Generational Dynamics
	Forecasting America's Destiny ... and the World's
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Web Log - December, 2007

Pakistanis are increasingly joining forces with al-Qaeda

The contrast with the Iraq war and al-Qaeda in Iraq is instructive.

In January of this year, female students at a large seminary complex known as Lal Masjid or Red Mosque in Islamabad began protesting against the government of President Pervez Musharraf, demanding that Taliban-style Sharia law be imposed.

Protesting female students at Red Mosque seminary wearing burkas and carrying bamboo sticks

The girls began wearing head-to-toe black burkas and, in a move heavy with erotic sexual symbolism, began carrying bamboo sticks. They demanded that all the Islamabad prostitutes be arrested for violating Islamic law, but they weren't taken seriously until they began abducting prostitutes and locking them in the seminary.

In July the girls abducted some Chinese prostitutes. That prompted an objection from the Chinese government, and Musharraf's government finally decided to crack down. That led to a 36-hour siege and gunfight -- the male students were carrying guns, not bamboo sticks -- ending in a bloodbath on July 10. Over 100 people were dead.

Prior to the gunfight, a Time reporter interviewed Umma Aman, 22, a "pretty seminary student." Saying that she's prepared to die for God, she says, "We must practice Islam. We must act on God's will." Later, after six hours of the gun battle, she says, "We are never afraid. One day all lives will end, and if this is the case, then why not give our life to Islam?"

Another young female student tells the reporter, "Tell them how angry we are. Write in your story how willing we are to die for our cause."

After it was all over, it turned out that al-Qaeda has been using the Red Mosque to store a huge cache of weapons.

Since July, over a dozen suicide bomb attacks in Pakistan have killed 50 people. (To put this into perspective, imagine how Americans would react if there were just ONE suicide bomber attack on American soil.)

When Benazir Bhutto narrowly escaped death from suicide bombers on October 19, she blamed al-Qaeda and Taliban militants for the assassination attempt, and declared she would risk her life to restore democracy in Pakistan and prevent an extremist takeover:

"We believe democracy alone can save Pakistan from disintegration and a militant takeover. We are prepared to risk our lives and we are prepared to risk our liberty, but we are not prepared to surrender our great nation to the militants."

Later, in an interview in mid-November, Bhutto said the following:

"The situation in Pakistan is very grave. Pakistan is imploding from within. And yet, there's very little appreciation of the deepening crisis here. I receive reports on the Frontier [NorthWest Frontier Province] and how the Taliban are advancing, advancing into our cities, and the Administration simply can't fight. The military is leaderless. It's a great military, it knows how to fight, it's fought wars in the past. But it needs the will of the people behind it, and that will is not there, and I'm just worried, as I said yesterday, where will they go to next?

Benazir Bhutto, in a mid-November interview (Source: CNN)

I believe that democracy is the only way that can save Pakistan, and I believe that it's the free expression of the will of the people, mobilizing the strength of the people, that can save our country. Unfortunately, General Musharraf's regime is more concerned about containing democrats than it is about containing extremists."

Bhutto's warning that the country is "imploding from within" was confirmed, in a sense, by US Secretary of Defense Robert Gates, who says that al-Qaeda has been unsuccessful in Iraq and Afghanistan, and that "Al-Qaeda right now seems to have turned its face toward Pakistan and attacks on the Pakistani government and Pakistani people."

Many people are comparing the situation in Pakistan today to the situation in Iraq a year or two ago. In fact, there are a lot of similarities:

• An invasion by affiliates of al-Qaeda;
• An increasing number of suicide bombers and roadside bombs;
• Cooperation between al-Qaeda and local citizens in terrorist acts.
• An al-Qaeda objective to foment a civil war, in order to promote an "Islamic revolution," such as occurred in Iran in 1979.

These are the shallow, naïve similarities being noted by journalists, pundits and politicians, many of whom probably need a spell-checker just to spell "Pakistan." These people, in denial about pretty much everything going on in the world, believe that what's going on in Pakistan must be the fault of the Bush administration, and that the right magic words from the American President would cause the Pakistani people to eject al-Qaeda elements, just as the Iraqi people have done with al-Qaeda in Iraq.

From the point of view of Generational Dynamics, the situations in the two countries are very different, especially when the Red Mosque event is taken into account.

Things like roadside bombs and suicide bombings are acts performed by individuals or small groups of people, while Generational Dynamics looks for attitudes and behaviors of large masses of people. In April, when I wrote "Iraqi Sunnis are turning against al-Qaeda in Iraq," I was able to show by quoting documents from a variety of sources that the Iraqis themselves had little interest in fighting against each other, though al-Qaeda did everything possible to provoke them.

One of the most interesting examples was a letter of complaint from al-Qaeda in Iraq leader Abu Musab al-Zarqawi to Osama bin Laden, including the following:

"Jihad here unfortunately [takes the form of] mines planted, rockets launched, and mortars shelling from afar. The Iraqi brothers still prefer safety and returning to the arms of their wives, where nothing frightens them. Sometimes the groups have boasted among themselves that not one of them has been killed or captured. We have told them in our many sessions with them that safety and victory are incompatible, that the tree of triumph and empowerment cannot grow tall and lofty without blood and defiance of death, that the [Islamic] nation cannot live without the aroma of martyrdom and the perfume of fragrant blood spilled on behalf of God, and that people cannot awaken from their stupor unless talk of martyrdom and martyrs fills their days and nights."

Now contrast this appraisal of the Iraqis with some of the things we've learned about the Pakistanis, and their attitudes toward al-Qaeda in Pakistan:

• The young students in the Red Mosque, including the female students, were willing to die for the al-Qaeda cause, and proved it by taking part in a 36-hour gunfight.
• Bhutto described the nation as "imploding from within" because of the Taliban and al-Qaeda militants, and blamed the Musharraf administration because the military wasn't fighting them. She said, "It's a great military, it knows how to fight, it's fought wars in the past. But it needs the will of the people behind it, and that will is not there, and I'm just worried, as I said yesterday, where will they go to next?"

  This is a very interesting statement, indicating that support for the Taliban and al-Qaeda is widespread. This is a statement that's appeared, in one form another, in many news stories in news stories since July.

Bhutto added, "I believe that democracy is the only way that can save Pakistan, and I believe that it's the free expression of the will of the people, mobilizing the strength of the people, that can save our country."

Unfortunately, this is wishful thinking; those girls in the Red Mosque would not have had their minds changed by some sort of expression of democracy; those bamboo sticks they were carrying were targeting prostitutes, not people opposed to democracy.

Pakistani analyst Najam Sethi confirmed the spread of al-Qaeda and Taliban membership into Pakistan:

"Clearly, Al Qaeda in Pakistan and Afghanistan doesn’t just comprise Arabs and Uzbeks and Tajiks. It also comprises Pakistanis; and among such Pakistanis it comprises Pathans and Punjabis and possibly Urdu speakers who constitute the Pakistani Taliban. Certainly, it is known that a number of Pakistani sectarian and jihadi Sunni organisations have joined the Al Qaeda Network after the government launched efforts to disband them since the “peace process” started with India. So Al Qaeda is now as much a Pakistani phenomenon as it is an Arab or foreign element."

None of this happened in Iraq. Even at the worst, there was always a clear distinction between al-Qaeda foreigners and Iraqi Sunni insurgents.

The difference between Iraq and Pakistan is generational. Iraq is in a generational Awakening era, since only one generation has passed since their last crisis war, the genocidal Iran/Iraq war of the 1980s. Pakistan is in a generational Crisis era, since three generations have passed since their last crisis war, the genocidal bloodbath accompanying Partition in 1947.

In Iraq, there are still plenty of survivors of the 1980s war around, and they're determined to prevent any such bloodbath from recurring. in Pakistan, there are few survivors left of the Partition, and young people, such as those in the Red Mosque, have no fears of any such recurrence.

To see how naïve journalists and analysts, here's a quote from analysis appearing in the Guardian:

"Is Pakistan on the brink of civil war?

Pakistan is in crisis but not about to implode. The 60-year existence of the state has seen a series of huge upheavals, bridged by periods of relative calm. A civil war is unlikely for the simple reason that it is difficult to see who would fight whom. Bhutto's supporters are not armed or organised into any kind of militias, and it is hard to see them marching on the lawless tribal areas where the likely killers of their leaders come from, trying to purge militants from the cities of the Punjab, for example, or taking on the army.

So is there a threat of an Islamic militant takeover?

Not immediately. Though the militants are strong in the west of the country, have some political representation, and have roots in a well-embedded structure of religious schools and colleges, they are divided among themselves and lack genuine broad-based popular support."

This is typical of the kind of airhead analysis we so often on different subjects, whether it's the credit bubble, the Iraq war, the Darfur war, or the Pakistan situation.

But it's exactly this naïveté that leads to a new crisis war, since it can lead to panicked reactions.

Here's one description of Iran's 1979 Islamic Revolution:

"The revolution was unique for the surprise it created throughout the world: it lacked many of the customary causes of revolution — defeat at war, a financial crisis, peasant rebellion, or disgruntled military; produced profound change at great speed; overthrew a regime thought to be heavily protected by a lavishly financed army and security services; and replaced an ancient monarchy with a theocracy based on Guardianship of the Islamic Jurists (or velayat-e faqih). Its outcome, an Islamic Republic "under the guidance of an 80-year-old exiled religious scholar from Qom," was, as one scholar put it, "clearly an occurrence that had to be explained.…"

Not so unique but more intense is the dispute over the revolution's results. For some it was an era of heroism and sacrifice that brought forth nothing less than the nucleus of a world Islamic state, "a perfect model of splendid, humane, and divine life… for all the peoples of the world." At the other extreme some disillusioned Iranians explain the revolution as a time when "for a few years we all lost our minds," and as a system that, "promised us heaven, but ... created a hell on earth."

This is the event that al-Qaeda hopes to emulate in Pakistan, and there's no reason why it can't happen. A Pakistani civil war would be no more impossible than Iran's Islamic Revolution was. (Iran was also in a generational Crisis era; its previous crisis war was the Constitutional Revolution of 1905-1910.)

Some people might say: Not enough time has passed. Just as Iraq took a few years to expel al-Qaeda, maybe it'll take 3-4 years for Pakistan to expel al-Qaeda.

Saying that misses the point of what I'm saying.

Since 2003, I've been saying that a civil war in Iraq was IMPOSSIBLE because Iraq is in a generational Awakening era. I stuck to this prediction when some papers were actually claiming that the Iraq civil war had already begun, when NBC News made the ridiculous announcement to call it a "civil war," and when Senator Joe Biden, easily the stupidest man in the Senate, he went on Meet the Press in April and said that American troops should be moved from Iraq to Darfur.

Finally, by November 1, it was clear that Generational Dynamics had been proven right, and just about every other politician, pundit, analyst and journalist in the world had been proven wrong.

In fact, every Generational Dynamics prediction I've made -- on the Mideast, Darfur, China, Burma (Myanmar), Japan, global finance, and so forth -- has either come true or is trending true. Not a single one has turned out to be wrong. As I've been saying for years, I defy anyone to find any web site in the world that has anything close to the successful prediction record that this one has. I've looked, and I know that there isn't any.

So now I'm talking about Pakistan. Just as I was able to confidently predict that a civil war in Iraq was completely IMPOSSIBLE, I can just as confidently predict that a war in Pakistan is ABSOLUTELY CERTAIN.

The way that the Generational Dynamics forecasting methodology works is that it tells you what your final destination is, but it doesn't tell you what scenario will take you there, or how long it will take to get there. That's called a "long-term forecast," since the prediction is 100% certain, but the time window can be years or even decades long. The next step is to match up day-to-day events to identify trends that are consistent with the long-term forecast, and merge them with the long-term forecast. This is what we do on the web site every day. The result is a short-term forecast with a probabilty of 80-90% of being correct, in a window of a few months, or perhaps a couple of years.

The last few days have been difficult ones, because there has been a maelstrom of events and and analyses, and it's not always possible to figure out whether these events match or conflict with the Generational Dynamics long-term prediction of a new war re-fighting the 1947 Partition genocide.

Official map of Pakistan, with the addition of the FATA (Federally Administered Tribal Areas), highlighting Swat Valley (Source: pakistan.gov.pk)

The following list is intended to be somewhat educational, by illustrating the kinds of issues that I've been thinking about the last few days and weeks, and what conclusions can be drawn:

• Will Musharraf retain the Presidency? Generally speaking, a political result is a chaotic (in the sense of Chaos Theory) event, and it's impossible to predict whether it will happen, or what the consequences will be if it does happen. The trend is that Musharraf is getting weaker, but it's still possible that he can hold on in some way.
• Will Pakistan continue to destabilize? That's been a clear trend since the beginning of the year, as illustrated by the Red Mosque disaster, and it's consistent with the Generational Dynamics long-term trend. At the beginning of the year, Musharraf was clearly in charge of the government and the military; today, he no longer controls the military, and he's losing power in government.
• Can "fair and free elections" bring stability back to Pakistan, as Bhutto claimed, and as the Bush administration claims? Stability contradicts the Generational Dynamics long-term trend, and so it can be safely rejected as a possibility. Any elections, fair or otherwise, will only create further instability, since anything will create further instability.
• Will the the Sindhis be at war with the Mohajirs or the Punjabis? This impossible to predict until a trend develops. There will certainly be ethnic warfare of some kind, but whether it will be among these three groups can't be predicted. Thus, as I mentioned a couple of days ago, there has been no ethnic violence of this type so far, so there's no reason to conclude that it's going to happen.
• Will al-Qaeda continue to get stronger in Pakistan? This question is whether more and more people will support them, and the trend today appears to be in that direction. This is an extremely ominous development, since a strengthening al-Qaeda could overthrow the government.
• Will there be war with India? India has already gone on high military alert since Bhutto's assassination. A war between Pakistan and India is definitely supported by the Generational Dynamics long-term prediction, so there might be a war beginning next week, or next month, or a year from now. It's going to happen with certainty, but it can't be predicted whether the Bhutto assassination will be the trigger that starts it.

  Incidentally, it's good to remember that the fiercest genocide following the 1947 Partition was between Muslim Punjabis and Hindu Punjabis. The Kashmir and Jammu regions are still a source of continuing conflict between the two countries.

• Will there be war between Sunni and Shia Muslims? Once again, this can't be predicted, and no clear trend has yet shown itself. Balochistan and Sindh provinces are mostly Shia Muslim, while Punjab and NWFP are mostly Sunni. (Correction: Balochistan is predominantly Sunni Muslim. Correction on 2009-Feb-21.
• Will Pakistan's nuclear weapons be used? Both India and Pakistan are nuclear nations, and once war begins between then, nuclear weapons will come into the picture before long.

Conflict risk level for next 6-12 months as of: 6-Nov-2007
W. Europe	1	Arab Israeli	3
Russia Caucasus	2	Kashmir	3
China	2	North Korea	2
Financial	3	Bird flu	3
Key: 1=Low risk 2=Med 3=High 4=Active

In other words, the situation in Pakistan is still very murky, but it's headed toward increasing chaos, according to the Generational Dynamics long-term prediction.

However, there's little doubt that with all its instability, Pakistan is currently the most dangerous region in the world.

Just one more comment. The American Presidential candidates have been scrambling to figure out what to say in the aftermath of the assassination. What Republicans and Democrats have been saying is so vacuous and idiotic that it's actually been giving me a headache to listen to them.

There was just thing that was said that's of interest to this web site. On Sunday morning on CNN, Hillary Clinton made the following comments:

"I don't think the Pakistani government at this time under President Musharraf has any credibility at all. They have disbanded an independent judiciary, they have oppressed a free press. Therefore I'm calling for a full, independent, international investigation, perhaps along the lines of what the United Nations has been doing with respect to the assassination of Prime Minister Hariri in Lebanon. I think it is critically important that we get answers, and really those answers are due, first and foremost, to the people of Pakistan, not only those who were supportive of Benazir Bhutto and her party, but every Pakistani. Because we cannot expect to move towards stability without some reckoning as to who was responsible for this assassination."

The terror bombing that killed Rafiq Hariri in Lebanon February 2005 is comparable to the Bhutto assassination for the amount of international shock that it caused. As Clinton mentioned, there has been an ongoing UN-sponsored investigation to see if Syria played a part in the assassination of Hariri.

However, once again we see a politician try to compare two countries that can't be compared. Like Iraq, Lebanon is in a generational Awakening era, following the genocidal Lebanese civil war of the 1980s. There's been enormous political conflict in Lebanon in the past two years, and that's to be expected in a generational Awakening era. But there can be no civil war. In that highly politicized atmosphere, an outside investigation is a possibility.

But can you imagine the leaders of al-Qaeda in Pakistan agreeing to any sort of outside investigation of the Bhutto death? Whereas disagreements in Lebanon can lead to major political conflicts, in Pakistan such an agreement could lead to violent conflict. That's the difference, again, between a generational Awakening era and a Crisis era.

But this illustrates the point that policy-makers make mistakes all the time that could be avoided by studying generational theory. This was certainly true in Iraq, over and over again. And yet, all attempts by me to get government or academic officials interested in Generational Dynamics have just resulted in me getting blown off. Even though they make one mistake after another, they'd rather keep doing that than consider a new methodology and discipline that could make a real difference. (30-Dec-07) Permanent Link
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Benazir Bhutto assassination appears to be uniting Pakistan against Musharraf

There was widespread rioting and looting in major cities of Pakistan on Friday, the day of Bhutto's funeral, following her assassination on Thursday.

Official map of Pakistan, with the addition of the FATA (Federally Administered Tribal Areas), highlighting Swat Valley (Source: pakistan.gov.pk)

As expected, the greatest rioting occurred in Karachi, the capital of Bhutto's native Sindh process, where police have been given permission to shoot looters on sight. Bhutto was Sindhi herself, and she was seen as a Sindhi hero who had many hopes vested in her to bring change to Pakistan and the Sindhi people.

However, the rioting and looting were not ethnically based. The looting was directed at government institutions -- banks, political offices, and so forth -- associated with government of President Pervez Musharraf.

As I've said many times, Generational Dynamics concerns itself with the behaviors and attitudes of great masses of people, entire generations of people. The actions or behaviors of politicians are irrelevant except insofar as they reflect the attitudes of the masses of people.

Unfortunately, the press is so heavily biased against and hostile to Musharraf that it's not altogether possible to discern what's going on from news reports. Still, what's clear is that there's lots of violence but no ethnic violence.

All we can really conclude in this rapidly evolving situation is that, so far, there are no signs of ethnic violence, and there are going signs of anger directed at Musharraf.

That could change quickly, however. One mourner at her funeral was quoted as saying: "Punjab is responsible for this. We hate the Punjab. Benazir was safe wherever she went, but when she went to Punjab, she was martyred. The future of Pakistan is very dark."

One big problem is that there's no clear successor to Bhutto, and another big problem is that there would be no clear successor to Musharraf if he were to disappear. Musharraf is a survivor of the bloodbath surrounding the 1947 Partition that created the nations of India and Pakistan.

I've said many times that I have great admiration for both Pakistan's President Pervez Musharraf and his Indian counterpart, India's Prime Minister Manmohan Singh, because these two leaders have engineered a remarkable détente that has prevented a nuclear conflict between the two countries. Both Musharraf and Singh survived Partition, they were both born in India -- though they have different religions (Muslim and Sikh, respectively.) (This paragraph corrected on 3-Jan.)

