The Barnard Observer
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Home Vault Misc Contact c2003-10 Thomas Barnard
The New Bubble: Debt
The bubble we are in is a debt bubble. After a brief period of sanity during the constructive gridlock years of Clinton, we have gone on a debt rampage. I say constructive gridlock because a system was in place called PAYGO, which required that Congress find the money for programs within the budget instead of merely increasing the debt ceiling whenever it wanted to do something.
As a nation, we have only one party. It is the big government party. There are two divisions of this party, the Democrats, which have never pretended to do anything about government spending, and the Republicans, who have pretended to like small government.
Republicans and The Bloodlust Exemption. The great general, Eisenhower, fought against the military and Congress on the matter of military spending all of his presidency. In his first speech as President, he said that a destroyer cost about the same as five equipped hospitals, and in his last speech he warned against the new defense establishment that was supplied by a military-only business establishment. Formerly, Ford and GM would convert their plants when tanks and planes were needed, now it was a different matter, and he famously warned about the military-industrial complex.
Since Eisenhower, it's been a different matter. Reagan talked about smaller government, but he increased the national debt to pay for tax cuts and military spending. On his behalf, it is argued that he deftly turned around and negotiated with the Russians, his former evil enemy, and I think he must be given credit for that. But the argument about outspending the Russians bringing them down, I'm not sure about. The Russian economy had been in trouble for years, and I think an argument can be made that it just wound down.
Bush is another matter. He fired up the military to fight a war that didn't need to be fought. It could be argued that it was just another fraud in an era of fraud - Enron, Worldcom, Tyco, Madoff, Iraq. My problem with all of this is that it was done on borrowed money. I actually remember people expected taxes to go up to pay for the war. [Those would be the upright, old-timers who think you need to pay your bills.]
Did taxes go up? Noooooo. Taxes went down. He borrowed the diff. Unbelievable. Unfathomable.
Our national sense about debt and payment seem to have separated, cleaved by greed, bloodlust, but also by welfare. Bush hit all three: tax cuts, a needless war, and by adding to the burden of the social security system by adding a drug card. It would be interesting to see how Bush will rated by historians a hundred years from now.
But along comes Obama, and we get the Democratic version of the big government. I think a stimulus bill could certainly be argued in the face of a sinking economy, but the bill we got was an abomination, perhaps not of Obama's origin, but he went along with it. People complained that Bush never vetoed anything. Well, he's followed by the next big government president, who also doesn't veto. First thing I noticed in the Stimulus Bill was that he paid $80 billion of medicaid bills. But I loosely use the term "paid" because all he, or Nancy Pelosi, did was add that to the national debt, he put it on the national tab, the nation's charge card. Those bills weren't, in actuality, paid.
Defined Benefits, GM, and Social Security.
Defined benefits may the greatest curse of the twentieth century. Recent casualties are Japan Air Lines and Mitsubishi, which are grossly underfunded in their pension obligations. Nippon Tel has been trying for 6 years to reduce payouts to retirees.
The Social Security system was sold by Roosevelt as "insurance." But it was never insurance. There were never any reserves against future payments. There's a trust fund, but it doesn't have any meaning. The program started with 13 people paying for every person receiving, but now it is only 2 to 1. Either taxes will have to go up, or the government will have to cheat us, fair and square, and raise the age.
General Motors in the 1950s assumed the benefit and welfare for the union workers, and this was their complete undoing. Medical costs escalated without any apparent limit, and defined benefit pensions were impossible to fund. Swoosh, they went belly-up, fifty years later.
Medicare also has funding problems, but on top of all of this we have the National Health act whatever it is called. My senator called it a great act of social justice. Who committed the tort? Terms like that make feel squirrelly even if I agree that something needed to be done about medical costs and widening the social net. It looks like the Democrats have done it to us again. But we really don't have an alternative party.
But on top of this are all the state and municipal defined-benefit pensions. We've all heard about the job promotions and pay increases that have been awarded teachers, firemen, and policeman as they approach retirement. It's a scam. Their pay is based on last three years. One city in California went under, but I don't think it will be the last. I think citizens will eventually rise up against working to pay bloated pensions, but perhaps only a bankruptcy judge can reduce pensions to livable amounts for the rest of us to pay. That's what happen to Japan Air Lines. It slid into bankruptcy and the bankruptcy judge slashed pension benefits by 50% for its 24,000 retirees.
