Keep your eyes open!...

Hoofbeats of the Black Horseman

(Rev 6:5) When the Lamb opened the third seal, I heard the third living creature say, "Come!" I looked, and there before me was a black horse! Its rider was holding a pair of scales in his hand.

(Rev 6:6) Then I heard what sounded like a voice among the four living creatures, saying, "A quart of wheat for a day's wages, and three quarts of barley for a day's wages, and do not damage the oil and the wine!"

Click here for latest economic news update or scroll down for more extensive review

The following article was forwarded by Yossi Regev:

        The Crash of 1998 and The Jewish People

In a July 1994 interview with the Star Tribune, Federal Reserve Chairman
Allan Greenspan said the following with regard to the October 1987 crash:

"We were closer to a monetary collapse than we would like to believe... We
would have had all of these crazy horrible events that none of us thinks
can happen until we see them. We would get into the types of problems
that historic monetary collapses always create. We are far from that at
this stage but I suspect a lot nearer than we would like to believe."

What exactly are these "crazy horrible events" alluded to by Chairman
Greenspan and how far are we from them in January 1998?  In the following
article we intend to evaluate the current state of the global financial
and monetary system from as a detached view as possible in order to
ascertain how far we really are from a "historic monetary collapse".

While we recognize there are differences, as Mark Twain put it history may
not repeat itself, but it does rhyme". From such an historical
perspective, the risk of a global financial meltdown would appear to be
greater today than at any time in modern financial history.  Perhaps more
frightening than this risk are certain unique aspects of both, the current
unipolar International Political System, and the state of today’s capital
markets, which have the potential to dramatically exacerbate the "crazy,
horrible" social and political fallout, alluded to by Chairman Greenspan.

The focus of our analysis will be centered on the US. This US centered
approach is, we believe justified, as the US is much more than the
preeminent global economic power. US economic power is reinforced by the
ideological clout it carries. Since the emergence of the US as the
"victor" in the Cold War, America and particularly its economic system has
become the model aspired to by virtually the entire world. Communism as an
economic system is bankrupt. Free markets and capitalism have won out.
Growth is now the over-arching goal. Capitalism is the underlying
structure albeit at times reined in by certain welfare principles while
technology is the high octane fuel spurring ever more rapid growth with
low inflation.  First Japan and Western Europe and more recently the Asian
and Latin tigers along Eastern Europe were perfect examples of this US
inspired approach.

The significance of the near deification of the American system has
created a situation where the world is much too complacent and
overconfident in its sustainability. We are ignoring all the danger signs
and we are failing to implement the necessary corrective measures and
consequently we are exacerbating and deepening the problem. Moreover, with
regard to the issue of greatest concern to our readers the potential
"crazy, horrible and ugly" political and social fallout from a monetary
collapse - the excess ideological baggage and expectations attached to the
current US dominated and inspired system can only serve to exacerbate the
sense of despair and frustration in the wake of its collapse.

While Marx was clearly wrong about Communism his critique of Capitalism,
particularly the "crisis of overproduction and concentration of capital"
were right on the mark. As Capitalism marched on triumphantly and
Communism was pronounced dead the Marxian critique was unjustifiably
buried as well.  To what ever extent the structural deficiencies of
Capitalism identified by Marx were given any credit, Keynsian inspired
welfare state solutions were assumed to have put them behind us. While the
welfare state has smoothed over the sharper edges of Capitalism it has not
solved its fundamental structural deficiencies. It should be recalled that
the depression of 1929 ended only after the onset of World War II which
dramatically increased demand as well as absorbing excess Labor. Years
after Roosevelt’s New Deal Reforms the country was still gripped by the
Depression which dragged on until WWII. In the aftermath of the war while
welfare state reforms may have prevented the slide from some post war
recessions into what might otherwise have been full blown depressions
these reforms have not fundamentally altered the inherent structural
weaknesses of Capitalism.  Probably of greater significance than the
Keynsian inspired reforms in putting off the crisis of Capitalism were a
number of unique historical developments. First we had the Marshall plan
and the rebuilding of Europe which absorbed excess US capital and
productive capacity.  Then we had the military buildup, the Korean War and
the rearming of Europe as we fought the Cold War.  The Vietnam war and the
arms race no doubt played a role in staving off the consequences of the
tendency toward overproduction and inadequate demand.

 The dramatic rise in the price of oil in 1974 and 1979 and the consequent
redistribution of wealth and recycling of petrodollars into the massive
development and arming of Middle Eastern and Latin American states played
its role in the balancing act. After Europe and Japan were rebuilt and
began competing seriously with the US for markets and the oil boon had run
its course it was only a matter of time before the bipolar world structure
of two competing blocs lost its functional value for the US.

 As the Iron Curtain came down new markets for our capital and outlets for
our excess capacity opened up, pushing off once again the day of
reckoning. Only 7 years later the US, Japan and West Europeans have run
out of rope. China, Eastern Europe, Russia and the Asian and Latin Tigers
rather than continuing to absorb our excess capacity are faced with their
own severe crisis of overcapacity. We have reached the end of the line.
Our powerful capitalist locomotive is approaching the cliff at 200 miles
per hour but no one seems to see the fall ahead of us. For the sake of
brevity we are obviously oversimplifying here but the point is we believe
substantively correct.