Thus, as pressure builds to remove Musharraf from office, it's hard to see how the situation could go any way but downhill if Musharraf is forced to leave. His replacement might well be Punjabi, but he would be much younger, and much less willing to compromise with Singh and India. And his replacement would NOT be Sindhi, so the Sindhi groups would be dissatisfied.

And so, as far as I can tell, replacing Musharraf would substantially increase the probably of ethnic war and the probability of war with India, probably in some scenario starting from the disputed region of Kashmir.

I'll mention one strange thing that happened on Friday. Pakistan's Interior Ministry announced that Bhutto was not killed by a bullet or by shrapnel from the suicide bomb. Instead, the force of the bomb caused her to bump her head on a metal lever, resulting in her death.

Bhutto had standing with her head and upper body through the sunroof of her car, as she was waving at her supporters, when the attack took place. A ministry spokesman said Bhutto had died from a head wound after smashing against the sunroof’s lever as she tried to shelter inside her car. "There is no evidence of any foreign element in her body. No bullet hit her, nor any splinters hit her. Unfortunately, it was to be that way. I wish she had not come out of the roof top of her vehicle."

As one pundit put it, this claim is so bizarre that it's probably true, since the Musharraf government has nothing to gain by making up such a story. What really matters is her death, and the cause is irrelevant.

This assassination appears to be a great victory for al-Qaeda and the Taliban. Bhutto was a strongly pro-American secular leader, and her demise is a victory by al-Qaeda over both Pakistan and the West.

Al-Qaeda has targeted a number of Pakistani political figures in recent years, including two attempts on the life of President Musharraf, one on the former corps commander of Karachi, one on Ahsan Saleem Hayat, one on the former prime minister Shaukat Aziz and two attempts on former interior minister Aftab Sherpao. The last attempt, on Sherpao, occurred only a week ago.

And now, Mustafa Abu Al-Yazid, a top al-Qaeda commander, has claimed credit for the murder, saying it had killed "the most precious American asset."

The death of Benazir Bhutto has hurt Pakistan deeply. It's hard to imagine a more unstable situation. With so much popular opposition building, it's hard to see how Musharraf can hold onto office for long. And it's hard to see how any replacement would satisfy more than a minority of the country. In this highly emotional and unstable situation, it's quite possible that a new leader will emerge, and draw the support of the entire country, or draw the support of one group and the opposition of another group.

From the point of view of Generational Dynamics, Pakistan is in a generational Crisis era, since 60 years have passed since the end of the genocidal bloodbath that occurred with Partition. The political situation is so unstable that the possibility of panic on someone's part -- the government or an opposition group -- is very high, and depends on chaotic triggers that can't be predicted. What's certain is that at some point in the not too distant future, there will be a new ethnic war, and a nuclear war between India and Pakistan. (29-Dec-07) Permanent Link
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Benazir Bhutto killed by suicide bomber after election rally in Rawalpindi

Here's what to watch for in the next few hours and days.

Benazir Bhutto

Analysts have recently been calling Pakistan the most dangerous region on earth, and that view seemed to be exactly right on Thursday when opposition leader Benazir Bhutto was killed by a suicide bomber as she was leaving a political rally. The assassination occurred in Rawalpindi, near the country's capital, Islamabad. At least 20 other people were killed. No one has claimed credit, but the al-Qaeda is suspected.

Bhutto was favored to win the office of Prime Minister in elections on January 8. Bhutto is well-known internationally, and the scenario that Western countries have been hoping for was that Bhutto as PM would work closely with President Pervez Musharraf, and that between them they would restore stability to the country.

However, this hope may well have been only an apparition, however, because of their differing ethnicities.

Official map of Pakistan, with the addition of the FATA (Federally Administered Tribal Areas), highlighting Swat Valley (Source: pakistan.gov.pk)

Musharraf, born in 1942, is a Mohajir, one of millions of Urdu speaking Sunni Muslim Indians who migrated into Pakistan following Partition in 1947. He heads the Mohajir Qaumi Movement (MQM - Migrant National Movement) political party. This party changed its name to the Muttahida Qaumi Movement (United National Movement) in the 1990s.

[Note: A correspondent in Pakistan has informed me that Musharraf does NOT head MQM. I will revise this paragraph and the paragraph below about Nawaz Sharif, when I get this issue straightened out.]

Bhutto, born in 1953, is Sindhi, a Sindhi-speaking ethnic group that traces its roots back to Persia (Iran) and Shia Islam in Sindh province.

There has been low-level violence between Mohajirs and Sindhis after Mohajirs flooded into Sindh provice in the 1950s, mostly settling in Karachi, forcing the less-wealthy Sindhis to relocate to rural areas surrounding Karachi.

The early Sindhi hero was Zulfikar Ali Bhutto, Benazir's father. In 1966, Zulfikar created the Pakistan People's Party (PPP), which Benazir now heads. Zulfikar became President of Pakistan for several years in the 1970s, until his government was overthrown in 1977, and he was executed by hanging on April 4, 1979.

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(21-Oct-07) Level of conflict growing between Americans and Pakistanis: Foreign minister Khurshid Kasuri says that Pakistanis are getting "angry" and "upset,"... (23-Jul-07) Pakistan's High Court hands President Musharraf a humiliating defeat: Musharraf's government is in question at a time when al-Qaeda violence in surging in Pakistan.... (21-Jul-07) Pakistan violence from al-Qaeda and Taliban is increasing: Al-Qaeda and Taliban militants on Afghan border are seeking revenge for Red Mosque attack.... (16-Jul-07) Pakistan: Over 106 dead in spectacular assault on radical mosque in Islamabad: Radical students hoped to spark an Islamic revolution against Musharraf.... (12-Jul-07) Riots in Karachi, Pakistan, threaten Musharraf's presidency: Thirty people were killed and hundreds were injured on Saturday... (13-May-07) Pakistan's President Musharraf faces major crisis : The remarkable détente between India and Pakistan may go down with Musharraf. ... (18-Mar-07) Al-Qaeda resurging in Afghanistan and Pakistan: Al-Qaeda's greatest threat is to Britain and Europe.... (19-Feb-07) India claims Pakistan government agency perpetrated the Mumbai railroad bombings: India has promised to show potentially explosive evidence to Pakistan.... (1-Oct-06) Tensions build as Pakistan cracks down on extremists after London bombings: In Kashmir, a car bomb that kills and wounds dozens, including children,... (21-Jul-05) "Koran in toilet" rumor is uniting Muslims around the world: From Gaza to Indonesia, Muslims are shouting "Death to America."... (15-May-05) Pakistan "Black Day" protests fail: Continuing a worldwide trend of increased militarization and police power, President Pervez Musharraf... (02-Jan-05) China's "sacred responsibility" is to stop Taiwan independence by force: A national defense white paper issued Monday by China threatens... (28-Dec-04) An eerie parallel between Pakistan and Israel: Pakistani President Pervez Musharraf has proposed a Kashmir peace plan which, like the Mideast "Roadmap to Peace," has no chance of succeeding.... (29-Oct-04) Massive terrorist bombings yesterday in Pakistan, Iraq and Egypt cause hundreds of casualties across the Mideast in a single day: The Pakistan government has ordered a ban on all public gatherings,... (8-Oct-04) New Islamic terrorist group claims credit for Bangladesh bombing leading to massive unrest and further violence: Like Pakistan, Bangladesh is overwhelmingly Muslim but still has excellent relations with the U.S.... (25-Aug-04) Beheadings part of increasing conflict level throughout Mideast: The level of conflict is increasing throughout the Mideast, from Gaza to Pakistan, from Saudi Arabia to Uzbekistan. (23-Jun-2004) Anti-Shi'ite Terror Attacks in Iraq, Pakistan: So far, Sunni and Shi'ite leaders in Iraq aren't taking the bait. (2-Mar-04)

Thursday's assassination of Benazir Bhutto thus has the potential to lead to an explosive situation.

Another opposition leader, former President Nawaz Sharif, whom Musharraf overthrew in 1999, will now become more prominent. Sharif is a conservative Muslim and is ethnically Punjabi, the most powerful ethnic group in Pakistan, and a group that formerly have been strong supporters of Musharraf.

So here are the things to watch for in the next few hours and days:

• Will the broad Pakistani public blame Musharraf for this assassination, or, to the contrary, will Musharraf become more popular as a strong leader who can fight al-Qaeda? (In the latter case, it would be similar to Vladimir Putin's increasing popularity with Russian people at a time of internal crisis.)
• Will there be renewed ethnic violence, especially between Mohajirs and Sindhis in the region around Karachi?
• Will al-Qaeda become increasingly violent - and increasingly successful? US Secretary of Defense Robert Gates recently said that, "Al-Qaeda right now seems to have turned its face toward Pakistan and attacks on the Pakistani government and Pakistani people."
• Will the January 8 elections go on, or will they be canceled?
• Will Musharraf reinstate marshall law and a state of emergency? He originally imposed the state of emergency on November 3, and lifted it two weeks ago under heavy international pressure.

From the point of view of Generational Dynamics, Pakistan is in a generational Crisis era. Most of the survivors of the genocidal bloodbath following the Partition of the Indian sub-continent in 1947 are now gone, with Musharraf himself being the most prominent exception. Younger generations, born after Partition, have no fear of the horrors of another ethnic war, and al-Qaeda has indicated that it will trigger such a war if it can.

Conflict risk level for next 6-12 months as of: 6-Nov-2007
W. Europe	1	Arab Israeli	3
Russia Caucasus	2	Kashmir	3
China	2	North Korea	2
Financial	3	Bird flu	3
Key: 1=Low risk 2=Med 3=High 4=Active

Pakistan is possibly the most dangerous region in the world today. On November 6, in my little conflict risk graphic, I raised the "conflict risk level" for Kashmir from 2 (medium risk of war within 6 months) to 3 (high risk of war within six months).

Generational Dynamics predicts that there will be a new genocidal war on the Indian subcontinent. Components will include war between Muslim Pakistan and Hindu/Sikh India, and war among various ethnic groups that cross country boundaries. Such a war would undoubtedly become a nuclear war, as both India and Pakistan have nuclear weapons. As Pakistan appears to become increasingly chaotic, this war is coming closer. (27-Dec-07) Permanent Link
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As credit card defaults surge, banks become more restrictive with credit

New rules may affect the way that your FICO score is computed.

In the last few months, the "credit crunch" has caused banks to hoard cash, reluctant to lend it even to other banks. And now, expect to see banks become reluctant to lend it even to consumers, especially those in the "high risk" category with low FICO scores.

Part of the banks' motivation for this change is that more consumers are defaulting on their credit cards.

This has been a while in coming. One of the things that have surprised analysts this year is that consumers have been paying their credit cards bills prior to making their mortgage payments. You would think that people would rather risk losing their credit cards than losing their homes, but it's turned out that the opposite is true: A person can always go live with relatives, but he needs his credit card to buy groceries.

Finally, however, with mortgage defaults and foreclosures surging, credit card delinquencies and defaults are beginning to catch up.

According to a recent analysis by AP of data representing 325 million credit card accounts:

• The value of credit card accounts at least 30 days late is 26% higher than a year ago.
• Defaults -- where lenders give up hope and write off the debt -- rose 18% in the last year.
• Serious delinquencies -- accounts at least 90 days delinquent -- were up 50%.

Many analysts see this as the next wave of problems for financial institutions, in conjunction with the continuing wave of mortgage defaults.

It turns out that credit card debt is "securitized" in much the same way that subprime mortgages are securitized. Credit card debt from millions of accounts is combined into pools, which are sold to banks, investment houses and institutional investors. Over $400 billion of credit card is packaged into these pools. As credit card delinquencies and defaults surge, the value of that $400 billion in credit card pools becomes questionable, and more "writeoffs" will be necessary, just as writeoffs of mortgage-backed assets have had to be written off.

It also turns out that many banks were issuing credit cards to people who are poor risks, just as many subprime mortgages were given to people who were poor risks.

So, just as mortgage lenders waited to long to tighted mortgage lending standards, credit card lenders have waited too long to tighten credit card standards.

In fact, it's already getting harder to borrow money from the bank -- for credit cards, for home equity loans, for mortgage loans, for card loans, or any other kind of credit.

As part of this effort, the formulas for computing the FICO credit score are changing.

The formulas have always taken into account such factors as consumers' level of credit indebtedness and payment histories, length of credit histories, number of recent credit openings and inquiries, and the type of credit used, to determine scores.

The exact formulas are proprietary and secret, but an article in the Wall Street Journal lists some of the changes that will be made in the next few months:

• It will be more forgiving of occasional slips by consumers, but will take a harder line on repeat offenders.
• The new formula will particularly target three groups: subprime borrowers; those with "thin," or young, credit files; or consumers who are actively seeking new credit.
• The new formula will give more points to consumers who maintain a variety of credit types, such as credit cards, a mortgage and auto loan, because it shows they can manage payments on different kinds of loans. It penalizes borrowers who use a high percentage of their available credit.
• A person with only one account in arrears will not be penalized; but someone with multiple delinquent accounts will have a lower score.
• High risk people who "piggyback" on someone else's good credit by sharing a credit card will no longer gain from doing that. This will eliminate certain kinds of credit card fraud, but will also hurt legitimate users -- people who give a credit card to a child or a spouse as an authorized user to help boost their credit score.

All in all, it will be getting harder to obtain credit, and banks will be more punitive of people who are delinquent.

If there's any way that you can do what these people did with their blender, you'll be much better off:

(26-Dec-07) Permanent Link
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Merry Christmas and Happy Holidays to all my readers.

Thank you all for your support this year, and for the kind wishes that I've received from many of you.

The past year has been difficult for many people in the world, and next year unfortunately promises to be a lot worse.

The Christmas season is a good time to count one's blessings. "I complained that I had no shoes, and then I met a man who had no feet," it says in the Old Testament. It's also a good time to think about the future.

Correction: A web site reader has pointed out to me that this phrase does not come from the Old Testament. It comes from The Gulistan, a landmark poetic work written by the Persian poet Saadi in 1259. The phrase is derived from the following text in Story 19: ". . . once, when my feet were bare, and I had not the means of obtaining shoes. I came to the chief of Kufah in a state of much dejection, and saw there a man who had no feet. I returned thanks to God and acknowledged his mercies, and endured my want of shoes with patience . . ." (Paragraph added on 15-Jan-2008.)

As I frequently say on this web site: Treasure the time you have left, and use it to prepare yourself, your family, your community and your nation.

This is a good time to remind you that you can write to me with comments and questions. It may take a few days to get back to you, but so far I've been doing OK keeping up with the e-mail messages. Use either an e-mail message, or the "Comment" link at the top of this page.

If you want to have a more open debate, you can do so in the "Objections to Generational Dynamics" thread of the Fourth Turning forum.

I hope that everyone is doing well. To all of you, have a great Christmas holiday and a great New Year. (25-Dec-07) Permanent Link
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Wheat prices surge above $10 per bushel, sparking little concern

World food stocks dwindling rapidly, according to the UN.

In an "unforeseen and unprecedented" shift, the world food supply is dwindling rapidly and food prices are soaring to historic levels, according to the UN Food and Agriculture Organization (FAO).

Price of wheat, 2005-2008, in tonnes (metric tons) (Source: UN FAO)

A new level of concern was triggered earlier this week when the price of wheat surged above $10 per bushel for the first time in history, in trading on the Chicago Board of Trade (CBOT). That's twice as high as a year ago, and three times as high as the typical price of around $3.50 per bushel.

(In interpreting this graph, a "tonne" is a "metric ton," which = 1000 kg = 2205 pounds. A bushel weighs 60 pounds. So a "tonne" of wheat at $10 per bushel is: $10/bushel ÷ 60 lbs/bushel * 2205 lbs/tonne = $367/tonne.)

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During this time, other foods have also been increasing sharply in price, especially dairy, meat, egg and cereal products. Overall, the UN FAO's "food price index" has increased by an enormous 40% in 2007.

At the same time, reserves of cereals are severely depleted, with only 12 weeks of wheat in storage, and only 8 weeks of corn left. These are historic lows since the early 1980s, according to UN FAO's figures.

I've given all the reasons why this is happening several times before -- population growth, the Law of Diminishing Returns, the use of biofuels -- but there's one reason that constantly stands out in my mind as the most amazing:

What really amazes me about all this is the lack of concern.

The dwindling food stocks and the sharp increases in worldwide food prices can't be described as anything other than a catastrophe. A man who formerly had to work four hours a day to feed his family now has to work perhaps six hours a day -- leaving insufficient money for other expenses. And a man who's already working 8 hours a day to feed his family may no longer be able to feed his family adequately at all.

This is a real problem today, but instead of addressing it, officials fly in jet planes around the world to beach resorts to attend farcical meetings on climate change in air conditioned meeting halls.

The people who survived World War II would never have ignored this situation. They had just lived through years of horror, with death, homelessness and starvation all around them them, and they knew that insufficient food was one of the root causes of the war. In their determination to make sure that nothing like a world war ever happens again, they focused on producing enough food for everyone. The Green Revolution was their most spectacular success.

But as I've been writing since 2005, the price of food has been going up faster than inflation since 2000. Each time, there's always an expert who says that prices will soon start going down again, but they've only been increasing more and more rapidly.

No one cares. Anything sufficiently absurd draws more attention than this real crisis, as the world drifts toward a Clash of Civilizations world war.

By the way, have you heard? Britney's little sister is pregnant. (23-Dec-07) Permanent Link
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Pakistan on high alert after massive terrorist bomb kills 50 worshippers

Al-Qaeda and Taliban terrorists from Pakistan's Tribal Regions are the likely perpetrators of a suicide bomb attack Friday on a mosque, packed with people celebrating the Eid al-Adha festival, one of the holiest days in the Muslim calendar.

Official map of Pakistan, with the addition of the FATA (Federally Administered Tribal Areas), highlighting Swat Valley (Source: pakistan.gov.pk)

It's thought that the probably target of the attack was a close associate of President Pervez Musharraf, Aftab Sherpao, who survived the blast. However, this is the second attack on Sherpao this year.