In River Forest, I heard the story of a friend whose real estate taxes went up by 48% while the value of their house went down, and their income went down. Now they have to hire an attorney. There's another scam, if I ever heard one. Fair warning: at some point, the public may really get angry. We need to quit defined benefit programs, neither private industry or the government ever funds these things properly. Defined benefits: bad idea.
Healthcare Initiative
If we were watching a group of wolves, and we saw one or two trying to help a wounded or sick one of the pack, we would applaud it as the act of an intelligent and compassionate group of animals. So, we would be happy to be in a group like that. Because it would be in our best interest, someone might help us out if we needed it.
But I have are a lot of reservations. Off the top, almost all welfare legislation has been a bipartisan proposition. But there wasn't even a single Republican defector. Perhaps this is just a sign of our increasingly dysfunctional democracy, or perhaps they should have started over. Buffett said if this is the best we can do, then we should go for it. But his main feeling was that we should start over. There may have been no harm in starting over. The public absolutely wants lower healthcare costs. There still would have been a mandate for action.
On CNBC when the crew member on SquawkBox said that welfare benefits are never reversed, Jack Welch said, understatedly, we've always had the money. The Economist has expressed great concern over the National Health system in the UK. The North Sea oil has been paying for those benefits, but North Sea oil output is declining. I wonder if Margaret Thatcher will be proved out: the problem with social programs is that finally you run out of other people's money.
Well, the legislation has been voted, we'll see what happens.
The Bond Market is Already Warning Us. Listen, there are already warnings out there for anyone who is paying attention. There was an article circulating last week that bonds of Berkshire Hathaway (Buffett) are now paying less that the Federal government's bonds for similar time periods. Equally disturbing is that Pimco's Bill Gross, a bond genius, has started buying and recommending Canadian and German bonds.
The unhappy thing is that things go along until there is a big jolt. I could warn you about the dollar or our government's debt until the cows come home, but all it will take is just a story in the Wall Street Journal that China has stopped buying so much of our debt. Not that they quit buying, but just backing off. We really need to get our house in order, but I don't see it as far as the eye can see. Look for safe havens.
Stocks: Neutral, with a slight bias up.
Seems like I get burned whether I am positive or negative. But Richard Russell was negative negative on the stock market, saying that 10725 was the half way point from the top and bottom. He figured that the market would fail to break through, but it did. Failing to get the stock market right, he's focusing on gold. I'm calling a spade a spade, looks like the market may go up.
Jack Welch said on CNBC that the recovery is "baked in" until the middle of 2011 by virture of the world's stimulus programs.
Stock Recommendation
I looked at Citibank's financials
about a month ago, and rejected it. Since then, the story has improved.
although I still don't much like Citibank's (symbol: C) balance sheet or profit
and loss, but it might a buy because:
1) CEO Pandit is shucking the losing operations, the non-bank stuff.
2) Citi is great world-wide franchise.
3) Bottom feeders Soros and Paulsen have taken big stakes.
4) Sentiment in general has turned favorable towards Citi
5) A preferred issue was oversubscribed.
6) The government is planning to exit. They will sell their 8+ billion
shares over the rest of the year. If daily volume is 500 million, then
this 16 or more days of trading. So, I would not necessarily expect this
to affect trading greatly.
7) There is great leverage here, so earnings could eventually be significant.
8) Value Line says it's risky. But they say the 3 to 5 year potential of the stock is 6-12.
When I first thought of writing this piece the stock price was $3.85, it has since gone up to $4.52. I have decided to go ahead. Make up your own mind, I'm nibbling.
It is risky, still a lot of write
offs. If one wants to take a positive point of view, I suppose that the
number of write offs will go down as the economy picks up and turns
non-performing loans into performing loans.
While the stock may go down, it is clear the government stands behind it, for better or worse, as a bank too big to fail. Vikram Pandit seems like he's doing the right things, getting rid of all the extraneous operations, and focusing on the main business. So, I don't feel the downside risk is enormous, but the upside could be quite handsome and you're in good company.
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