses due to the crisis. In the past few weeks, two large US insurers – AIG, the world's leader, and State Street (close to bankruptcy) - kicked off the season. But they are only the first of a long series: like banks, insurance companies are trapped between asset depreciation and customer insolvency. Sources: CNNMoney, 05/09/2008 & DowJones/EfinancialNews, 05/08/2008.

(5) In the US, home prices fell by an average 7.7 percent in the first quarter of 2008, i.e. a 29-year record drop (since this index exists). In the UK, the government is worried that the market falls by 10 percent at least this year. Sources: Bloomberg, 05/13/2008 & Telegraph, 05/14/2008.

(6) On this topic, read Ambrose Evans-Pritchard's very good paper in the Telegraph, 05/13/2008.

(7) In a press release dated 05/07/2008, the Federal Reserve of Atlanta stresses the fact that the US dollar reached a new historic low in April against all significant international currencies (not against the Euro only). Source : Federal Reserve Bank of Atlanta, 05/07/2008

(8) Source: European Commission, 04/28/2008

(9) As recently highlighted by David Rubinstein, head of the Carlyle Group. Source : Bloomberg, 12/05/2006

(10) Such as, for instance, Washington Mutual (source: La Tribune, 04/08/2008), Citigroup (source: BBC News, 04/29/2008), Royal Bank of Scotland (source: SkyNews, 04/22/2008) and many more like Société Générale, UBS, etc... or like those which were temporarily rescued by means of capital injections of sovereign funds. Of course, these operations must appear like as many opportunities not to miss… at least during a few months.

(11) The most striking example is provided by the US housing market whose prices keep falling while the economic recession deters potential buyers from taking advantage of falling prices, all the less since banks – which crumble under their stocks of foreclosed homes, keep reducing housing loans for potential buyers. This way, prices go down and down, bank assets lose value, household debt capacity reduces, housing-related spending – and a key sector in the US - slows down, tax revenues diminish, and potential buyers are compelled to wait. Thus the pit's bottom gets always deeper under the feet of consumers, banks, and local, national and federal authorities. According to our team, this “downward” trend will continue until the end of 2009.


Iowa Boy said...

This is just lovely - I've been about ninety days ahead of the curve in my personal predictions - thought what we saw beginning 4/1 would have started right at the first of the year and I was expecting April Fools to be, well, foolish.

I think I'll set up my own bank ...

Anonymous said...

Will the impending global financial economic meltdown occur before the U.S. November elections, or will the Republicans try to hold if off until January 2009?
Anonymous Reader

Stoneleigh said...

Iowa boy,

Ahead of the curve is exactly where you want to be. Unfortunately it means that your credibility suffers periodically as you differ from the consensus position, but it is still better to be early (even very early) than too late. In the stock market crash that will eventually occur, being too late to get out will be fatal.

Many people are already discovering this in the housing market, as real estate can become illiquid virtually overnight once the psychological shift away from confidence in eternal price rises occurs. When I pointed this out on TOD in October 2005, people reacted with ridicule, as many still do when Ilargi and I talk now about deflation.

Stoneleigh said...

Anonymous reader,

Timing is always very difficult to establish. My opinion is that we'll see another at least phase of stomach-churning credit tightening before the election, but whether we'll see freefall by then is debatable. I think we could see the worst of it in 2009, but if that opinion changes as events unfold, I'll let you know. In the meantime, thank heaven (so to speak) for every day you get before it happens, as each day is one more to prepare for a life-changing event.

Iowa Boy said...


I wasn't kidding about the banking bit - I think we're going to set up a bit of a fund focused on energy stuff. Boring energy stuff - boilers, radiators, insulated piping, etc - just the nuts and bolts for things that are already well understood; there is money in this right now.

Anonymous said...

Stoneleigh, Ilargi

I found the LEAP/E2020 GEAB no. 25 Summary interesting, if a little apocalyptic in tone. Do you reckon their work is worth the E200 pa subscription?