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(21-Oct-07) Level of conflict growing between Americans and Pakistanis: Foreign minister Khurshid Kasuri says that Pakistanis are getting "angry" and "upset,"... (23-Jul-07) Pakistan's High Court hands President Musharraf a humiliating defeat: Musharraf's government is in question at a time when al-Qaeda violence in surging in Pakistan.... (21-Jul-07) Pakistan violence from al-Qaeda and Taliban is increasing: Al-Qaeda and Taliban militants on Afghan border are seeking revenge for Red Mosque attack.... (16-Jul-07) Pakistan: Over 106 dead in spectacular assault on radical mosque in Islamabad: Radical students hoped to spark an Islamic revolution against Musharraf.... (12-Jul-07) Riots in Karachi, Pakistan, threaten Musharraf's presidency: Thirty people were killed and hundreds were injured on Saturday... (13-May-07) Pakistan's President Musharraf faces major crisis : The remarkable détente between India and Pakistan may go down with Musharraf. ... 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(28-Dec-04) An eerie parallel between Pakistan and Israel: Pakistani President Pervez Musharraf has proposed a Kashmir peace plan which, like the Mideast "Roadmap to Peace," has no chance of succeeding.... (29-Oct-04) Massive terrorist bombings yesterday in Pakistan, Iraq and Egypt cause hundreds of casualties across the Mideast in a single day: The Pakistan government has ordered a ban on all public gatherings,... (8-Oct-04) New Islamic terrorist group claims credit for Bangladesh bombing leading to massive unrest and further violence: Like Pakistan, Bangladesh is overwhelmingly Muslim but still has excellent relations with the U.S.... (25-Aug-04) Beheadings part of increasing conflict level throughout Mideast: The level of conflict is increasing throughout the Mideast, from Gaza to Pakistan, from Saudi Arabia to Uzbekistan. (23-Jun-2004) Anti-Shi'ite Terror Attacks in Iraq, Pakistan: So far, Sunni and Shi'ite leaders in Iraq aren't taking the bait. (2-Mar-04)

The attack took place in Sherpao's home town, near Peshawar and the Tribal Areas border. The Tribal Areas are independent regions that are not part of Pakistan, but are administered by Pakistan. Sunni al-Qaeda and Taliban terrorists, including Osama bin Laden, are hiding out there, out of reach of either the Americans or the Pakistanis.

There have been about a dozen suicide bombing attacks in Pakistan in the last six months, mostly in the Swat Valley in the NorthWest Frontier Province, but also reaching the capital city of Islamabad itself, with the Red Mosque attack on July 11.

Musharraf imposed emergency rule and suspended the Constitution on Pakistan on November 3. He cited a "downward trend" in Pakistani society, saying that "with all the facts available to me, consider that inaction at this moment is suicide for Pakistan, and I cannot allow this country to commit suicide."

Musharraf has been under enormous international pressure to end the state of emergency, including a humiliating suspension of Pakistan itself as a member of the British Commonwealth of Nations.

Since then, Musharraf has complied with many of the demands of the Commonwealth members: He's given up his military position as Chief of Army staff; he's removed curbs on media broadcasts; and, last week on Saturday, he lifted the state of emergency, saying that the threat had been contained. "The wave of terrorism and militancy has been stopped under the emergency and there has been considerable improvement in the overall situation."

Friday's new suicide bombing has shocked the nation, as the time comes for the January 8 election, which the terrorists have vowed to disrupt.

And it's also a time when al-Qaeda is increasing turning away from Iraq and Afghanistan, and particularly targeting Pakistan, according to US Secretary of Defense Robert Gates, in a press conference on Friday:

"Well, first of all I think that -- I heard just this morning, in fact, that the number of fighters coming across the border [into Afghanistan] is down about 40 percent. Al Qaeda right now seems to have turned its face toward Pakistan and attacks on the Pakistani government and Pakistani people. The Pakistani army has had some success in their counterinsurgency effort in Swat. We are beginning a dialogue with the new chief of staff of the Pakistani army in terms of how we can help them do a better job in counterinsurgency through both training and equipment. So I would say that right now, at least, there is no question that some of the areas in the frontier area have become areas where al Qaeda has reestablished itself, but so far we haven't seen any significant consequence of that in Afghanistan itself. I would say, with respect to Osama bin Laden, that we are continuing the hunt."

Thus, Pakistan continues to become increasingly dangerous. Indeed, Pakistan is probably the most dangerous place in the world today, the region most likely to trigger a world war.

Conflict risk level for next 6-12 months as of: 6-Nov-2007
W. Europe	1	Arab Israeli	3
Russia Caucasus	2	Kashmir	3
China	2	North Korea	2
Financial	3	Bird flu	3
Key: 1=Low risk 2=Med 3=High 4=Active

Six weeks ago, I raised the "conflict risk level" for Kashmir from 2 (medium risk of war within 6 months) to 3 (high risk of war within six months), to reflect the increasing chances of war between Pakistan and India.

There are many scenarios that could lead to war. For example,

• A weakened Musharaff becomes more confrontational with the militants, or he's deposed in a coup and his successor, being younger, is more confrontational.
• The resulting confrontation leads to regional fighting within Pakistan.
• The growing violence leads to war between ethnic groups that spreads to India.
• Alternatively, the confrontation leads to conflict between Hindus and Muslims in Kashmir, forcing both India and Pakistan to move to protect their interests.

Pakistan has only recently commemorated the 60th anniversary of the bloodbath that accompanied the Partition of the Indian sub-continent into India and Pakistan, when Britain withdrew control in 1947.

President Musharraf lived through that bloodbath and survived it, and his major goal in life, still, is to make sure that nothing like that every happens again. However, people in his generation are almost gone now, replaced by younger people born after the war following Partition, and these young people are not afraid of a new war.

Generational Dynamics predicts that there'll be a new genocidal war between Pakistan and India, primarily along the Muslim/Hindu fault line. What will trigger this war and when it will occur cannot be predicted, but for the next few weeks and months, Pakistan's and Musharraf's fate are closely tied together. (23-Dec-07) Permanent Link
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Will hyper-inflation make the dollar worthless (like the Weimar republic)?

I've gotten this question several times this week from web site readers, so it's on a lot of people's minds.

The moves by the Fed, the Bank of England and the European Central Bank to pour huge amounts of liquidity into the banking system have shocked people and caused them to make comparisons to the Weimar Republic.

This is a reference to Germany in the early 1920s, when the government purposely hyperinflated the currency (the mark) in order to pay war reparations in cheaper marks. (See "The bubble that broke the world" for more information.)

Many people are also aware of the current situation in Zimbabwe, where the inflation rate has been well above 1000% per year for a couple of years. (Corrected 16-Apr-2008)

In both of these cases, the hyperinflation was a purposely self-destructive act induced by printing huge amounts of paper currency and selling it for foreign currency.

However, there's a very important factor: Germany in 1921 and Zimbabwe today had very small economies, devastated by war. The value of a currency is determined by what you can buy with it, and there wasn't much you could buy with it in these two war-torn economies. So this type of hyperinflation is possible in an economy so small that you can print enough paper money to buy pretty much everything that's for sale.

Can the same thing happen in the United States?

It's hard to answer with absolutely certainty, since there are scenarios where it might happen -- a US totally devastated and nearly destroyed by war, for example. But barring these extreme scenarios, the answer appears to be NO.

First, it's pretty clear that they'd have to print billions of paper bills, worth tens of trillions of dollars, to make a dent in an economy the size of America's.

But of course those examples are irrelevant today, because only a tiny proportion of our money supply is created through printing money, as I explained in "Questions and answers about the 'credit crunch.'"

Last week, the ECB dumped $500 billion of liquidity into European banks. It didn't do this by printing 36,400,000 thousand-euro paper bills. It did it electronically, crediting the money to the banks' accounts, just as money that you borrow or earn is electronically deposited into your savings or checking account.

So now the question is this: Could the Fed dump so much liquidity into the world's banks that it would make the dollar worthless?

Because that's the question on everyone's mind. The Fed could lower interest rates, or even buy back Treasury bonds, in order to pour money into the financial system. Could it do so much that it would make the dollar worthless?

The answer to that question is pretty obvious that it can't. And there are many examples to illustrate this.

If you believe that the Fed could make the dollar worthless, then you'd have to answer the following question: How is it possible that the Bank of Japan set interest rates on the yen to 0% for so many years since the 1990s, without making the yen worthless?

Not only did Japan NOT have hyperinflation at 0% interest, it actually had DEFLATION. In fact, Japan's economy is still deflationary today.

Now, if the Bank of Japan can't even end deflation with 0% interest rates, then why would you think that a similar Fed action would end with the dollar in hyperinflation?

Let's take a look at the ECB's huge injection of $500 billion last week. That's a lot of money.

Now compare that with the amount of money that the credit bubble has injected into the world in the last few years -- hundreds of trillions of dollars. That money is just as real as the money injected by the Fed as I illustrated in "Questions and answers about the 'credit crunch.'"

It's the huge growth in abusive credit that created all the bubbles in the last ten years. Since August, the credit bubble has been deflating, and there's less money in the world every day. Furthermore, the rate of loss of money seems to be accelerating.

I used an analogy in an article a few days ago, and I'll repeat it now.

The Central Banks in Europe and North America are desperately trying anything they can to pump the bubble up again. It's as if you were on the beach, and the tide is going out, and the central bankers are running back and forth, carrying buckets of water from the kitchen to the ocean, trying to replace the water that's disappearing with the tides. In the end, it makes no difference at all.

So, with the credit bubble deflating, the value of the currency is deflating.

That's what happened in Japan in the 1990s. The reason that the Japanese currency kept deflating, even at 0% interest rates, is because the enormous Japanese credit bubble from the 1980s was deflating, taking much more currency out of circulation than the Bank of Japan could ever put back in.

And that's why, barring the catastrophic scenario mentioned above, the Fed can't have much effect on inflation, one way or another.

I can't prove this, but I've come to believe that the Fed can influence the inflation rate by a few percentage points at any time, but never any more than that.

Whether the currency is inflationary or deflationary depends on the cycles in the use of credit by the great masses of people, and that's a generational phenomenon. Let's explore that further.

First, understand that mainstream macroeconomics hasn't gotten anything right. Those guys have NO IDEA what's going on, and many mainstream concepts have been completely disproven in recent years. A major example is the one I've been discussing - deflation. Ben Bernanke is known to have believed that deflation was impossible, since a central bank can just inflate the money supply. That's been proven completely wrong by Japan, which still has a deflationary economy after 15 years of zero and near-zero interest rates. Does Bernanke still believe that deflation is impossible? Who knows?

I heard CNBC's resident economist, Steve Lieseman, discuss this the other day. Some guest being interviewed opined that inflation would not increase since there are a lot of unemployed people, so demand for employees was down, so salaries wouldn't increase, so inflation would not increase.

Lieseman "corrected" him by saying that inflation is NOT caused by salaries; it's caused by the amount of money in the economy. That's nonsense, as can be seen from the fact that, to repeat, we've had huge amounts of liquidity in the world in the last few years, with no hyperinflation. The idea that the amount of money in the economy causes inflation has simply been proven completely wrong (except in the catastrophic scenario described above).

Then what does cause inflation?

America's last great inflationary period was the Great Inflation of the 1970s -- the rate was over 10%. Why was inflation so high then, when it's so low now?

As I say frequently on this web site, journalists, politicians and pundits never recognize any generational explanation for anything, even when it's completely obvious. The same is true of economists.

Economists assume that every decade is the same as every other decade. Exactly the same economic policies that work in the 1950s should also work in the 1960s, 1980s, and 2000s.

But that's clearly absurd. People in the 1950s had lived through the Great Depression. They're obviously going to spend and save differently than people in the 1970s or 1990s. That's common sense, but economists have little of it.

America's businesses renewed themselves in the 1930s. Old businesses went bankrupt, and new ones sprang up. Old businesses that survived had to reinvent themselves completely. So effectively, all businesses were brand new by the end of the 1930s.

By the 1960s, all of these businesses were "hot." They were producing brand new products that everyone wanted, and the demand for those products was great. That's why inflation was so high in the 1970s.

By the 2000s, all of these businesses were old, encrusted with bureaucracy. With a few exceptions in the high-tech field, there was no innovation; people just wanted to do their jobs and go home.

That's when we started losing jobs to other countries -- manufacturing jobs to China, service jobs to India. America's great strength was innovation, and if businesses were no longer willing to innovate, then customers might as well buy the same old products more cheaply from other countries.

So that's the pattern: Inflation was high in the 1970s, because innovative products were in great demand; inflation has been low recently, because the same old products can be purchased more cheaply elsewhere.

So is hyperinflation going to occur? Will the dollar become worthless?

To the contrary. We're in for a period of serious deflation, and the Fed is powerless to stop it, no matter how much liquidity they pour out.

In fact, it's already been proven. There was NO inflation in Japan in the 1990s and 2000s, with zero and near-zero interest rates. There was LITTLE inflation the last few years, when the Fed rate was at 1%, and the credit bubble was flooding the world with massive amounts of additional liquidity.

Barring the "catastrophic" scenario, it is almost absolutely certain that we will see deflation, not inflation. (21-Dec-07) Permanent Link
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William A. Strauss, February 5, 1947 - December 18, 2007

The co-author, with Neil Howe, of foundational books on generational theory, passed away on Tuesday of cancer at age 60.

William A. Strauss

Strauss and Howe coauthored several best-selling books on generations, starting with Generations (1991), a history of America told as a sequence of generational biographies. Vice President Al Gore called it "the most simulating book on American history that I have ever read" and sent a copy to every member of Congress. Newt Gingrich called it "an intellectual tour de force."

Their most important work, in my opinion, is The Fourth Turning (1997), which establishes Strauss and Howe as the founding fathers of generational theory. This book presented a new theory of Anglo-American history, from the 1400s through the present, showing that major historical events are driven by generational changes, not by politicians.

For example, we know that today's Boomers, the generation born after WW II, are arrogant and narcissistic, and that those in next generation, Generation-X, are angry and disaffected. What Strauss and Howe discovered, by reading thousands of histories and diaries, is that generations that follow major wars (crisis wars, or "fourth turning" wars) are similar. For example, those in the Reformation Generation that was born after the War of the Roses (1459-87) were also arrogant and narcisstic, and the next generation, the Reprisal Generation, was also angry and disaffected.

By piecing together these bits of evidence, they put together the monumental book Generations. Many readers of this book, especially people who don't understand what's going on in the world, have found this book to be comforting, by each person where he fits in the generational flow.

Going further, The Fourth Turning presents what amounts to a highly readable but rigorous presentation of generational flow for the entire Anglo-American historical timeline.

Previously, Strauss coauthored two books with Lawrence Baskir about the Vietnam War: Chance and Circumstance: The Draft, The War, and the Vietnam Generation (1978), and Reconciliation After Vietnam (1978). Around that time, he served on the staff of the U.S. Senate and President Ford’s White House. It was during this time that Strauss first began to notice that people of different social classes in the same generation are much more similar to one another than people from the same social class in different generations. That led to his partnership with Howe, and authorship of Generations.

In addition to his career as a writer and historian, Strauss is a noted playwright, theater director, and performer. He was co-founder and director of the Capitol Steps, a professional satirical troupe that has performed over 7,000 shows, three PBS specials, and fifty radio shows for NPR stations. The Steps have released 26 albums (most recently, I’m So Indicted) and two books (most recently, Sixteen Scandals), and have performed numerous times off-Broadway, often with Strauss in the cast. Strauss has written three musicals (MaKiddo, Free-the-Music.com, and Anasazi) and two plays (Gray Champions and The Big Bump) about various themes in the books he has co-authored with Howe. And in the summer of 1999, Strauss co-founded the Cappies, a high school “Critics and Awards” program.

A native of San Francisco, William A. Strauss was a graduate of Harvard College (1969), Harvard Law School (1973), and the Kennedy School of Government (1973). He's survived by a wife and four grown children.

---

It's hard to believe that anyone's life has been affected by Strauss and Howe's work more than mine. Generational Dynamics grew out of The Fourth Turning theory, and has taken over my life as a total obsession. Outside of working for a living, I rarely do anything anymore unrelated to my web site.

On my web site I sometimes mention the mythical Cassandra. Apollo fell in love with her and gave her the gift of seeing the future. When she spurned his advances, he cursed her: She could still prophesy the future, but nobody would believe her. When her predictions came true, and the soldiers poured out of the Trojan Horse and massacred most of the people in the city, she was reviled and raped.

Strauss and Howe have never talked about this aspect of the work they've done, that I know of, but I have to believe that some form of this has applied to them as well, as it has applied to me. I believe that this is the reason why Strauss and Howe never published any further work on the "fourth turning" theory, but instead focused on the social, workplace and marketplace implications of the rise of the new Millennial generation.

William A. Strauss had many dear friends and followers. Those wishing to express condolences may do so in the Bill Strauss, 1947-2007: With Great Sadness thread of the The Fourth Turning Forum .

Finally, here's a video from a production of the Capitol Steps:

(19-Dec-07) Permanent Link
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European Central Bank shocks financial community with huge cash drop

Commentators were stunned Tuesday, when the ECB offered "unlimited" funds at low interest rate to a wide variety of European banks. The fixed 4.21% interest rate was substantially lower than borrowing rates otherwise.

By the end of the day Tuesday, the ECB had flooded the market with $500 billion of new liquidity. Furthermore, banks borrowing this money were allowed to put even mortgage-backed securities up as collateral.

The catch? It's a two week loan. It has to be paid back to the ECB - with interest -- at the end of two weeks.

The ECB's purpose is to make sure that banks have plenty of money to lend right now, since banks need plenty of liquidity at year end to meet potential regulatory requirements.

This ECB auction comes on top of the "Term Auction Facility (TAF)" auctions that were jointly announced last week by many of the world's major central banks.

The global economy is like a drug addict that needs a bigger and bigger "kick" each time. In August, a ½% interest rate reduction sent investors on a buying orgy. By October, an interest rate reduction had no effect at all, and last week's interest reduction was met with international scorn and ridicule.

So now the ECB has really poured it on, with this huge $½ trillion injection of funds in one day.

Aaron Heslehurst, BBC anchor (Source: BBC)

Did it have the desired effect? It was hardly noticed on Wall Street. But in Europe it actually caused a great deal of fright.

On the BBC world business report on Tuesday morning, here's how the anchor, Aaron Heslehurst, opened his report:

"Well, if you haven't been worrying up to this point, perhaps it is time to start, because the big question is, are we headed toward an end of year money market meltdown. Well today, the European central bank has certainly given us cause to worry by offering the region unlimited funds at a fixed rate. It amounts to eye-watering $500 billion to tide the banks over to the year-end period, the second time it's made such a move in its nine year history. Of course it's uncharted territory in the credit crunch, all sparked, of course, by that sharp downturn in the US property market. It follows coordinated action by the US Fed and other central banks on Monday."

Mervyn King, the Governor of the Bank of England, was testifying on Tuesday to the Commons Treasury Committee. He said that the central banks had to act to dispel lenders' fears:

Mervyn King, Governor of Bank of England (Source: BBC)

"What has become evident is that banks are concerned about the capital position of other banks. They do not know where the losses resulting from the array of derivative financial instruments will finally come to rest, and I think in the last four weeks we've also seen a more disturbing development, which is that the banks themselves are worried that the impact of their reluctance to lend collectively will lead to a sharper downturn in the United States, and perhaps elsewhere, thus generating further losses outside the housing and financial sectors, which will feed back onto balance sheets and reinforce their reluctance to lend, because of the need to generate more capital."

Oddly enough, King says that banks are "awash with cash," but they're afraid to loan money to other banks.

The fear arises over possible new losses on CDOs and other mortgage-backed securities that in many cases have turned out to be near worthless. It was this fear, rather than a shortage of funds, that was keeping banks from lending to other banks.

"In the last four to five weeks, there has been a palpable sense of fear. The difficulty we face is that even operations we put in place cannot be guaranteed [to], and are indeed unlikely to, bring about a significant reduction in [interest rate] spreads."

What's going on here? So much of what's happening is opaque, but we can make some reasonable assumptions, keeping in mind that the optimistic views presented by pundits and financial executives over the last year or two have all turned out to be completely wrong.

