The End of the Empire

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It can take years…or it can happen in a matter of hours. One way or another, the bright blue skies have to give way to the dark, terrifying night.

…We felt it for a moment yesterday.

"Did you hear the news?" asked our Irish companion. "They’ve closed all the airports in London. Several bombs have been discovered on planes…that’s all I’ve heard…I don’t think anyone knows what is going on yet… But they’ve banned all liquids…and you can’t even use a laptop anymore."

A chill air blew across the back porch, where we were having lunch. What if the airports didn’t reopen? What if the terrorists really could bring air traffic to a stop…not just for a few hours, but for a few days…or more?

Or what if they were able to cripple the Internet, rather than air transportation? Either way, commerce as we know it would come to a halt. Stocks would collapse. The economy would plummet…

When we think about it…we marvel at how easy it seems to be to bring down a commercial jetliner. That bottle of wine we carried back from Vancouver, for instance. It might just as easily have been a bottle of gasoline. High-octane. With a screw top. It would have taken only a few seconds to turn it into a Molotov cocktail.

On the other hand, surely, suicide terrorists must have already thought about it. Either there aren’t as many of them as we think…or they have other plans on their minds.

Anyway, we don’t need to wait for terrorists to bring the economy to a grinding halt. A stock market crash would do that just as well…followed by deflation. That is how it happened the last time there was deflation in America — in the 1930s. Could it happen again? No one seems to think so. Yet we watch the wobble of the Dow…and think about all those millions of shareholders who must be getting a little tired of holding stocks "for the long run," wondering if the long run will last longer than they will. It has been eight years with no growth whatsoever in stock prices. As for the Nasdaq…don’t even mention it… All investors have gotten for their pains is a puny, pathetic dividend yield of less than 2%. After taxes and inflation, they’re losing money.

So what would it take to bring the Dow down sharply? What would it take to turn sentiment negative? What would it take to turn blue skies dark? Probably not too much is our guess.

What is an investor to make of all this? Take the sentiment out; examine the picture coldly. Stocks are still near their highs…not their lows. They are still expensive…not bargains. What could he hope to gain from them? Dividend yields do not even match inflation. In order to make him any money, his stocks would have to go up in price. But what would possibly make them go up at this point? Higher earnings? Lower interest rates?

As to the second, if rates go down again this time around, they will more likely be signaling a wilting economy, rather than a growing one. Stocks could, of course, go higher even if the economy slumps, but when stocks are already so high, we wouldn’t bet on it.

As to higher earnings, a note in today’s mail shed a sobering light on the ground that is being lost:

"In many ways, the last few years should have been a golden era for American manufacturers. Since 1997, the productivity of U.S. factories has soared, rising at a 4.6% annual average rate. That’s the fastest sustained rise in manufacturing productivity in at least 40 years, and well ahead of the 1960s heyday of U.S. industrial prowess.

"Yet despite these gains, the U.S. factory sector all but imploded. Domestic factory output is still down 2% from its 2000 peak, while imported goods are up 8%. Some 3 million factory jobs — one in every six — have been lost since the last peak in mid-2000. And while the manufacturing sector is finally expanding and hiring again — up 37,000 jobs since January — no one expects domestic manufacturers to ever recover the ground lost to overseas competitors.

"Economists, business leaders, and politicians give all sorts of reasons for the dire state of U.S. manufacturing: Competition from low-wage offshore factories, an excessively strong U.S. dollar, high corporate taxes, and the rising bill for employee and retiree benefits.

"But there’s a more surprising explanation for why U.S. manufacturers have fared so poorly. Fact is, as fast as American factories have improved productivity and cut costs, foreign competitors in Asia and Europe have charged ahead even faster."

To this jeremiad, we add an illustration from the Financial Times: Since October 2000, the dollar has lost 35% of its value against the euro. The decline ought to have handed American exporters a golden opportunity to increase sales in the eurozone and bring down the trade deficit with the area. But the U.S.-Europe trade deficit actually went up during the period — it doubled.

What do we make of this?

Lesson one: It will take more than a decline of the dollar to revive manufacturing in the U.S. and balance trade. It will take a genuine change in sentiment that makes Americans reluctant to buy anything, including things made overseas. And that will take a serious recession…

Lesson two: An investor has more to lose than gain by diving into U.S. stocks now. There is little hope of much upside…and the downside is vast.

Little by little — or all of a sudden — sentiment is going to change toward the downside. We see it already. House prices are no longer rising…in some areas, they have begun falling. Stocks have gone nowhere for a very long time…certainly not up. America’s military adventures are bogging down. Commuters are running out of gas. Consumers are running out of money. Energy and commodity prices are still rising, showing little signs of coming down.

The Empire is peaking out…it is going broke…

…little by little — or all of a sudden — sentiment among its subjects is bound to go a little sour…

Bill Bonner [send him mail] is the author, with Addison Wiggin, of Financial Reckoning Day: Surviving the Soft Depression of The 21st Century and Empire of Debt: The Rise Of An Epic Financial Crisis.

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