In recent months we have witnessed frightening competitive currency
depreciation's throughout Asia, 60% plus declines in most Asian stock
markets, the near daily collapse of one Asian financial institution after
another, severe worldwide deflationary pressures in key economic sectors
and daily profit warnings from US multinationals as a result of these
deflationary pressures. Despite short term negative reactions in the US
market to these adverse developments, the news is quickly shrugged off as
US investors in an almost Pavlovian like response jump in to buy every
dip. Meanwhile the Federal Reserve is still looking over its shoulder for
the enemy of the last war - inflation - as the global economy is heading
into a massive deflationary pit.

If Roosevelt's New Deal proved inadequate to pull us out of the 1929
depression it is difficult to see how the current welfare state system can
stave off the coming broader global crash let alone pull us out of the
mess. But we are getting ahead of our story. Before we can appreciate the
vulnerability of the capital and financial markets, we need to place it,
in the proper historical perspective.

The Great Depression which began with the Market crash of October 19, 1929
was the single most important development in conditioning market
psychology in the 20th century. The sheer magnitude and depth of pain it
inflicted for so many years made indelible marks on those who lived
through it as well as those who learned of it second hand. Many began to
doubt the very viability of Capitalism. The euphoria that existed
immediately prior to the crash and level of confidence in the markets
would not be restored for many years. At some level the very fact that the
crash occurred at all would serve throughout the century as a barrier to
investors and potential spark for their fears. It took until 1954 for the
Dow to regain its pre crash highs but the public did not really join the
party until the mid 1960s. By 1968, Wall Street's mood was euphoric albeit
still somewhat tainted by background fears of 1929 and like today,
corrections were seized upon by bullish investors as buying opportunities.
As a result of this positive psychology the market continued to set new
highs approaching the 1000 mark in 1968. Newton Zinder, of E.F. Hutton,
reflecting the bullishness of the times was uneasy, but guardedly
optimistic, and his evaluation sounds eerily familiar: "From the technical
point of view, the market continues to be in overbought territory,
suggesting a period of some consolidation may not be far away". How about
another 1929? "Not a chance," said Zinder. The correction "should be
followed by further upside progress".
(quoted in Barrons, Dec 7, 1997)

"Despite clear signs of economic troubles on the horizon the party
mentality continued.  New issues with high hopes but few assets were
well-received. Mergers and Acquisition activity was raging on Wall Street.
Mutual-fund sales soared, with new ones starting at the rate of one per
week.." By early November, the funds industry was managing more than $51
billion in assets, with $8 billion having come in during the previous
half-year alone. Volume was high on the exchanges, with the NYSE regularly
posting 15-million-share days with increasing volatility. The Jingle is
beginning to take its form.

The euphoric bubble began to burst with the Fed discount rate of Dec 18.
Psychology had quickly shifted. Analysts began speaking of another 1929
style crash. Many of the same analysts so euphoric in November were now
anticipating disaster. There was no crash, and while 1969 was not a great
year it was not a disaster either.

By 1973 the market was setting new highs. It was party time again. Most
analysts had turned bullish and investors began to jump in again. Just as
investor's confidence was restored the markets began a sharp decline
falling 40% in 18 months. This was the worst bear market since the 1930s.
After adjusting for inflation, the entire stock market advance since 1954
had been wiped out. The market quickly recovered in 1976 only to be
followed by another sharp decline 2 years later leaving investors reeling.
By the summer of 1981 with the Dow at 750 poised for what can certainly be
characterized as the greatest bull market in history, analysts, so wildly
bullish in late 1968, were frighteningly pessimistic. Just as extreme
optimism proved to be a sign the party was about to end in 1968, extreme
pessimism in 1980 proved to be a signal that the bear market was ending.
There goes that Jingle again.

Obviously none of this suggests that history has to repeat. Still, the
mood in recent months has been far closer to that of late 1968 than to
1981.  But again we are jumping ahead of ourselves.  In the summer of 1987
with the market at all time highs up nearly 2000 points from its 1981 lows
a sense of euphoria was once again raging on Wall Street. Despite signs of
economic troubles ahead, the market continued to rally. Merger activity
and new offerings were again setting new records.  Speculative fever was
everywhere, public participation was still way bellow what it had been in
the 60s but clearly investors were returning. Stocks and mutual fund
participation as a % of households liquid financial assets had risen from
a low of 7% in 1981 to 34% in September 1987.

Once again the experts were for the most part, wildly bullish. Yet Between
October 16th and October 20th the Dow plunged nearly 900 points a decline
of close to 40% in a matter of days. It was October 1929 all over again,
or so the analysts were telling us.  We were about to embark on a
protracted and very painful bear market.  Once again the analysts proved
wrong as the market quickly stabilized and began to head back up. Those
who panicked and sold would soon regret their decision as they saw their
former holdings quickly recover. By the end of the year the market had
recovered most of its losses.