The credit bubble has grown enormously. The notional value of credit derivatives in the last year has grown from about $450 trillion to about $750 trillion. Now here's the obvious thing: If the value of credit derivatives can INCREASE by $300 trillion in a year, then they can DECREASE by $300 trillion in a year, and that's what's been going on.

Commentators joke about banks and financial institutions "going to the confessional," meaning that they admit that a percentage of their assets are mortgage-backed securities that are now near-worthless.

The fact is that very few institutions have gone to the confessional. Probably 99.9% of even the world's financial institutions are hiding vast amounts of near-worthless securities, and that doesn't even touch upon investments by non-financial companies (such as investment pools in state and local goverments like those in Florida and Montana.)

So the reason that banks are holding on to all their cash is because they've been hiding their questionable assets, and when they finally do "go to the confessional," they're going to have to replace those worthless assets with cash.

Mervyn King himself says that these injections of liquidity are "unlikely to bring about a significant reduction" in interest rate spreads.

This is what happens when a credit bubble contracts. While it's expanding, and there's plenty of money everywhere, then no one cares what's going on. Once it begins leaking, and once the leaking speeds up as is happening now, then people panic.

That's why the Central Banks in Europe and North America are desperately trying anything they can to pump the bubble up again. It's as if you were on the beach, and the tide is going out, and the central bankers are running back and forth, carrying buckets of water from the kitchen to the ocean, trying to replace the water that's disappearing with the tides. In the end, it makes no difference at all.

It was on August 17, almost exactly four months ago, that I posted the article, "The nightmare is finally beginning." That was based on the increasing levels of anxiety and panic that I saw in investors, commentators, and financial executives.

I thought at that time that something would have happened by now, and I believe it would have, if the Central Banks hadn't made such a concerted effort to keep the bubble pumped up.

But for the drug addict investors, each new injection of liquidity gives less of a "kick" than the previous one. The bubble is leaking faster and faster, and I would still guess that it can't be too much longer before a generational panic begins to take shape. We're overdue for it. (19-Dec-07) Permanent Link
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Chinese commemorate the 1937 Massacre at Nanking (Nanjing)

Hundreds of thousands of civilians were raped and killed in the one-time capital city of China, in a Japanese invasion that began on December 13, 1937.

The NY Times of December 18, 1937, photographed in the Nanjing Massacre Memorial in Nanjing, China, with news of the Nanjing massacre as the lead page one story. (Source: Xinhua)

There seems little doubt that the massacre occurred, especially because there were Western observers who reported on it, and because the Japanese themselves bragged about it in Tokyo newspapers shortly after it happened.

Nonetheless, remembering the Nanjing massacre causes pain among the Japanese, to the point where many "nationalist" Japanese are denying that it ever happened, or that more than a few dozen people were killed.

The result is that the Nanjing massacre, along with the Japanese army's use of Korean and Chinese women as "comfort women" during World War II, remains a festering and growing sore in the relationship between the Chinese and Japanese people. From the point of view of Generational Dynamics, these sores are going to be a major part of the visceral emotions that will lead to a new war between China and Japan, as part of the Clash of Civilizations world war.

The incident is even a source of division among the Japanese themselves. A new movie, "The Truth About Nanjing," by Japanese producer Satoru Mizushima, will premiere in January. The movie reportedly contains newsreel footage from the time that shows the Japanese military entering the city and bringing peace and order. This point of view has divided Japanese opinion, but is generally condemned outside of Japan.

As part of the Generational Dynamics theory, I use the word "genocide" quite often on this web site, but I use the word in a way that differs from the strictly legal definition. The Generational Dynamics definition of "genocide" refers to any action that clearly gives little value to individual life. Generally this means that the society gives much higher priority to scoring a victory in war than it gives to the goal of preserving individual lives, especially civilian lives.

For example, under the Generational Dynamics definition, the following would be considered genocidal actions by the United States in World War II:

• Sending tens of thousands of soldiers onto the beaches of Normandy, where they would be slaughtered like fish in a barrel;
• Firebombing Dresden and Tokyo, and using nuclear weapons on Nagasaki and Hiroshima, killing masses of civilians.

Other examples of genocidal acts during World War II are the Holocaust (by the Germans) and the Bataan Death March (by the Japanese).

From the point of view of Generational Dynamics, these kinds of genocidal acts are what characterize a crisis war. Non-crisis wars do NOT have these genocidal acts, as can be seen, for example, of America's actions in the wars in Vietnam and Iraq, where internal political pressures force us to criminally prosecute soldiers who harm civilians.

I've said on occasions that no nation ever remembers the genocidal acts that they perpetrate against others, or ever forgets the genocidal acts that others perpetrate against them.

That's an exaggeration, but there's still a good question to ask: What does it take for a nation to be "forgiven" for its genocidal acts? It would appear that it takes an admission, an acknowledgment, and an apology.

This is obviously a subject that's not easy to deal with, and there are several contemporary disputes on genocide:

• The Nanjing (Nanking) massacre, as just discussed;
• The question of whether the war deaths of hundreds of thousands of (Orthodox) Armenians living with Turkey's borders was a "genocide," in international law.
• The question of whether the Darfur war is a "genocide." The United States was the first and so far (I believe) the only nation or organization to call it a "genocide." The United Nations and the Europeans have refused to do so.

Memories of these events can last for centuries. My mother, a devout Greek Orthodox, would express anger at an event that occurred centuries ago. When I was young I never even knew what she was talking about, but it was clear that it was important. In 1204, a new Catholic Crusade was heading out to recapture Jerusalem back again from the Muslim Turks. Along the way, the Catholic army sacked Constantinople, starving and murdering its citizens, and plundered the Orthodox Church's treasures accumulated over the centuries. The deed was capped by placing a prostitute on the Emperor's throne at the church of St. Sophia, at that time the most beautiful church in Christendom.

This event has caused centuries of hatred and conflict between Catholics and Orthodox Christians, because there had never been an apology. Finally, in 2004(!!), Pope John Paul apologized for the 1204 sacking of Constantinople -- exactly 800 years later.

Since World War II, there's been a difference between Germany and Japan.

The Germans have largely received international praise and respect for their willingness to admit and discuss their Nazi past during World War II. This openness is something that Germans can be proud of although, of course, not everyone has forgiven them.

It's been very difficult for the Germans to go through that self-analysis, but the Japanese have had an even more difficult time. Their reluctance to apologize to "comfort women" or to clearly acknowledge the atrocities of previous generations, their ambiguities about Japanese "war heroes," their willingness to revise history texts, and their nationalist movements to deny the past have infuriated modern Koreans and Chinese. The difference is easy to see: Just look at the the relationship today between Jews and Germans, and contrast it to the relationship today between Chinese and Japanese.

The fact is that genocide is really not so strange; in fact, it's as much a part of being human as sex is. When there isn't enough food to feed two nations, then they fight over existing resources, often with the intent of each to exterminate the other. Genocidal warfare is necessary for "survival of the fittest" in human evolution. Without both sex and genocidal warfare, human beings would not exist today.

Despite all that, "Anti-Japanese feeling runs deep in many Chinese breasts," according to an American reporter. "But especially in Nanjing, where Imperial Japanese troops ran amok in December 1937 in what has become known in China as the Nanjing Massacre. One Chinese taxi driver told me that on every Dec. 13th, the anniversary of Nanjing's fall, none of his colleagues will carry a Japanese passenger – though they don't discriminate the rest of the year. He said that it was a special day."

There are several movies describing the massacre being released at this time. The Children of Huang Shi is about a British journalist who saved a group of orphaned children during the massacre.

And Nanking tells the story of the massacre, aided by original news footage.

Al-Jazeera has put together a well-done news story on the massacre, which can be viewed here:

(18-Dec-07) Permanent Link
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As corporate earnings fall, stock prices rush to catch up

Price/earnings ratios have risen significantly in the last few weeks, as estimates for fourth quarter earnings have continued to fall.

The stock market bubble has been driven in recent years partially by investor anticipation of continued double-digit earnings growth. However, estimates have fallen sharply in the last half of this year.

At the beginning of Q3, estimates were that corporate earnings would grow by 6.2%; at the end, corporate earnings actually FELL 2.4%.

The fall appears to be accelerating in Q4, according to the latest summary from CNBC's earnings central:

"Earnings Central Stats As of Friday, December 14th:

4 companies in the S&P 500 have reported earnings for Q4, 75% have beaten estimates, 25% were in-line, and none have missed. (Data provided by Reuters Estimates)The blended earnings growth rate for the S&P 500 in fourth-quarter 2007, combining actual numbers for companies that have reported, and estimates for companies yet to report, fell to -3.8%, down from -1.3% last week, attributed in part to downward estimate revisions in Financials, including Bank of America, Washington Mutual and Citigroup.

At the start of the quarter, the growth rate for Q4 was 11.5%. (Data provided by Thomson Financial)"

In other words, the estimate at the beginning of Q4 was that earnings would grow by 11.5%; instead, the current estimate is that they FALL by 3.8%. That's even worse than last week's estimate, that they would fall by 1.3%.

The fall in corporate earnings growth is taking its toll on "stock valuations" or "stock price/earnings ratios." As the earnings fall, the P/E ratio goes up.

There's a price/earnings ratio chart at the bottom of this web site's home page, and it gets updated automatically every Friday. Here's the December 14 version of the chart:

S&P 500 Price/Earnings ratio and S&P 500-stock Index as of 14-Dec-2007. (Source: MarketGauge ® by DataView, LLC)

As you can see, the P/E ratio varied between 17 and 18 for the last year, but recently went up to about 19. This increase reflects the fall in earnings estimates.

This could explain why Wall Street stocks have been falling recently. Investors all tend to follow the same formula, based on something called the "Fed Model," a fallacious but widely used investment formula derived from a single paragraph buried deep in a 1997 Federal Reserve report. As P/E ratios rise, this formula will tell them that stocks are overpriced.

From the point of view of Generational Dynamics, the stock market is indeed overpriced -- by a factor of around 250% -- as I explained in my article "How to compute the 'real value' of the stock market."

Central banks - the US Federal Reserve (Fed), the Bank of England (BoE), the European Central Bank (ECB) -- have all been taking steps to increase liquidity, to fight the "credit crunch." Last week's spectacular announcement by world central banks of a plan to end credit crunch is being supplemented by various more informal plans to provide liquidity in various ways.

However, as I explained in "Questions and answers about the 'credit crunch,'" there isn't enough money in the world to fill the hole left by continually contracting amount of money in the world. The credit bubble is deflating, apparently with increasing speed. The central banks are desperately trying to pump it up again, but they can't keep up.

So far, it seems likely that stock prices have been controlled mostly by institutional investors; there aren't too many "Main Street" investors who have been reacted to the credit crunch so far.

But we're now overdue for a "generation panic and crash," an elemental force of nature that hasn't been seen since the 1929 crash. The generations of people who survived the 1929 crash and the horrors of the 1930s Great Depression are gone now. Today's leaders are Boomers and Generation-Xers who have never seen anything like a generational stock market panic and crash, and don't even believe that it's possible. At some point, millions or tens of millions of Boomers and Xers will panic and try to sell off their stocks, resulting in a new generational panic and crash, and it can't be stopped any more than a tsunami can be stopped. (18-Dec-07) Permanent Link
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California Governor Arnold Schwarzenegger will declare "fiscal emergency"

After years of increased state spending, thanks to bloated tax revenues from the bubble economy, California has been increasing spending on new programs.

But now, as the real estate bubble is collapsing and the credit bubble is leaking, tax revenues are slowing, while expenses are increasing.

The result is a $1.9 billion shortfall in this fiscal year, and an anticipated $14 billion shortfall next year.

Nothing can be done immediately, since the California state legislature hibernates, just like bears do. The winter recess began in September and ends in January.

When the legislature convenes in January, Schwarzenegger will declare a state of fiscal emergency, under a little-known provision in Proposition 58, a balanced-budget measure that voters approved in March 2004.

Apparently this is going to be very dramatic. Schwarzenegger will declare a state of emergency, after which the legislature has 45 days to solve the problem -- either by raising taxes or cutting programs. If they haven't succeeded, then they're not allowed to conduct any other business until they do succeed.

For some reason, this story reminds me of a remark by one of my school teachers in the 1950s. Her name was Miss Shepherd, and she had a wooden leg -- I assume she lost her leg in the war, but I don't know. Anyway, one day out of the blue she said, "People think that if you have a job as a schoolteacher, then your job is safe, because they always need schoolteachers. But that isn't what happened in the 1930s. They would put two or three classes together in a single room, and replace three teachers with just one teacher." That's all I remember, except that she was very emotional when she said it -- a combination of anger and sadness.

Generational Dynamics predicts that, unfortunately, those days are coming again. The situation in California is hardly unique among the states, and it's only going to get worse as the bubbles continue to deflate. There are some hard days ahead, and there's no way to stop them. As I always say, treasure the time you have left, and use the time to prepare yourself, your family, your community and your nation. (17-Dec-07) Permanent Link
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UN Climate Change conference reaches a compromise agreement

The two-week conference at the Bali beach resort ended Saturday, with the United States caving in on some of the demands of the "developing nations," resulting in a compromise agreement.

The worst of the demands, setting numerical requirements on carbon emissions, was avoided by means of the persistent refusal of the US delegation to accede.

As we described a couple of days ago, investment bankers have been lobbying for these demands, because the resulting "carbon credit" system could be turned into money-making scam like the subprime mortgage securities. Apparently the financial engineers at these banks, led by Louis Redshaw at Barclays Capital in London, have figured out a way to turn these carbon credits into derivatives. I don't know the details, but it's probably something like derivative securities that "bet" on whether or not a particular country will meet its emission targets by some date. The financial engineers would then turn these into AAA rated CDOs. The banks would make billions by taking fat commissions off the top, and everyone else would get screwed, same as with mortgage-backed securities.

The numerical targets were NOT agreed to, infuriating the "developing nations," who have been hoping to use "climate change" as a political vehicle to demand money from the United States. Last time, we quoted a bitter, angry spokeswoman for environmental groups saying, "There is a wrecking crew here in Bali led by the Bush Administration and its minions. Those minions continue to be the governments of Canada, Japan, Saudi Arabia and others, with unfortunately Australia shadowing that group of minions."

As I said the last time, this banking scheme doesn't have a snowflake's chance in hell of being approved, largely because investors will not fall this scam after falling for the subprime mortgage scam.

Another demand was for an "Adaptation Fund," where the US would pay "developing nations" to curb emissions. This fund is supposed to start in 2008, but it's a lot smaller in scope than the carbon credit scheme.

As I understand it, the turning point in the conference came when the South African delegation bitterly denounced the US for refusing to compromise. Now, the sainted Nelson Mandela has been going around comparing Bush to Hitler, and so as far as I'm concerned the South Africans can take their denunciations and shove them.

Nonetheless, the South Africans' denunciations were met with wild applause by the other "developing nations" delegates, and the US finally acceded on this point.

It's highly doubtful that anything will come of this farce. In the end, the compromise agreement was more an agreement to have more conferences in 2008, with a final agreement to be worked out in 2009. It'll be interesting to see which politicians sign on to these nutty proposals during the Presidental campaign.

In the meantime, despite all the sunning and surfing and bickering and political one-upsmanship, this isn't about anything but money. There isn't a single credible proposal for any country to reduce its carbon emissions by any amount at all. (16-Dec-07) Permanent Link
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UN Climate Change conference appears to be ending in farce

After two weeks of fun on Bali beaches, participants appear to have agreed on only one thing: that "the United States, is principally responsible for obstructing progress here in Bali." Those are the words of former Vice President Al Gore, for which he receive wild cheers and acclamations at the UN Climate Change Conference in Bali.

Al Gore speaking at Climate Change Conference (Source: CNN)

Now the conference is apparently about to collapse in farce, with no agreement whatsoever.

A bitter, angry spokeswoman for environmental groups at the conference said, "There is a wrecking crew here in Bali led by the Bush Administration and its minions. Those minions continue to be the governments of Canada, Japan, Saudi Arabia and others, with unfortunately Australia shadowing that group of minions."

UN Secretary General Ban Ki-moon said, "We are at a crossroad. "One path leads to a comprehensive climate change agreement, the other to oblivion. The choice is clear."

Oblivion?

This whole thing is a big joke. Even if all the claims about "global warming" are true (and I doubt it), I still haven't heard anything remotely like a technology or a plan to stop it that has even the tiniest hope of making any difference.

Al Gore himself obviously thinks it's a big joke. He lives in a mansion expending huge amounts of energy, and makes jokes about donating money to Greenpeace to make up for it. Every chance he gets, he uses "global warming" as an opportunity to make fatuous political statements.

If Al Gore really believed what he was saying, then he'd be a lot more serious. Instead, his only prescription is that you should vote for Democrats. If he really believed what he was saying, and that the earth was in danger, he wouldn't be joking around and making stupid political statements.

I know this because I DO believe what I'm saying. I believe every word that I write on my web site. When I was just getting started, and realized the consequences to myself and the world, I was so depressed that I couldn't sleep for months.

(Incidentally, I'm doing my part to support the great worldwide crusade to prevent global warming. I use fluorescent light bulbs throughout my apartment, I walk often, and when I drive, it's a compact car. I feel confident that my "carbon footprint" is smaller than Al Gore's.)

Bali Beach Resort

And now we have 159 countries sending delegates and their staffs in jet planes to an expensive beach resort in the middle of the (northern hemisphere) winter, to meet in air conditioned rooms for three hours a day before going out to enjoy the beach. Trust me, these are not serious people. They would NEVER be doing this if they believed anything they were saying about "oblivion."

For example, they could have had their meeting by setting up five or six meeting rooms on different continents, linking them up with video meeting software. If they really believed what they were saying, then they would have "saved the planet" by doing that.

A year ago I wrote an article saying that the Kyoto protocol was evidently dead. The reason is because the European nations were doing almost nothing -- NOTHING -- to comply with it. The European nations were either doing nothing to reach their targets, or they were actual INCREASING their carbon emissions.

And yet, the EU countries were officially meeting their targets. How? Because their targets were set based on 1990 emissions, and many countries have converted from coal to oil factories since then, so their emissions would have decreased anyway. The same is true of Russia.

And these are the same arrogant Europeans who criticize America for not signing the Kyoto treaty.

Furthermore, everyone knows that nobody is going to do anything to reduce carbon emissions. Americans aren't going to give up their SUVs. Europeans aren't going to spend any money on this. The nations growing fastest in carbon emissions -- China and India -- aren't going to do anything about it, because they're "developing nations." So nobody is going to do anything to reduce carbon emissions. So why the bitter denunciations?

It turns out that there's a very easy answer to that question.

Back in the 70s and 80s, the United States government used a trading scheme that permitted one region to keep polluting if it purchased "credits" from another region that did reduce pollution. And it worked pretty well. The US has done a great deal to reduce pollution in the last few decades.

The EU has developed a similar "Carbon Trading Scheme" that permits one country to purchase carbon credits from another country that was reducing carbon emissions. However, as we said above, the targets were set so high that the market for carbon credits collapsed, and nobody actually did anything to reduce carbon emissions.

So now the folks at Bali want to implement a similar trading scheme, on a worldwide basis that includes the US. The US would have to commit to reducing carbon emissions by 20-40% by 2020, an absurd goal.

Well, if you want to understand what's going on, the first place you might look is at the statements of UN official Yvo de Boer, who claims that an international market of trading carbon credits between rich and poor nations might be worth over $100 billion per year. "That would offer rich countries the choice of reducing emissions at home or implementing a project in a developing country," said de Boer. "Often reducing emissions in developing countries is a lot cheaper."

So there you have it. If only the US would sign up for this new protocol, then they'd vote to set the targets in such a way that the US would have to pay $100 billion to "developing countries." Can you believe this?

And who would be administering this $100 billion -- soon to be $200 billion, then a trillion, then several trillion? Why, the UN would be administering it, not hesitating to take their fat commissions off the top to pay for Ban Ki-moon's bloated bureaucracy.

But there's more. Once you scratch the surface of this, it turns into a mind-boggling scam that rivals the subprime mortgage crisis.

Louis Redshaw, Head of Environment Markets, Barclays Capital (Source: IHT.com)

While I was researching this story, I came across the name Louis Redshaw as perhaps the most outspoken business supporter of the carbon trading scheme. He works at Barclays Capital in London, where his title is Head of Environment Markets.

So I used google to find out a bit about this guy.

It turns out that he's a Generation-Xer, born around 1970, who started his career as an energy trader at Enron Corp., the company that became mired in scandal and collapsed in the early 2000s. But that only whet his appetite:

"In 2004, Louis Redshaw, a trader in his early thirties, trudged around the London offices of some of the world’s biggest investment banks with a bright idea: how to make pots of money from trading carbon.

Some were sceptical; others rejected the idea outright. Only Barclays Capital took the bait.

Today just about every sizeable investment bank – from Goldman Sachs to JP Morgan and the French bank Calyon – has plunged into trading carbon credits and emissions certificates in what some have dubbed a ‘green gold rush’. The market, at about €40 billion (£27 billion) a year, may be small compared with foreign currency or bond trading, but it is hot. With many predicting that the carbon-trading market will grow explosively to top $1,000 billion (£492 billion) within the decade, no investment bank can afford to sit on the sidelines.

Top traders are among the rising stars of the City, earning hundreds of thousands of pounds in pay and bonuses. In the close-knit world of about 150 carbon traders in London, Redshaw, who worked as a trader for Enron, the collapsed energy giant, and EDF Energy, is seen as one of the pioneers."

An article written in 2005 says

"Fans reckon trading volumes will soon be worth many billions of pounds per year. James Cameron at the investment boutique Climate Change Capital said: “I think this is likely to get bigger than the interest-rate-swaps market within 10 to 15 years, particularly once America joins in.” ...

Cameron said: “Europe will be the centre of the global market as a result of it taking the lead. It will provide the benchmark. London is the leading centre and will remain so for years to come. The preparation has taken place here, and other financial centres are not so advanced, although there is also a concentration of expertise in the Netherlands.”

The market is attracting interest from hedge funds, former Liffe traders and the big banks.

Louis Redshaw at Barclays Capital said: “We were the first British bank involved and are now the biggest banking participant. We handle transactions that are many multiples of the standard market size of 10,000 tonnes. A million-tonne transaction is not out of the question."

Notice the claim that it will be "bigger than the interest rate swap market within 10-15 years"; that's part of the alchemy that Gen-X financial engineers used to transform near worthless subprime mortgages into AAA rated securities.

By September of this year, major banks were lobbying hard to get the United States to agree to carbon emission limits at the Bali meeting:

"A group representing some of the world's leading banks will urge the United States and other industrial nations this week to move quickly to introduce a lightly regulated system for trading carbon emissions permits.

Permit-trading offers banks a potentially vast new business. For it to grow, leading economies - particularly the United States - will need to set limits on the quantities of greenhouse gases that can be released and to allow companies in other parts of the world to buy emissions permits.

"Where politicians opt to implement carbon constraints, then it should be cap-and-trade," said Imtiaz Ahmad, head of emissions trading at Morgan Stanley in London and vice president of a lobbying group called International Carbon Investors and Services, which is being created to represent the banks.

The banking companies, which include Citigroup, Lehman Brothers Holdings and Morgan Stanley, are giving strong signs that Wall Street wants Washington to open the way to reduced emissions using a trading system based on the Kyoto Protocol, an agreement the United States did not ratify, rather than by enacting carbon taxes.

The group also includes European institutions like BNP Paribas, Barclays Capital and Deutsche Bank, as well as niche investment banks like Climate Change Capital and the law firms of Baker & McKenzie and DLA Piper. ...

Carbon traders say emissions permits could become the world's largest commodities market if developed economies agree to take part in second-phase Kyoto negotiations, to be held in Bali, Indonesia, in December."

Do you recognize that list of banks? Those are the same banks that are mired in writedowns of hundreds of billions of dollars in near-worthless securities based on "subprime" mortgages.

And consider the time frame: This article appeared in September, just after the August "credit crunch" crisis, when all the subprime schemes were beginning to collapse. These banks were looking for a new gravy train.

And then, just last week, Barclays Capital launched the first Global Carbon Index. Here's an excerpt from the press release:

"This is the first time that such an index has been made available to asset managers, private banks and institutional investors looking for a comprehensive benchmark for the rapidly growing carbon emissions markets. The index is governed by the Barclays Capital Environmental Markets Index Committee, a newly formed independent body comprising representatives from the carbon industry and members of the institutional investment community. The Committee has been mandated to provide oversight to the development of the BGCI. ...

Louis Redshaw, Head of Environmental Markets, added: "The launch of this index is an important development in our environmental markets product offering. As we move towards the launch of the first phase of the Kyoto protocol and the second phase of the EU Emissions Trading Scheme, we expect the market to grow significantly as both corporates and investors look to manage their risks and leverage new opportunities. Barclays Capital is regarded as one of the major innovators in the emissions trading space, and with the addition of this product to our portfolio we are very pleased to be able to provide carbon risk solutions to the full spectrum of clients."

Within the last couple of weeks, Redshaw was still lobbying:

"Carbon will be the world’s biggest commodity market, and it could become the world’s biggest market overall,” said Louis Redshaw, head of environmental markets at Barclays Capital and an early pioneer in carbon trading. He is not alone in that opinion.

Chris Leeds, head of emissions trading at Merrill Lynch & Co. said he believes that carbon could become “one of the fastest-growing markets ever, with volumes comparable to credit derivatives inside a decade."

And so Dear Readers, admit it: When I said a few paragraphs back that this was a scam intended to rival the subprime mortgage disaster, you thought I was joking or being hyperbolic, didn't you? But now you see that I wasn't.

Now, I don't really know who Louis Redshaw is, but I know his type: A Gen-Xer with contempt for the United States and for the entire world financial system, the type of person who couldn't care less how many other people get screwed, as long as he makes his millions.

And you can bet that all those environmental delegates lounging on the beaches in Bali are aware of this as well. They all talk to their brokers every day, and they all believe it's their turn to screw the world and make their millions as well. And you can be certain that Al Gore and Ban Ki-moon have their hands in the honey pot as well.

If you read through those articles, you can see that the entire scam depends on one thing: Getting the United States to agree to it. At that point, the whole scheme can start to take off.

That's why all those greedy bastards are so bitterly furious about the refusal of the US to get on board. They couldn't care less about how many people die from coastal flooding. They just want their money.

In the end, "Global Climate Change" is nothing but an enormous scam. The only good thing about it is that it doesn't have a snowflake's chance in hell of getting approved. (14-Dec-07) Permanent Link
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Algeria bombings are from a new generation of young al-Qaeda terrorists

Thirty people, including 11 UN employees, were killed by two suicide bomb blasts in Algiers on Tuesday. The blasts targeted the Algiers UN building and Algeria's Constitutional Council building, and also claimed the lives of students traveling to school in a school bus.

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Algiers has been targeted by Sunni Islamist terrorist bombings since the 1990s, but recent activities represent a significant change of strategy. Whereas terrorist activities in the past have specifically targeted the the Algerian government, recent bombings are targeted international targets.

The change coincides with the announcement, in September, 2006, that the major Algerian terrorist group was joining al-Qaeda in its worldwide jihadist efforts, especially targeting France, Algeria's former colonial power.

The terrorist group, called "Salafist Group for Preaching and Combat (GSPC)" changed its name to "Al Qaeda in the Islamic Maghreb" (Maghreb is the Arabic word for North Africa), and began much more visible terrorist activities, beginning with spectacular terrorist bombings in Algiers and Casablanca on April 11 of this year.

Professor Noureddine Jebnoun of Georgetown University was interviewed on BBC World, and described the strategy as follows:

"Q: Why Algeria today, and why the United Nations?

Noureddine: We have three attacks -- April 11, called "Black Wednesday" in Algiers, we have July 11, the suicide bomb attack against the military base in the south and east of the capital Algiers, and today, another attack. This is the symbol of al-Qaeda.

Q: Why always on the 11'th of the month -- April 11, July 11, and now December 11 -- and of course, September 11?

Noureddine: This is the symbol of al-Qaeda since 9/11 -- September 11 -- and it's become a symbol of this organization.

Q: But why would they want to target something like the United Nations relief agency, because that does send a very big signal, does it not, to the international community?

Noureddine: This is just al-Qaeda trying to cut off the support from the international community, and especially from the United Nations, and to send a message to the French government, after the visit of President Sarkozy, and to the United States.

This government is very weak and you cannot continue to supply this government against what they thought was against the Algerian people.

Q: Any danger that Algeria could revisit the violence that rocked it in the 1990s, with an appalling toll of hundreds of thousands of people killed?

Noureddine Jebnoun, Georgetown University (Source: BBC)

Noureddine: I think so, because you know Algeria and North Africa and the Mahgrab region, you have a huge reservoir of youth, disenfranchised youth, that this organization can recruit, and it can use it against the Algerian government, against the Algerian security forces,

And now the strategy, the modus operand of this organization, was completely shifted. They tried to attack the civil target, and they tried to attack the Algerian government symbols, as for example the Supreme Court."

This emphasis on the younger generation is something I've discussed many times before.

Last month, MI5 Director General Jonathan Evans gave a speech on the UK's threat from al-Qaeda, including the following:

"As a country, we are rightly concerned to protect children from exploitation in other areas. We need to do the same in relation to violent extremism. As I speak, terrorists are methodically and intentionally targeting young people and children in this country. They are radicalising, indoctrinating and grooming young, vulnerable people to carry out acts of terrorism. This year, we have seen individuals as young as 15 and 16 implicated in terrorist-related activity."

As I wrote last year, from the point of view of Generational Dynamics, many of Britain's young Muslims have set up a "Hero/Prophet" relationship with the radical clerics in Pakistan's Tribal Areas. This kind of relationship is the visceral basis by means of which new genocidal crisis wars begin. There's an emotional connection between the elder Prophet generation (the idealistic generation born after the last crisis war) and the impatient college age Hero generation (the soldiers who will be fighting the new crisis war). Thanks to the internet and other modern forms of communication, this same kind of "Hero/Prophet" relationship is being set up by al-Qaeda in Pakistan's Tribal Areas.

Those who claim that Osama bin Laden is irrelevant because he's hiding out in a cave somewhere are missing the point. Al-Qaeda has become the leading worldwide terrorist "brand name," and bin Laden has become a major prophet and mentor to young, disaffected Islamist youth around the world who are looking for some way to become heroes, even if it means killing themselves.

Al-Qaeda is becoming increasingly high-tech, and is using internet videos as a recruiting device. One of those recruiting videos, "Al Qaeda Musical Jihad 2," was recently screened on David Letterman's late-night television show:

(14-Dec-07) Permanent Link
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Ben Bernanke: The man with increasing agony.

In 2005, I described Bernanke as the "The Man without Agony," because he didn't express any concern about the global financial situation. At various times in the past, he's said that he doesn't believe in bubbles, that the Fed could easily have prevented the 1930s Great Depression, that deflation is easily prevented, and that Fed jawboning is all you need to prevent inflation. This is all blithering nonsense, so much so that I've pretty much ignored most of what Bernanke has said, even since he became Fed Chairman.

That's all pretty remarkable, but what's even more remarkable is that Bernanke apparently learned nothing from the experience of the Japanese in the 1990s. Japan had a huge stock market bubble that burst in 1990, leading to 15 years of deflation. Bernanke, as I understand it, simply shrugged off Japan's experience, and blamed it on policy errors by the Bank of Japan.

(From the point of view of Generational Dynamics, Japan's experience was right on time. In brief, Japan had a major generational stock market panic and crash in 1990, just like America in 1929. But Japan's previous major stock market crash was in 1919. So you have: Wall Street: Crash in 1929, new bubble in 1995, 66 years later; Tokyo Stock Exchange: Crash in 1919, new bubble in 1984, 65 years later.)

In my 2005 article, I contrasted Bernanke's attitude with that of then-Fed chairman, Alan Greenspan. On this web site, I've been tracing Greenspan's changes of moods: Congratulating himself in January 2004; mixed emotions in July 2004; total repudiation of his previous views by February 2005; and his schizophrenic swan song as Fed chairman in August 2005.

This last speech contained a memorable paragraph that's worth reading again:

"Thus, this vast increase in the market value of asset claims is in part the indirect result of investors accepting lower compensation for risk. Such an increase in market value is too often viewed by market participants as structural and permanent. To some extent, those higher values may be reflecting the increased flexibility and resilience of our economy. But what they perceive as newly abundant liquidity can readily disappear. Any onset of increased investor caution elevates risk premiums and, as a consequence, lowers asset values and promotes the liquidation of the debt that supported higher asset prices. This is the reason that history has not dealt kindly with the aftermath of protracted periods of low risk premiums."

Now, this is EXACTLY what's happened since then, and it's what happening now. The reason it's so memorable is that no one can claim they weren't warned. Did Bernanke even read this? If so, did he think that Greenspan was an old fool who didn't know anything?

And what about hotshot journalists like Greg Ip at WSJ, or Steve Lieseman at CNBC. Did they pay any attention?

This is a very significant and predictive paragraph, and yet I've never seen it quoted anywhere except on this web site. Why is that?

Actually, there is ONE place. It's referenced in an op-ed article appearing in the Wall Street Journal on Wednesday. The author? Alan Greenspan:

"On Aug. 9, 2007, and the days immediately following, financial markets in much of the world seized up. Virtually overnight the seemingly insatiable desire for financial risk came to an abrupt halt as the price of risk unexpectedly surged. Interest rates on a wide range of asset classes, especially interbank lending, asset-backed commercial paper and junk bonds, rose sharply relative to riskless U.S. Treasury securities. Over the past five years, risk had become increasingly underpriced as market euphoria, fostered by an unprecedented global growth rate, gained cumulative traction.

The crisis was thus an accident waiting to happen. If it had not been triggered by the mispricing of securitized subprime mortgages, it would have been produced by eruptions in some other market. As I have noted elsewhere, history has not dealt kindly with protracted periods of low risk premiums." [My emphasis.]

Later in the article, Greenspan points out:

"After more than a half-century observing numerous price bubbles evolve and deflate, I have reluctantly concluded that bubbles cannot be safely defused by monetary policy or other policy initiatives before the speculative fever breaks on its own. There was clearly little the world's central banks could do to temper this most recent surge in human euphoria, in some ways reminiscent of the Dutch Tulip craze of the 17th century and South Sea Bubble of the 18th century."

However, in keeping with general policy of telling half-truths, Greenspan doesn't bother to reach the conclusion that he's obviously implying: That the current bubble is going to end with the same kind of disastrous financial crisis as did the Tulipominia and South Sea bubbles.

Greenspan is clearly expressing a great deal of agony. Born in 1926, he's lived through and survived this kind of disaster before, and he knows what's coming.

But that leads to the obvious question: Does Ben Bernanke yet feel any agony? Has he begun to realize that his conclusions about the easy avoidability of the Great Depression -- conclusions that he arrived at while sitting on his grandmother's knee as a child, as I drescribed in "Bernanke's historic experiment takes center stage," -- has he begun to realize that his entire view of world finance is 100% wrong? Or does he still believe that he can save the world by announcing exactly the right kind of interest cut, accompanied by exactly the right kind of jawboning?

The events of the last 24 hours were apparently a great shock to Bernanke, if we're to believe the Wednesday morning chit-chat on CNBC. As we described in yesterday's article, commentators and economists were EXTREMELY CONTEMPTUOUS of the "miserly" ¼% interest rate reduction announced by the Fed at 2:15, at which time the Dow Industrials fell 340 points.

If Bernanke really was shocked, then this is the first time we've known about it, and it may be a sign that Bernanke is finally beginning to question the nonsense he's believed since he sat on his grandmother's knee.

That contempt about the "miserly" rate cut continued through Wednesday, as defenders of Bernanke and the Fed were as scarce as hen's teeth.

Yesterday I discussed at length that investors are no longer interested in the market per se; all they care about is whether they anticipate a Fed "surprise" rate cut.

Along those lines, what happened on Wednesday was absolutely breaktaking.

Dow Industrials spiked 300 points, then started falling almost 400 points from the peak on December 12

Here's what appeared on the Wall Street Journal web site on Wednesday morning:

"Stocks Poised for a Rebound. Stocks are set to rally Wednesday on hopes the Federal Reserve, a day after a rate cut that disappointed the market, may step in to ease the credit crunch. Markets were mostly lower in Europe and Asia. 8:20 a.m."

And indeed they did rally, shooting up almost 300 points (Dow Industrials) within minutes after the market opened, by which time the Fed had announced its plan to inject liquidity into the economy.

(There were cynics who believed that the Fed's move was a reaction to the previous day's market plunge, but obviously the new policy was global and must have taken weeks to set up.)

Later in the day, the following appeared on the WSJ site:

"Fed Move Lights Fire Under Stocks. Stocks advanced after the Fed announced further steps to ease the credit crunch, though the major indexes were recently off their best gains of the day. Treasury yields surged. 1:02 p.m."

And by the end of the day it read:

"Stocks' Wild Ride Ends in Gains The Dow industrials climbed 41.13 to 13473.90, capping off a session of wild intraday swings with a modest gain as investors digested the Fed's plans to add liquidity to money markets and profit warnings from major banks. 6:26 p.m"

What's remarkable about all this, as I indicated yesterday, is nobody gives a damn about the stocks themselves, or the companies that they represent. Things are so bad in the credit markets that investors don't want to buy stocks, unless they believe that the Fed is going to "save the world."

As for Bernanke, he's in the midst of a major shock. Everything that he believed, everything that he taught as a Professor of Economics at Princeton is turning out to be completely wrong.

The conclusion that he reached on his grandmother's knee is that the Great Depression could have been avoided if the Fed had injected a little more money into the economy. Now he's beginning to realize the truth: That as the liquidity bubble recedes, there isn't enough money in the universe to end the credit crunch.

But it's more important than that. This represents the almost total collapse of the last few decades of macroeconomic theory. As I've said many times, mainstream economists have gotten everything wrong at least since the 1995 start of the bubble, including the bubble itself. Just before the Nasdaq crash of 2000 they were predicting that Nasdaq would increase forever. Many economists were saying that there's no housing bubble as late as a few months ago. Go back and look at their predictions about unemployment, inflation, and so forth, and you'll find that economists are far less reliable than weathermen are in predicting the weather.

And you can bet that nobody foresaw the current situation, or has any idea what to do about it. As I wrote last year in "System Dynamics and the Failure of Macroeconomics Theory," mainstream macroeconomic theory MUST include generational dynamics if it's going to work. But every time I mention this to one of these academics, they simply blow me off -- even though they get one thing wrong after another themselves.

As I've been saying for years, the entire world is in a huge bubble. That bubble is leaking, causing banks to hoard money. Bernanke and other central bankers are scrambling around, trying to keep the bubble from leaking, and of course they have no hope of stopping it. It's leaking because attitudes have changed massively among the entire Boomer and Generation-X generations. They're much less willing to take risks, and so they won't respond to Bernanke's schemes to stop the leaks.

It's worth repeating the paragraph from Greenspan's 2005 speech:

"Thus, this vast increase in the market value of asset claims is in part the indirect result of investors accepting lower compensation for risk. Such an increase in market value is too often viewed by market participants as structural and permanent. To some extent, those higher values may be reflecting the increased flexibility and resilience of our economy. But what they perceive as newly abundant liquidity can readily disappear. Any onset of increased investor caution elevates risk premiums and, as a consequence, lowers asset values and promotes the liquidation of the debt that supported higher asset prices. This is the reason that history has not dealt kindly with the aftermath of protracted periods of low risk premiums."

I wonder if Ben Bernanke is feeling any agony yet? Well, it doesn't really matter, because one way or the other, Bernanke is going to learn his lesson. (13-Dec-07) Permanent Link
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Central Banks around the world announce an "unprecedented" joint plan to end the credit crunch.

There were simultaneous announcements on Wednesday by the US, Canada, the UK, Europe, Japan, Switzerland and Sweden to provide liquidity to banks at a lower interest rate and under easier terms than usual.

The BBC and others have described the new plan as "unprecedented."

What was particularly interesting is that all of these central banks are injecting liquidity in the form of US dollars into their local banking system. This is because banks have been hoarding dollars more than other currencies. The other central banks will obtain dollars from the Fed through a repo (repurchase) agreement.

Statements were issued simultaneously on Wednesday by the Federal Reserve, European Central Bank, Bank of England, Bank of Canada, Swiss National Bank, Bank of Japan, and Swedish Riksbank.

The Fed statement refers to the establishment of a brand-new Term Auction Facility (TAF) program. Using whatever securities they have in their portfolios as collateral, banks will be able to bid for dollars to be offered at a series of TAF auctions. The dates for the TAF auctions are as follows:

• $20 billion to be auctioned on Monday, December 17;
• $20 billion to be auctioned on Thursday, December 20;
• Unspecified amounts to be auctioned on January 14 and 28.

The statement adds:

"Experience gained under this temporary program will be helpful in assessing the potential usefulness of augmenting the Federal Reserve’s current monetary policy tools--open market operations and the primary credit facility--with a permanent facility for auctioning term discount window credit. The Board anticipates that it would seek public comment on any proposal for a permanent term auction facility."

In my August article, "Bernanke's historic experiment takes center stage," I described how open market operations and the discount window work. The TAF, if it's successful, would add another major tool to the Fed's arsenal.

Still, let's face it, this is desperation -- a desperate act to try to pump up the leaking credit bubble and keep it from collapsing.

They're talking about $40 billion this month -- that's nothing compared to the writedowns that are occurring.

Even the most hopeful mainstream estimates are that there will be a total of $500 billion in writedowns, resulting in $2 trillion more in lost credit, as I described last week in my article, "Questions and answers about the 'credit crunch'."

So even assuming these optimistic amounts, $40 billion is still a drop in the bucket.

You know, the first of these TAF auctions is on Monday, just three days away. So we may know by then whether these auctions will "save the world."

Everyone seems to think that with a little Fed "magic," everything will go back to the halcyon days of 2004 to August 2007, when bad news was always good news, and the market had no way to go but up.

But that's absolutely impossible, for three reasons:

• The credit bubble has gotten too large to be sustainable. It has to deflate just because of its sheer weight.
• The generations of people who survived the 1929 crash and the horrors of the 1930s Great Depression are gone now. Today's leaders are Boomers and Generation-Xers who have never seen anything like a generational stock market panic and crash, and don't even believe that it's possible. At some point, millions or tens of millions of Boomers and Xers will panic and try to sell off their stocks, resulting in a new generational panic and crash.
• Even ignoring the possibility of a panic and crash, the Boomers and Xers who used the debauched and depraved forms of credit that gave rise to the huge credit bubble are now considerably more risk-averse than they were. A couple of Fed interest rate reductions will not reverse this generational change in attitude to risk-aversion.

Now let me return to the remark by the BBC that this plan is "unprecedented." Maybe a few of the details have changed, but this kind of international cooperation to save the world is not unprecedented.

If you haven't read the fascinating story of "The bubble that broke the world," then now is a good time to do so. It's the story of what happened in 1930 and 1931, when the world's central bankers got together to save the world from financial collapse. In fact, it was this joint plan that led to the creation of the Bank of International Settlements.

The problems then were the same as they are today. The 1920s bubble had created huge amounts of money in the form of a credit bubble, and after the 1929 crash, that bubble started to leak.

It was bad enough in the US, but it got worse and worse in Europe. Central bankers in Britain, the US and France got together with a plan to prevent the financial collapse of central Europe by injecting huge amounts of liquidity into the European banks. It worked for a while, but not for long.

On May 11, 1931, the Credit-Anstalt bank of Austria failed. This triggered mass panic and bank failures throughout Central Europe, and generated a worldwide banking crisis. On July 13, the German Danatbank failed. Foreign investors in Germany quickly withdrew their capital from Germany, heightening the crisis, leading to the complete collapse of the German economy. By the end of the year, there were over 6 million unemployed, and the resulting social tension gave rise to Communism and Naziism.

So, the new international "TAF" plan is not unprecedented. It was tried before, and it failed. Now it's being tried again, for the same reason as in 1930-31, and it's going to fail again, for the same reason as in 1930-31: There isn't enough money in the universe to prevent the credit bubble from collapsing. (13-Dec-07) Permanent Link
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Investors suddenly end orgy after "miserly" Fed interest rate cut

The Dow Industrials feel 270 points in 30 minutes on Tuesday, and then and then fell 70 more points before the final bell.

Dow Industrials fell sharply at 2:15 pm on December 11, after Fed announced a ¼% rate cut.

The sharp tumble began at 2:15 pm, when the Fed announced a ¼% rate cut to 4.25%. Investors had been hopin' and prayin' for a "surprise" ½% rate cut, and expressed contemptuous attitudes at the ¼% announcement, with one economist summarizing it as "Wimps vote for mush."

Another economist called it "the biggest flop since Ishtar," and a Bear Stearns statement called it a "miserly action."

Now, as I've said many times, Generational Dynamics is less concerned about the daily ups and downs of the stock market, and much more concerned about the attitudes of large masses of people, entire generations of people. The ups and downs of the stock market are of interest only insofar as they reflect the attitudes of large masses of people.

So the fact that this contemptuous attitude toward the Fed rate cut is so widespread is worth examining closely.

Dow Industrials surged after two "surprise" rate cuts (Aug 17 and Sep 18), but fell after two "ordinary" rate cuts (Oct 31 and Dec 11)

This graph shows the results of the last four Fed rate cuts:

• The Aug 17 Fed cut in the discount rate was unscheduled and so was a complete surprise; the Sept 18 rate cut of ½% was a surprise, much higher than the expected ¼% cut. The market surged after each of these rate cuts.
• The Oct 31 and Dec 11 rate cuts of ¼% were as expected. On both occasions, the market surged in the days prior to the announcement, as investors became erotically aroused at the thought of a new "surprise" -- an unexpected ½% rate cut. When the investors became frustrated, not only did the market not surge either time, but in fact the market fell sharply on both occasions.

In addition, the credit markets responded negatively last week when the Bank of England lowered its Bank Rate ¼%. In fact, the Libor interest rate (sterling, 3 month) spread continues to increase every day. As of Tuesday morning, the Libor was at 6.63%, representing a "spread" of 1.13% above the official BoE Bank rate of 5.50%. This continual increase is very ominous.

And so we reach the following conclusion: The only thing that will push the market up is the ANTICIPATION of a much larger than expected Fed interest rate cut.

Now let's take a look at something interesting:

Probability of various outcomes of Fed Funds rate at Tuesday's Fed meeting, as determined by investor "bets."

The explanation of this chart is as follows: Since the Fed Funds rate was 4.50%, the possible outcomes of Tuesday's Fed meeting was they would leave it unchanged at 4.50%, raise it to 4.75%, or lower it to 4.25%, 4.00% or 3.75%.

The above chart, is provided by the Cleveland Fed, is based on data provided by the Chicago Board of Trade (CBOT).

The CBOT allows you to bet on one of the possible outcomes, by purchasing a a "binary option" on any desired target rate. If you select the correct rate (4.50% in this case), then you get $1,000; if you select a different rate, then you get nothing.

Based on the investor "bets," the CBOT can come up with an estimated probability of investor expectation of the outcome of the Fed meeting.

The chart above represents "bets" as of the end of last week. Reading values off the graph, you can see that the expected probability of each outcome was as follows:

    Target Fed        Probability of
    Funds Rate          that outcome
    -----------       --------------
    3.75%               0.01
    4.00%               0.28
    4.25%               0.70
    4.50%               0.00
    4.75%               0.01
    -----------       --------------
    TOTAL               1.00

As you can see, the probability of a 4.25% outcome was the highest -- at 0.7 (or 70% probability) -- and that was the outcome that occurred on Tuesday. However, the probability of a ½% decrease to 4.00% had risen to 0.28 (or 28% probability), meaning that more than a quarter of those making "bets" thought that there would be a "surprise" ½% rate cut.

Now, look at the "4.00%" across the graph. It's at probability 0.0 on November 2, remains around .01 until November 27, and then suddenly jumps to 4.00%.

What happened on November 27?

We're now able to correlate three different things that happened around November 27:

• As I wrote in a Nov 27 article, international credit markets were nearing "virtual panic mode," as interest spreads continued to increase.
• The probability of a ½% Fed interest rate cut went from 0.1 to 0.3, in the expectations of investors who "bet" on the CBOT options described above.
• The Dow Industrials began to surge from 12743 up to Monday's peak of 13727, in anticipation of a Fed "surprise" interest rate cut of ½%. When the actual cut was ¼% on Tuesday, the index fell to 13432.

So when you put this all together, you can see how absolutely crazy this is. The news about the international credit markets was INCREDIBLY BAD. But investors treated it as good news, because it was so bad that it would cause the Fed to cut ½%.

This is the crazy "bad news is good news" syndrome that we've been seeing for the past couple of years, and it appears to be getting worse. Investors talk about things like earnings and valuation of the stock they buy, but the only thing they care about is what the Fed is going to do. There is no rational connection between stock market prices and anything going on in the world.

Even the normally bubbly commentators on CNBC are beginning to notice this. It's frequently said that the market didn't pay much attention to the August credit crunch, even though if there were anything rational going on, stock prices would have fallen and stayed down on the news.

In fact, this is the point that Bank of England governor Mervyn King made last month when he predicted a severe fall in stock prices:

"It is very striking that despite the developments we've seen in the last three months , despite the stresses and strains in the banking sector, equity prices are higher now than they were in August."

That was a month ago, and the situation has gotten much worse since then, especially as banks hoard money and lending rates surge.

A particularly notable event occurred on Monday, when Europe's largest bank, UBS AG, announced that it will be forced to write down $10 billion in its asset pool, after already writing down $4.66 billion in the third quarter. The reason is that the pool contains CDOs backed by "subprime" mortgages.

We're talking about real money here when we talk about these huge losses. UBS might be on the road to bankruptcy, but they've been saved by an $11.5 billion investment from the Government of Singapore Investment Corp., in return for which Singapore will own 10% of UBS. UBS raised another $2 billion from an unnamed Middle Eastern country. This deal resembles the deal struck by Citibank, which was saved by an investment by the Abu Dhabi Investment Authority, after it took $16.4 billion in writeoffs of worthless CDOs.

From the point of view of Generational Dynamics, we're overdue for a new generational stock market panic and crash, followed by a 1930s style Great Depression. The scenario that's going on today, with CDO writedowns, "surprise" Fed announcements, and daily bank writedown announcements, could not have been predicted in 2002, when I first predicted a coming stock market crash, based on the fact that stock market is overpriced by a factor of around 250%. (12-Dec-07) Permanent Link
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IBM develops supercomputer on a chip

Also, the Japanese are developing robots that play the violin and do other neat things.

Back in 1964, an engineer friend of mine told me this: "Computers can't get much faster. The circuits in today's computers require signals to travel at almost the speed of light, and there is no way to get around that. Thus, computers may get a little faster, but not much faster than they are today."

There was a way around that, of course -- to make the circuits in the computer smaller and smaller. Electricity would still travel around the circuits at the speed of light, but the electricity would have much less distance to travel.

Since the 1960s, computer circuits have been made smaller and smaller by packing more and more tiny transistors onto a silicon chip. More transistors on a chip means shorter distances between chips, which means faster computers.

According to Moore's Law, described in 1965 by Intel co-founder Gordon Moore, the number of transistors on a chip would double every two years, making computers faster and faster.

However, more transistors also mean more heat - a lot more heat. This placed a theoretical limit on Moore's law that it would stop working in the 2010s decade, and computers would no longer get faster.

Nanophotonic rib waveguide diodes carry light photons, rather than copper wires carrying electrons. (Source: IBM)

But now, new "nanophotonic" technology from IBM overcomes the limitations to Moore's law by using light pulses instead of electrical pulses to transmit information. Light pulses generate much less heat, and so much more information can be packed into the same space.

Instead of using copper wire to transmit electrical pulses, the new technology uses "nanophotonic rib waveguide diodes" to transmit light pulses.

The picture above shows one of these rib waveguides. Each one is 550 nm (nanometers) wide. That means that if you took 200 of these waveguides, and placed them side by side, the total width would still less than the width of a human hair.

Within a few years, it will be possible to build supercomputers that are as powerful as the human brain, and then it will be possible to develop computer software that, within a few years, make the computer as intelligent as a human being.

Robots played by Arnold Schwarzenegger and Kristanna Loken in Terminator

If you saw the the 2004 movie I, Robot, then you may recall that intelligent robots were living side by side with human beings. That was a movie, but the technology will soon become quite real.

At some point, probably some time in the late 2020s, computers will be intelligent enough so that they'll be responsible for their own research and development as necessary to invent new, more powerful versions of themselves.

Robot from I, Robot

At this point, known as the Singularity, computers will quickly become so much more intelligent than humans that they'll displace humans as the major "species" on earth. Whether the human race will survive long after 2030 is not known, and is impossible to predict.

However, in the meantime, robots are being designed to do some neat things, especially by the Japanese.

On Thursday, Toyota Motor Co. announced some new home robots that are under development, including one that plays the violin.

Here's a video of the Toyota robots:

Quite honestly, I thought the violin playing was a little scratchy. (8-Dec-07) Permanent Link
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Credit crunch worsens after Britain cuts interest rates

Financial pundits are wondering, this Friday morning, why the international credit markets have gotten worse, instead of better, after the Bank of England cut overnight interest rates on the British pound a quarter point to 5½% from 5¾%.

The BoE's Bank rate is similar to the American Fed Funds Rate. It specifies the overnight interest rate -- the rate at which banks lend money to each other for just one day.

The problem that policy makers are facing is that normally one wants to borrow money for a longer period than one day -- with three months being a typical time period. And the three-month borrowing rate is determined by the marketplace, not by the BoE bank rate or the Fed funds rate.

Nonetheless, the different rates usually change in unison. When a central bank (the BoE or the Fed) reduces the overnight rate by 25 bp (= 25 basis points = 0.25% = ¼%), then it's normal for the 3-month lending rate also to fall by 25 basis points.

What happened in the last 24 hours is far from normal, however.

The BoE lowered overnight interest rates by 25 basis points, but the 3-month rate fell by only 4 basis points. This indicates that banks are still hoarding money, as I described in "Questions and answers about the 'credit crunch.'"

The Bank of England's stated purpose in lowering the overnight rate was to bring down 3-month rates, but they failed to do so. The 3-month rate was an extremely high 6.65% before Thursday, but on Friday it's almost as high at 6.61%.

The 3-month rate is known as Libor, or the London Interbank Offering Rate. This is a market-driven rate, and it's different for every currency (dollars, pounds, euros, etc.), and it's different for every time period (overnight, 3-month, 6-month, etc.).

The overnight rate is sometimes referred to as the "overnight interest swap," or OIS. This market-driven value is different for every currency, and it usually equals the overnight fund rate for the central bank. Thus, you can think of the OIS as a proxy for the Fed Funds rate in dollars, for the BoE bank rate in pounds, or the European Central Bank rate for euros.

The "spread" is the difference between the official bank rate and the market-driven rate for whatever interest rates we're talking about.

In this case, we're talking about overnight rates for the pound, versus the 3-month Libor rate for the pound. As we said, those rates are 5.5% and 6.61%, respectively. The difference between these two values (1.11% in this case) is called the "spread." A spread of 1.11% is exceptionally high.

This situation is so exceptional that some UK economists are saying that the "Bank of England has lost control" of monetary policy, and that it can no longer do anything but react and hope for the best:

"Experts warned that it was a sign that the credit crisis could escalate over the Christmas period, even though the Bank has now embarked on a major series of interest rate cuts for the first time in almost eight years.

It coincided with a chilling warning from the Organisation for Economic Co-operation and Development that the UK economy is heading for a major slowdown next year - and possibly a "significant slump" in house prices.

This month's short sterling futures, which indicate where the market expects the key benchmark interbank borrowing rate to be in two weeks' time, actually rose markedly after the Bank's decision - an almost unprecedented reaction. The pound also ended the day up slightly on its trade-weighted index - another highly unusual outcome on the day of an interest rate cut.

John Wraith of Royal Bank of Scotland said: "They haven't got the control over rates in the financial system that they ordinarily have.

"Historically, a 25-basis point change in Bank rate would lead to an almost identical change in Libor [the benchmark rate in the money market]. That hasn't happened." ...

Peter Spencer, chief economic adviser to the Ernst & Young Item Club, said: "The fact of the matter is that the market rather than the Bank is now dictating monetary policy - and not from the point of view of controlling inflation, but from the point of view of a random walk. It is behaving in a way which is totally rational for individual banks but adds up to a major deflationary issue.

"I think this is a very grave situation indeed - and not just for the 1.5m [households due to renew their mortgages next year]. If this problem is not sorted out in the next two to three months we are looking at major insolvencies in UK plc."

The sense of fear in the City was compounded by the severity of the Bank's brief accompanying statement, which said: "Conditions in financial markets have deteriorated and a tightening in the supply of credit to households and businesses is in train, posing downside risks to the outlook for both output and inflation further ahead."

The situation is puzzling economists, as in this article entitled "Why is the LIBOR differential getting larger?" accompanied by the following graph:

3-month Libor rates versus overnight rates (OIS) for UK pounds sterling, euros, and US dollars (Source: mi2g.com)

The above graph shows the overnight vs 3-month interest rate spreads over the last four years in bps (basis point spread).

As you can see, the spreads are normally around 5-10 basis points, or around 0.05% to 0.1%.

However, there was a huge spike in August, giving rise to the international "credit crunch" that almost caused a market meltdown.

And, as of Friday, the new spike has gotten even higher than the August spike.

That's why the credit crunch is more serious today than it was in August, and why UK economists are saying that the BoE has "lost control" of monetary policy.

This follows several recent warnings by the Governor of the BoE, Mervyn King, that the worldwide financial markets are poised for a crisis.

Over here in America, where most investors probably wouldn't even know how to spell 'UK', the concerns of the Bank of England are out of sight, out of mind, and investors are continuing their drunken orgies, especially now that the Treasury Dept. has announced its bailout plan to "save struggling homeowners."

I haven't studied this plan enough to see if it makes sense, but I note that pundits and politicians are quite mixed about it. Many pundits believe that at best it will do nothing and at worst it will do more harm than good. Other pundits think it's wonderful. And now the politicians are getting into the act, which can only be a bad thing, led by Hillary Clinton who's saying that "it doesn't save enough people." Yecch.

My own view is that you should remember that the government is being run by Boomers who have no governing skills, and the Democrats are being driven by nihilistic Generation-Xers in Moveon.org. These are the people who probably couldn't even spell 'UK', and so it's doubtful that they have any idea what's going on in financial markets, which is just as well.

From the point of view of Generational Dynamics, none of this makes any difference. The spike in interest rates is being caused by the fact that there's much less money in the world than there was a few weeks ago, and there's less and less every day.

What we're really seeing is a massive adjustment in generational attitudes. Boomers and Gen-Xers have been blithely and contemptuously abusing the credit markets in a debauched fashion, thinking that someone else will pay for their mistakes. They believe that a massive stock market panic and crash is impossible, or at worst, inconsequential. From the point of view of Generational Dynamics, such a panic and crash is certain, and it will be disastrous, as the Boomers and Xers will learn. (7-Dec-07) Permanent Link
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Questions and answers about the "credit crunch"

What's going on, and what you can do about it.

I've been getting a lot of questions lately about the economy, so I thought that I'd answer several of them in a posting.

What's a credit crunch, and what's going on?

The easiest way to understand it is this: The world's money is disappearing. Every day, there's less money in the world than there was the day before. Since there's less money available, it's harder to get money, unless you're willing very high interest rates to get it. Hence, there's a "credit crunch."

One result is that banks are hoarding money, and are increasingly reluctant to lend money to one another and to other businesses. This means that even legitimate, creditworthy individuals and businesses are having a hard time getting credit, getting mortgages, or getting loans without having to pay extremely high interest rates.

How could there possibly be less money in the world?

It's not that people are eating dollar bills for lunch.

In fact, paper money is pretty irrelevant these days. Very little money is created by means of printing presses today. Money is created by means of credit, as I explained in my September article, "Understanding deflation: Why there's less money in the world today than a month ago." When a central bank (like the Fed or the Bank of England) wants to create more money, it doesn't run the printing presses more; it simply lowers interest rates, so that there'll be more credit, hence more money.

Unfortunately, financial institutions found that they can use a technique called "leveraging" to create money from credit, essentially going around the central bank. They create a new security and tell you that it's worth $10, but they'll let you buy it for $1 and loan you the other $9. So $10 that didn't exist before now does. It's wonderful. It's magic.

These securities are called "credit derivatives," and among them are CDSs (credit default swaps) and CDOs (collateralized debt obligations).

The credit bubble has created $750 trillion (notional value) in credit derivatives. Are those credit derivatives the same as money? Not exactly. You can't go into the grocery store and pay for your groceries with a credit derivative.

But you CAN use those credit derivatives in your portfolio as collateral for a loan, and then you can use THAT money to buy groceries. So in fact the credit derivatives ARE a form of money.

That's what's been happening up till July of this year. But suddenly people are discovering that the security that was supposedly worth $10 is really worth only $5 or even $2.50 or even $1, and sometimes they're totally worthless. So the process of creating money is now going in reverse. Instead of money being created through credit, today money is being destroyed through credit unwinding.

How much money has been destroyed since July?

A huge amount already. Let's start with an example.

Things really started moving in mid-July, when Bear Stearns announced that its hedge funds were almost worthless. That's because the hedge funds were these CDOs that had been magically created, and were supposedly worth several billion dollars. Well, they discovered that nobody wanted to buy them, and if nobody wants to buy them, then they have no market value, when they're "marked to market."

Since then a number of financial institutions have "gone to the confessional" to explain that, they too, have lost a great deal of money in writedowns because their portfolios contained CDOs that were worthless. These are major financial institutions like Citigroup, Merrill Lynch, Morgan Stanley, Goldman Sachs, JPMorgan Chase and Bear Stearns.

Citibank tried to save itself by means of a fraudulent scheme known as a "Master-Liquidity Enhancement Conduit (M-LEC)." Under the scheme, Citibank and other banks would sell worthless CDOs to each other at inflated prices, in order to establish a phony "market price" for the CDOs. Citibank's fraudulent M-LEC idea didn't take off, forcing the bank to take $16.4 billion in writeoffs of worthless CDOs after all. Citibank might have gone bankrupt except that it was saved by an investment by the Abu Dhabi Investment Authority.

These big financial institutions are announcing more every day, and "mainstream estimates vary as high as $500 billion in writedowns.

Now, that $500 billion is gone. That's money that existed a few months ago, but no longer exists. That's how money gets destroyed.

And that's only the large institutions. We've hardly heard from the small institutions, but we're beginning to. State and local governments in Florida and Montana have to freeze their investment pools because they pools were found to have invested in near-worthless CDOs. And that's the tip of the iceberg. There are tens of millions more small and medium-sized institutions around the world that are going to have similar situations, forcing them to write down their securities.

With $750 trillion (notional) of credit derivatives in the world, it would not be surprising if the total writedown amounted to $7.5 trillion (1%) or even $75 trillion (10%).

Is that all?

Hardly. Because next you have the de-leveraging problem.

When a bank has $1 million in assets available to it, it can loan out 5 or 10 times as much as that, or $5-10 million. That's leveraging.

But if the $1 million in assets suddenly disappears, then there's $5-10 million that it can't loan out any more. That's de-leveraging.

The point of all this is that there's MUCH less money in the world today, and there's less and less every day.

What do subprime mortgage have to do with all this?

For the most part, residential subprime mortgages were the original "seeds" for the credit explosion. Banks started requiring less and less of people wanting mortgages, and by the time it was over, anyone could get a mortgage for any amount with no problem at all, even if they had no assets, no income, no job, and no hope of making the mortgage payments.

These mortgage loans, like any other form of credit, created new money. That new money could then be leveraged into credit derivatives that were worth 5-10 times as much as the original mortgage loans. Those credit derivatives could then be leveraged further. This process could continue several times.

However, there were other "seeds" as well. Requirements for credit cards and other forms of credit were also relaxed, so that people could get credit that way as well. Delinquencies have been rising in credit cards, just as they have in mortgage loans.

And a front-page article in Friday's WSJ is about how delinquency rates have been rising in car loans and even student loans.

Why would banks make loans to people who couldn't pay them back?

Because the banks made money that way. The loan officers made commissions from the loans. I'd be happy to lend you $1 million of someone else's money if I got a $50,000 commission from it. And that's what happened. That's what happened with mortgage loans, with credit card loans, with car loans, with student loans, and so forth.

And then the financial geniuses got hold of the loan contracts and turned them magically into CDOs with phony notional prices. They sold those, and got hefty commissions from selling them.

All along the way, people were loaning out other people's money, and taking fat commissions for themselves.

Isn't that illegal?

You're damn right it's illegal. And I can hardly wait to see some of these financial geniuses get put away.

I've been studying this stuff for a few years now, trying to figure out what was going on.

At first I thought that people were just being naïve or stupid.

But I've since come to the conclusion that the mess that we're in was done on purpose -- by contemptuous and nihilistic Generation-Xers taking advantage of airhead Boomers (who are even too stupid to price/earnings ratios, as I described in a recent article.)

A web site reader from Belgium wrote to me:

"In Flanders, financial experts appear angry on our business tv station explaining how "stupid" investors are when they are selling their stocks because the problems reside only in the heads of the investors. Unbelievable !!!"

Yes, it is unbelievable, until you realize that the reason that these financial "experts" are talking this way is because they can no longer sell to investors and collect fat commissions. They may call the investors "stupid," but the investors are smart enough to stop paying these so-called "experts."

I'm really starting to pull this information together. Last month I posted an article showing how this lethal arrangement between Boomers and Gen-Xers worked. If you haven't read it yet, then you should -- it's mind-blowing. I'll have a lot more to say about this subject soon.

The point is that a lot of people have committed crimes, and they're going to well-deserved jail.

What's a "structured investment vehicle (SIV)"

This is one of the gimmicks that the financial geniuses created. Their objectives were to collect huge commissions for themselves, while defrauding the general public with securities that they knew had to become almost worthless. The SIV is part of that.

When banks issue these CDOs, they aren't issued by the bank itself. Instead, the bank creates a new "virtual" bank called a "structured investment vehicle." All the "financial magic" is done within the SIV, so that if something goes wrong, then the original bank had nothing to do with it. That's called "keeping structured securities off the balance sheet" of the original bank, a phrase you see often in the press.

However, the same people are involved in both the original bank and the SIV, and so they still PERSONALLY collect the same huge commissions, often in the millions of dollars.

The Calculated Risk blog gave a concise explanation of how SIVs work recently, and it's worth repeating here:

"To understand these stories, it helps to understand the structure of an SIV (Structured Investment Vehicle). (see SIV Accounting for more)

First an SIV has investors - like hedge funds or wealthy individuals - who invest say $1 Billion in the SIV (the equity). Then the SIV issues commercial paper (CP) and medium-term notes (MTN) that pay slightly higher rates than similar duration paper. The typical SIV, according to Fitch, uses 14 times leverage, so in our example the SIV would sell CP and MTN for $14 Billion.

Now the SIV invests this $15 Billion ($1 Billion equity and $14 Billion borrowed) in longer term notes. The idea is simple: borrow short, lend long, hedge the interest rate and credit risks - and the profits flow to the investors in the SIV.

Back to the story: what happens when the CP comes due and no one wants to buy any more? To cover the CP, the SIV might have to sell the longer term assets at a steep discount, and this would trigger a liquidation of the entire SIV. To prevent this "fire sale", the sponsoring banks stepped up and provided the financing to cover the expiring CP."

And just so we know who we're talking about here: When it says "the SIV has investors - like hedge funds or wealthy individuals" -- that's a little misleading. Because the investors also include ordinary people's pension funds and so forth. I don't think that the people of Florida would consider themselves "wealthy individuals," now that their investment pool contains SIV funds that have to be written down.

The last paragraph above is the reason why banks have been forced to "write down" SIV funds: no one wants to buy the commercial paper any more, once the Bear Stearns hedge funds collapsed in July. And they've been desperately using every trick that they could play to keep the fraud going by avoiding the "fire sale" mentioned above as long as possible.

What part do ratings agencies play?

The three ratings agencies -- Standard & Poor's, Moody's Investors Service and Fitch Ratings -- colluded with the banks to defraud the public, as Bloomberg news accused on June 30.

While the bankers were taking fat commissions for themselves, they were also making fat payments to the ratings agencies to provide AAA ratings on the CDOs in the SIVs. This was an essential part of the scheme.

Take, for example, the Florida investment pool that we've been talking about. The people who ran that pool didn't know which securities were good and which were questionable. They just depended on the ratings from the ratings agencies. And one of their internal rules (I assume) is that the pool could invest ONLY in AAA securities.

So if the bank managers pay the ratings agencies to provide AAA ratings on the questionable securities in the SIVs, then Florida and anyone else could invest in them, without even asking any questions. The bankers would get their fat commissions, the ratings agencies would get their fat fees, and the investors would get screwed.

Now, we all know what the bankers and ratings agencies are saying and going to say. "We thought they'd be OK. We were just following the rules. We didn't know that these problems would arise."

So let me make something clear. I've been studying these for several months now, and there is NO CHANCE WHATSOVER that these people didn't know what they were doing.

Sure, maybe the first few deals really were OK. But as time went on, and the rules were bent more and more, there could have been NO DOUBT in the minds of these bankers and ratings agencies that were defrauding the public.

In a recent article, I quoted a March 22, 2007, statement from a Fitch expert, wherein he explained their ratings model. Now, if you want to say that they didn't know what they were doing in 2002, then fine. In 2003? Fine. In 2004, 2005, 2006? Fine. But there is no way in hell they didn't know what they were doing on March 22, 2007. By this time, there can be no doubt that it was absolute fraud.

After Bloomberg accused the ratings agencies of fraud on June 30, they knew they had to change. Since then, they've been re-rating many of the SIV securities, sometimes lowering their ratings as many as 10 or 20 levels lower than the original AAA rating. That's what happened to many of the securities that the Florida investment pool had invested in, and that's why they're currently facing a financial crisis.

Imagine how much better off we'd be if the ratings agencies had correctly rated these securities in the first place. Then innocent victims like the Florida pool would not have invested in them. How much better off we'd be today! But then the bankers and the ratings agencies wouldn't have gotten their fat commissions and fees. Hopefully, they'll have time in jail to think about what they might have done differently. (This question and answer added on 6-Dec.)

What do bubbles have to do with this?

Let's take a break.

Here's a video from a 1957 "Nat King Cole" tv show, featuring a group called the "Merry Macs" singing "I'm Forever Blowing Bubbles":

OK, back to work.

This debauched and depraved use of credit created a huge amount of liquidity that poured into various investment vehicles.

The stock market bubble actually began in 1995 with the dot-com bubble. It began to deflate after the 2000 Nasdaq crash, but it started expanding again in 2002, thanks to the creation of credit.

The money that poured into the real estate market created a real estate bubble. That bubble started to deflate late in 2005.

It also created a commodities bubble, with prices of everything from wheat to oil to copper skyrocketing.

The biggest bubble of all was the credit bubble. That bubble started to serious deflate in August with the "credit crunch."

Now, as all these bubbles are deflating, and the amount of money in the world is decreasing day by day, we're headed for a major worldwide financial crisis.

Can't the government do something to fix it?

Governments and central bankers around the world are ready to try a million different things to "fix" it. There was the M-LEC debacle. There's the new proposal to somehow bail out homeowners. There's talk about bailing out the Florida investment pool we mentioned earlier.

With the amount of money in the world decreasing, more and more people and institutions are becoming exposed. Every time some important institution becomes exposed, government officials run around trying to figure out a scheme to save it. However, the problems are occurring faster and faster, too fast for government officials to keep up.

What happened to Japan in the 1990s?

A web site reader wrote to me:

"Instead of a great depression scenario, I think its more realistic to expect something like the Japanese 90's. They had deflation, 80% decline in their major index which took 14 years, and a major housing bubble bust. I think we could get away with a less severe decline (50%?) but I expect a lot of similarities and it will probably take as long to unwind (well at least 10 years anyway)."

The comparison to Japan in the 1990s is perceptive, since that was a regional generational panic and crash for Japan, just like 1929 and what we're facing today. Japan's previous major stock market crash was in 1919.

So you have: Wall Street: Crash in 1929, new bubble in 1995, 66 years later; Tokyo Stock Exchange: Crash in 1919, new bubble in 1984, 65 years later. See this article.

The Nikkei fell from 40,000 to 8,000 -- an 80% collapse before it was over. A similar result can be expected for Wall Street.

There wasn't massive homelessness and starvation in Japan in the 1990s, which would be expected from an 80% stock market crash. I believe that the reason that Japan escaped this is because they were still able to receive support from the economic bubbles in the U.S. and China. A regional crash is not as severe as an international crash, which is what we're expecting today.

Will we see a stagflation, a recession or a depression?

It will be an era of severe depression, worse than the 1930s, with massive unemployment, bankruptcies, homelessness and starvation.

Can something like "circuit breakers" prevent a panic?

"Circuit breakers" are used by the stock markets to try to control a panic. If the market loses, say 15% in one day, then the market closes for a few hours, to let people catch their breath.

Unfortunately, circuit breakers are useless.

A generational crash is an elemental force of nature, like a tsunami.

There will be millions or even tens of millions of Boomers and Generation-Xers in countries around the world, never having seen anything like this before, and not having believed it was even possible, suddenly in a state of total mass panic, trying to sell all at once.

Computer systems will crash or will be clogged for hours, or perhaps even for a day or two. People who had hoped to get out just as the collapse is occurring will be totally screwed, and will lose everything. Brokers and other institutions will go bankrupt. People who went short hoping to make a fortune will find that their brokers' escrow accounts are gone, and they'll be totally screwed, and will lose everything.

Being in the market today, either short or long, is a very high risk proposition.

Has anything like this ever happened before?

What's happening today is identical in many ways to what happened prior to the 1929 stock market crash.

American Prospect's Robert Kuttner recently testified before the Congressional House Committee on Financial Services. He summarized similarities between "the systemic risks of the 1920s and many of the modern practices" as follows: excessive leveraging, misrepresentation, insider conflicts of interest, non-transparency, and the triumph of engineered euphoria over evidence.

The people who lived through the 1929 stock market crash and the 1930s Great Depression learned their bitter lessons about the debauched use of credit. Here's what one web site reader wrote to me:

"My father immigrated to the U.S. from Germany in the 20s and experienced the great depression in Pennsylvania. When I was a teenager, he told me his generation would not cause another depression because of what they experienced in the 30s. My father would not borrow money - only purchased in cash. Just before his death in 1962, he commented that the current generation was making mistakes his generation had made, and another depression was inevitable. What would he have said observing uncontrolled growth of financial derivatives, and our massive, ever increasing, unrepayable national debt? Having experienced hyper-inflation in Germany, believe he would have said our national debt would be repaid in drastically cheaper dollars."

So what happened leading to the 1929 crash is exactly what's happening today. In fact, the same thing happens every 70-90 years or so. When a generational crash occurs, it traumatizes everyone who lives through it. After that, everything's OK, because once traumatized, people don't abuse credit again.

But when the people who lived through the previous financial crisis have all disappeared (retired or died), all at once, then younger generations use "financial magic" to create money in the same way, by turning credit into worthless securities. That financial magic is called "securitization of credit," and it happens each time, just prior to a new generational financial crisis.

Since the 1600s, there have been five occasions when major worldwide financial crises have occurred, and they all used securitization of credit:

• The 1637 Tulipomania bubble was based on a market in tulip futures, securitized with personal credit notes.
• The 1721 South Sea Bubble was securitized by shares of the South Sea company, a company operating in South America.
• The 1789-1795 bankruptcy of the French monarchy was securitized by "assignats," bills of credit based on lands confiscated from the clergy.
• The Panic of 1857 was securitized by railway shares.
• The 1929 Wall Street crash was securitized by stock shares, and by bonds from well over 100 foreign countries. This is described in "The bubble that broke the world."
• Today of course we're securitizing credit by turning subprime mortgages and other questionable credit into credit derivatives and CDOs.

We're now overdue for the next generational crash. It could happen tomorrow, next week, next month or next year, but it's coming soon.

Can I make money shorting Google?

I actually wrote about Google in a recent article. With a price/earnings ratio of about 60, it's way overpriced -- much more so than the rest of the market which is also way overpriced. When all is said and done, its stock price will probably fall to 5-10% of its current value.

However, that doesn't necessarily mean you can make money shorting the stock. The problem is that a lot of brokers and other people will go bankrupt, and a lot of escrow accounts will simply vanish, so when it comes time to collect your money, your counterparty may be unable to pay (or may have committed suicide).

Isn't there some way to make money from this information?

All that Generational Dynamics can tell you is what the trends are. Whether you could make money selling Google short depends on a number of chaotic factors that can't be predicted. I can think of scenarios where you'll make a lot of money, and I can think of scenarios where you'll lose everything. A lot on what happens will depend on timing factors that can't be predicted.

Almost everyone in the market is going to lose a lot of money. If you put your money into Treasuries or into your mattress, then you won't lose anything, and so you'll make a ton of money compared to everyone else. Think of it that way.

How do we protect the money we have?

I recommend staying out the market and out of every investment vehicle except cash and US Treasuries.

A web site reader sent me a pointer to an article on Where to put your money - 5 steps to safety. It's a good read.

Some people talk about investing in gold. Don't do that unless you have plenty of cash around and you want to speculate a bit with what's left over. I can think of scenarios where you'll make money with gold, and I can think of scenarios where you'll lose money.

On the other hand, gold is probably safer than the stock market. However, if you invest in gold, make sure that you take actual delivery of actual gold coins or bars. Don't bother with gold-backed securities or some such, because they may turn out to be just as worthless as CDOs.

Should I grow food so that I can survive in an emergency?

The problem with growing food in a garden is that starving neighbors will steal it. You should stock up on canned and dried food, as well as water, medicines, batteries, etc.

A web site reader sent me a pointer to an article on Survival on a Budget. That might help.

A web site reader wrote to me:

"I've been recently introduced to your website through my son who is a Political Science major at OSU. Right now he's at Marine Officer Training (so scary for the mom) so I can't ask him anything but I was wondering is there a book or advice on the web about handling the looming crisis. I'm a school teacher with limited economic resources and it sounds like I should be preparing for the harsh financial climate possibly awaiting us in upcoming months. Any suggestions would really be appreciated. Your work is so fascinating and brilliant; thanks so much for having the courage to share it with the public."

It's so nice to get a compliment like that.

Unfortunately, I don't know of any other web site even remotely like this one, or any book that covers this material except mine. People in the Boomer generation and Generation-X have a real mental block against even thinking about this stuff, so they shut it out and make up fantasies.

How can you be so sure that the stock market will crash?

Well actually I've been predicting a crash since 2002, based on the fact that the market is way overpriced by historical standards, and that hasn't changed at all. In 2002 I said it would probably happen in the 2006-2007 time frame, and today that estimate doesn't seem very far off.

One of the standards is price/earnings ratios, and here's the current graph, from my recent article "How to compute the 'real value' of the stock market":

S&P 500 Price/Earnings Ratio (P/E1) 1871 to August 2007

Anyone looking at this graph can see that the price/earnings index is poised to fall to well below 10, and when it does, the market will fall to the Dow 4000 range, or below.

As my article showed, the stock market today has a "real value" of about Dow 5000, meaning that it's overpriced by a factor of around 250% -- same as in 1929. That's a huge bubble, and it MUST burst. That's how one can be sure a crash MUST occur. Central banks can defy the laws of gravity for a while, but when it comes to bubbles, there's no way to avoid the rule that I learned when I was watching cartoons on television as a child: What goes up must come down. (6-Dec-07) Permanent Link
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Europe is a country, isn't it?

On a recent quiz show, former American Idol finalist Kellie Pickler was competing against a 5th grader, and was asked the question, "Budapest is the capital of what European country?"

Here is what happened:

Are You Smarter Than a 5th Grader?

By the way, here's a picture of Kellie from her web site:

Kellie Pickler

(5-Dec-07) Permanent Link
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Vladimir Putin's party wins Russian Parliamentary election by a landslide

How does Putin's "cult of personality" work?

Election results (Source: WSJ)

The phrase "cult of personality" is being applied to Vladimir Putin today after the party he leads won a landslide victory in Parliamentary elections.

Russian President Vladimir Putin comes out to meet the enthusiastic crowds after his party's victory (Source: CNN)

The election appears to have been widely corrupted. The television airwaves were flooded with political ads for Putin's party, United Russia, but no opposition parties were permitted to advertise at all. Opposition parties were harassed, and there was no international monitoring during the actual vote.

In Chechnya, where Putin waged war against the people for a few years, the vote was 99.3% in favor of Putin's United Russia party. And so, it seems likely that Putin controlled this election.

There are few people who doubt that, one way or another, Putin is going to retain absolute power after his term as President expires early next year.

Putin is not eligible to run for President again under the Russian Constitution, and he's previously promised not to try to amend the Constitution so that he can run again.

It's been the subject of widespread speculation for a couple of years how Putin would manage to stay in power, assuming he kept his promise.

We can now see several possible scenarios:

• He'll have total control of the Parliament after today, so he can freely back off from his promise not to amend the Constitution.
• He can resign as President, and take a new position as Prime Minister. He could attain this position through his party's Parliamentary victory today.
• He can resign as President, become Prime Minister, and then run for President again in the spring, since he would (as I've been given to understand) be permitted to run for President again under the Constitution, since the terms would no longer be consecutive.

Crowds of young people spontaneously celebrate Putin's victory (Source: BBC)

One thing that everyone seems to agree on is that it doesn't really make any difference which of these scenarios Putin chooses, since Putin is so popular with the Russian people that they want him to retain power by whatever means he desires.

Related Articles Yukos Yukos nationalization may set the pattern for Russia in 2005: There was more high comedy last week, as the Kremlin completed the nationalization... (29-Dec-04) Now we know - Baikal is a neighborhood liquor store: High comedy continued on Monday, as Russian officials stonewalled... (20-Dec-04) After a week of high comedy, who the heck is Baikal?: Baikal Finance Group, an unknown company with unknown backers, is the new owner of Yukos'... (19-Dec-04) Ukraine headed for a confrontation with Putin : Ukraine is headed for trouble as it moves to reverse the 20-Nov Presidential election. (28-Nov-2004) Yukos still very close to bankruptcy as oil tops $47 per barrel: The U.S. State Department is expressing concern about the fate of Yukos.... (18-Aug-04) Kremlin backs down and hires Dresdner to evaluate Yukos subsidiary: Russia's ping-pong nationalization of Yukos appears to have ponged back in the direction of sanity,... (13-Aug-04) Yukos is now fit only for vultures, as rumors of insider trading fly: Concerns about Russian and Iraqi oil output are spiking international oil prices to new highs,... (10-Aug-04) Incredible! The Kremlin has frozen Yukos' assets again, sending international oil prices to yet another record high: Putin's herky-jerky policy may signal a serious split in Kremlin leadership.... (5-Aug-04) Kremlin appears to be backing down on nationalizing Yukos: Russia's Justice Ministry gave Yukos more time to pay its back taxes,... (2-Aug-04) Yukos freeze order rescinded after worldwide oil prices soar to all time high.: The Kremlin's ham-handed treatment of Yukos brings memories of its Communist days,... (29-Jul-04) Kremlin orders Yukos to stop selling oil.: Oil prices spiking today to $42 per barrel as the worst possible scenario unfolds in Russia.... (28-Jul-04) Yukos: Bankruptcy is near: The Kremlin is stonewalling Yukos and preparing to nationalize its major asset... (22-Jul-04) I wish we knew more about Putin's plans for Yukos: The gathering crisis for Russia's oil giant Yukos threatens both Russia's economic stability and world oil prices.... (6-Jul-04)

Long time web site readers may recall that back in 2004 I followed the situation with Yukos pretty closely.

In 2003, Yukos supplied 11.4% of all the oil in the whole world. By the end of 2004, Yukos was defunct.

At the beginning of 2004, Putin was denying that he had any evil intentions toward Yukos. Putin began by jailing Yukos CEO Mikhail Khodorkovsky on trumped-up political charges. (He's still in jail, incidentally.) By the end of the year, Yukos had been dismantled and nationalized by means of the vilest series of steps imaginable.

At the beginning of 2004, I was wondering what Putin had in mind. By the end of the year, it was obvious that Putin had lied about his intentions, and that he was willing to use any means available to him to get what he wants, while still retaining personal deniability.

At the beginning of the year, I was wondering if Putin was trying to emulate Nicolai Lenin (Vladimir Ilyich Ulyanov), and I quoted this 1922 memo to the Politburo on the destruction of the Russian Orthodox Church in order to harvest the Church's wealth:

"We must pursue the removal of church property by any means necessary in order to secure for ourselves a fund of several hundred million gold rubles (do not forget the immense wealth of some monasteries and lauras). Without this fund any government work in general, any economic build-up in particular, and any upholding of soviet principles in Genoa especially is completely unthinkable. In order to get our hands on this fund of several hundred million gold rubles (and perhaps even several hundred billion), we must do whatever is necessary. But to do this successfully is possible only now. All considerations indicate that later on we will fail to do this, for no other time, besides that of desperate famine, will give us such a mood among the general mass of peasants that would ensure us the sympathy of this group, or, at least, would ensure us the neutralization of this group in the sense that victory in the struggle for the removal of church property unquestionably and completely will be on our side."

By the end of the year, it was obvious that Putin was much more politically subtle than Lenin, but just as ruthless.

During the entire Soviet era, the Communist leaders were free to take anything they wanted and keep it for themselves. The "reason" is that there's "no private property" under Communism, which is the excuse that Communist leaders used to justify taking what they want. This had been the entire Russian culture since the 1920s.

After Putin used extortion and fraud to take Yukos in 2004, Putin has also managed to extort the Sakhalin Island project from Royal Dutch Shell in 2006, as well as an ExxonMobil project, and a BP project in the Kovykta gas field in 2007.

Various political enemies have been knocked off mysteriously -- murdered or jailed. Sunday's election appears to be the same -- Putin ran the whole show. The same thing happens over and over again: Putin's enemies die, and Putin takes what he wants. It always ends up the same way, even thought there's never any ironclad proof, and Putin always has deniability.

The question that I'm asking is how these two things are related:

Putin's steel-hard determination to take anything he wants

The cult-like adoration that the Russian people feel for Putin.

The adoration for Putin very much has a generational feel to it, as Russia goes deeper into a generational Crisis era.

There are only two other leaders that I can think of that have generated similar adoration: FDR and Hitler.

Now, I'm NOT saying that FDR was as ruthless as Putin or Hitler, and I'm not saying that Putin is (yet) as ruthless as Hitler (or Lenin).

In fact, the point is that the three of them are so different, but generate what appears to be the same strong cult-like adoration from a large part of the population that they want them to stay unconditionally in power, even if extraordinary means are required. Hitler was enormously popular in Germany, and Roosevelt was so popular in the US that he was the only President to be elected for more than two terms, even when he was near death.

By contrast, George Bush doesn't generate that kind of loyalty today, and Winston Churchill didn't generate that kind of loyalty until WW II actually began.

There is one major thing that all three appear to have in common: In all three cases, they came to power at the time of a major financial crisis. Putin is viewed as saving the Russian economy after Yeltsin destroyed it in the 1990s, Roosevelt is viewed as having saved the American economy after three years of economic collapse, and Hitler was viewed as saving the German economy after massive bank failures occurred in 1931.

An additional possibility is that they may be examples of the "Hero/Prophet" relationship that develops as a country goes deeper into a generational Crisis era. As I wrote last year, analyzing the July 7, 2005, London subway bombings, many of Britain's young Muslims have set up a "Hero/Prophet" relationship with the radical clerics in Pakistan. It's possible that the young people of Russia have "selected" Putin as their choice for the person in the generational "Prophet" archetype to lead them through the Crisis era.

As we approach the Clash of Civilizations world war, we have no way of knowing who will lead America through this war, and the same is true for Britain, China, and many other countries. But it appears that we have a pretty good idea who will lead Russia through the Clash of Civilizations world war: Russia's current President, Vladimir Vladimirovich Putin. (4-Dec-07) Permanent Link
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Dept. of Treasury proposes national mortgage bailout as losses become more widespread

Florida state and local governments are in financial crisis this weekend, after Gov. Charlie Crist halted further withdrawals from the state-run muncipal investment pool.

Local governments had made panicked withdrawals of $13.5 billion in the past two weeks, leaving only $15 billion remaining. The panic was triggered by recent news that some of the fund's investments were tainted by the subprime mortgage crisis, and were being downgraded by the ratings agencies.

School districts, counties and cities across the state are scrambling this weekend to take out short-term loans to cover payroll for teachers and other employees. "The unthinkable and the unimaginable have just happened here in Florida," said the CFO of one school district.

The largest investor in the frozen fund is Citizens Property Insurance Corp., with $2 billion. Citizens was set up in 2002 to provide property insurance to Florida citizens after several insurance companies had pulled out of Florida in the wake of several hurricanes.

Gov. Crist is seeking the services of outside financial advisors over the weekend, hoping to resolve the situation and permit emergency withdrawals by Tuesday.

Florida is not unique in having these investment pools. Like many individual investors, muncipal governments do not have the expertise to make the best investments. They rely on investment pools set up by the state or region to manage all investments in the state or region. There are thousands of local districts across the country investing in these pools.

In fact, a similar situation is brewing in Montana, where panicky towns and school districts have withdrawn ¼ of the state's Short Term Investment Pool funds.

These pools are supposed to invest in only the highest rated AAA securities. However, as more and more financial firms are discovering, an AAA rating doesn't necessarily have much value when the securities are risk-laden mortgage-based CDOs that have been created by financial geniuses who found ways to transform high risk mortgage loans into "zero risk" CDO securities.

As the "subprime crisis" continues to spread, politicians and other officials are searching for ways to delay, delay, delay the inevitable.

Last month the big idea, promulgated by the Dept. of Treasury and Citibank, was the mind-boggling Master-Liquidity Enhancement Conduit (M-LEC). Its purpose was to commit fraud by allowing banks to sell worthless CDOs to one another at inflated prices, in order to establish phony "market prices."

Citibank's fraudulent M-LEC idea didn't take off, forcing the bank to take $16.4 billion in writeoffs of worthless CDOs after all. Citibank might have failed completely except that it was saved by an investment by the Abu Dhabi Investment Authority.

Public opinion is changing very rapidly these days. A few months ago, the idea that Arab oil sheiks might own a piece of Citibank would have been met with enormous outrage. But today, Americans are getting so desperate for money from somewhere, anywhere, that there's no outrage to be had.

That's why everybody's looking hopefully toward a brand new boondogle, much, much huger than the M-LEC boondoggle. The M-LEC plan was worked out between the Treasury Dept. and the banks, especially Citibank. (Massive fraud is OK, but only if Treasury says it's OK.)

The new boondoggle is being worked out between the Treasury Dept. and mortgage lending firms. Next week, Treasury Secretary Henry Paulson is expected to announce a plan to "save struggling homeowners" from foreclosure, as adjustable rate mortgages reset. According to leaks, the plan will keep low teaser rates low for an additional period of time.

This is going to be quite a mess if it's tried. First off, a lot of the "struggling homeowners" facing foreclosure don't have adjustable rate mortgages (ARMs). They have regular Prime or Alt-A mortgages, but they lied about their income to get them. In many cases, they planned to "flip" the house, but falling real estate prices have ended that idea.

Second, many of the mortgages were for 100% of the purchase price, and with falling real estate prices, the mortgage loans now exceed the value of the house, sometimes substantially. As CNBC's financial pundit Jim Cramer ranted in July, if your home is worth less than your mortgage loan, and you're struggling to make payments, then you might as well walk away from it.

Third, there's a big complication that comes from the financial engineering that the geniuses set up. Remember that the company that made the mortgage loan no longer holds the mortgage. The mortgage debt was sliced and diced into collateralized debt obligations (CDOs). So your Aunt Mabel's mortgage loan is really being held by other investors. If mortgage rates don't reset to higher rates, then mortgage payments will be lower than the financial geniuses predicted, and the investors will have the right to take legal action.

By coincidence, the BBC's Business Daily radio show just had a commentary on another bailout -- the bailout of African countries that couldn't pay their debts.

Long time readers of this web site will recall that in 2005, the "wealthy nations" made a decision at the G-8 meeting to cancel Africa's debts. The politicians were very self-congratulatory at this "historic" gesture, even though the whole thing was a joke.

Well now comes this commentary by the BBC's regular Kenyan commentator, Wycliffe Muga (MP3/Podcast file), saying that the Kenyans aren't very happy with the situation that's unfolded:

"A few weeks ago, I spoke about the grassland ecosystem that ranges from the Serengeti National Park in Tanzania to the Masai Mara game preserve in Kenya, which is famous for the annual wildebeest migrations, and I explained how the superior infrastructure on the Kenyan side of the border insured that Kenya, which is already better off than Tanzania, earned far more [[from tourists]] from this jointly owned resource than Tanzania.

But there are situations in which a poor country will benefit in a way that a slightly better off neighbor cannot. Take for example, the Highly Indebted Poor Countries Initiative of the World Bank and the IMF. Under this arrangement, the debts of 38 poorest countries in the world, most of them in sub-Saharan Africa, were substantially written off by the lending institutions. There were conditions attached to this, but it was a massive debt writeoff, all the same.

In East Africa, Tanzania and Uganda qualified for the debt relief, but Kenya did not.

Now, you would think that Kenyans would regard this as a compliment. After all, it cannot be a matter of national pride that your country is identified as highly indebted and poor.

But that is not how many Kenyans saw it. Both political leaders, and ordinary people, were prompt in expressing their outrage at the fact that Kenya had been left out of this beneficial program.

The argument raised was that Kenya was being punished for having been diligent in paying its debts, and for struggling to live within its means, while neighboring countries, which had recklessly piled up loans beyond their capacity to repay, were now being rewarded for their folly.

The more enterprising commentators took it a step farther, and presented convincing approximations on how many classrooms or clinics, how many kilometers of paved roads, and how many additional schoolteachers and nurses the government of Kenya would be able to employ if it could convert the money currently used on annual debt repayment to providing services to its people.

And this line of argument invariably concluded with a demand that Kenya should immediately be placed on that list of poorest nations, so that it too could benefit from the Debt Cancellation Program.

So whereas in tourism it pays to have some money if you are to create the infrastructure needed for exploiting a game park, when it comes to the global programs, run by the World Bank and the IMF, it's being poor and heavily indebted that will really get you a slice of the cake."

And so, Kenyans are unhappy because they're not being bailed out like the Tanzanians and the Ugandans were.

That's probably going to be the fatal flaw in this new program to bail out "struggling homeowners" facing foreclosure.

Someone who responsibly made all his mortgage payments and even planned ahead for the ARM interest reset is going to get no help at all, while his next door neighbor, who lied about his income and doesn't even care whether he's foreclosed or not is going to get huge amounts of help.

That's the "moral hazard" argument that applies to all of these situations. People are high and mighty when they say, "You made your bed, now lie in it." Or, as the Kenyans say, "Why are those other countries being rewarded for the recklessness?"

But when Americans become sufficiently desperate, then this concern about moral hazard, rewarding people for being reckless, goes out the window, just like the outrage over Arab ownership of Citibank has gone out the window. (1-Dec-07) Permanent Link
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