 This pattern of sharp declines and quick recoveries was the new pattern.
In 1990 with the collapse of the UAL takeover the market again suffered
steep losses only to recover weeks later. Sadaam Hussein made his
contribution to reinforcing this new lesson in the Fall of 1991. Those who
failed to draw the appropriate lesson got burned quickly. In late 1994 the
Mexican Crisis temporarily shook up the market, but that too was a short
lived scare. Rumors of coups in Russia and presidential assassinations
would momentarily disrupt the bulls advance with steep declines. But again
the markets rapidly recovered.

The lessons often painfully drawn after each of these brief selloffs was,
first, Don’t panic, and second, Buy the dip.

 The great bull had momentary shakeouts as certain market leaders
particularly in Technology suffered bad quarters but again the market
would quickly recover. By the summer of 1997 the US stock market was
arguably the most richly valued in history.  On virtually every historical
measure of valuation the market was overvalued while all the classic signs
of a market top appear to be in place.

 The yield on the Dow Jones Industrials in September 1987 just prior to
the '87 crash was 2.6% as opposed to today’s historic low of 1.7%. In
September '87 some analysts were concerned about the Dow selling at a
lofty 2.5x book value. Today analysts do not seem to be at all perturbed
by a Dow selling at over 5.5x book value. Just prior to the '87 crash the
S&P 500 was trading at 20x earnings. Today the S&P 500 trades at over 23x
earnings. The valuation of the stock market in October '87 was the
equivalent of 70% of GDP versus 120% of GDP in October '97.  Public
participation in the markets has reached record highs. In 1987, 25 million
households owned $270 billion in stock mutual funds. At present, 45
million households own $2.4 trillion worth with over 1 trillion coming
into the market in the last 2 years alone. Today, stocks and mutual funds
comprise about 58% of households' liquid financial assets, while in 1987,
the figure was about 35%. Private pension fund exposure to equities is
over 60%, the highest level since just before the big bear market of 1972.
Mutual fund cash levels are at 5%.

In $ terms 1997 has been the biggest year ever for takeovers and mergers
while IPO activity is raging.  Volatility and volume in recent months have
reached extremely high levels, another classic characteristic of market
tops. Assuming history does indeed rhyme based on stock valuations, the
bull move's duration and extent, and the trading volume and massive public
participation that have been evident, it would certainly appear that the
bull market is approaching its final days. If all this was not enough
insider selling according to the latest Vickers release has reached truly
frightening levels. While insider buying has almost completely dried up .
Even as the market sold off sharply in October insiders failed to step in.

Yet none of these traditional signs of trouble seemed to be of any real
concern to most analysts and investors. After all the market had been
richly valued for quite some time now. Many a bear had learned the hard
way not to sell this market-pricey as it might appear to be short. The
longevity of the bull market had led many to posit new paradigms. We were
told "it is different this time". The market could continue rising
indefinitely along with the economy. We had found the answer to the
vagaries of the business cycle. Advances in technology were facilitating
dramatic increases in productivity. These productivity increases made
possible sustained economic growth that would not lead to inflation. In
turn economies would not overheat and the Fed would not need to take away
the punch bowl by raising rates.

Even the otherwise cautious Fed Chairman Allan Greenspan seemed to be
buying into this rather dubious scenario. In his Testimony to Congress
this past fall. What keynsian style welfare state reforms left unsettled
technology now resolved . The business cycle had been repealed for good
and so investors could truly party on forever. After 68 years the damage
of the 1929 Crash was finally behind us, confidence had truly been
restored. After all, if this benign view was correct, why worry? Corporate
earnings should have no problem reaching their growth targets and with
inflation out of the way current valuations were reasonable.

This perfect world was certainly not pricing in the debacle that recently
engulfed much of Asia nor did it anticipate it. This was totally ignored
as investors quickly swooped in to buy the late October dip pouring in
over 15 billion into US equities in November. A little more than a month
later the market was setting new highs Our panglossian analysts wasted no
time telling us all the reasons why Asia was not a problem for the US
economy and investors apparently concurred.

If we were to take a little step back and view the situation objectively
Asian developments not only appear quite frightening but they go along way
to discrediting both the new paradigm growth without inflation scenario -
as well as the broader general sense of a triumphant capitalism dancing on
Marx’s grave.  It is readily apparent that the competitive currency
depreciation's of the past year is but the latest step in the attempt of
the Asian tigers to protect their market share in industries where massive
overcapacity has been driving prices ever lower. Is it not much more
reasonable that the low inflation we find globally has more to do with the
fairly concrete and measurable disinflationary pressures of the Asian
export machines than the rather vague and diffuse impact of technology?

 I have no doubt that the CEO’s of leading US electronics, steel, auto,
and semiconductor companies could provide rather graphic evidence of the
disinflationary pressures exported by Asia. (See for example statements in
Buisness Week Dec 18 1997)- While these disinflationary pressures were
helpful in sustaining US growth with low inflation in recent years at some
point these pressures can become contractionary. Such a deflationary
inspired recession more akin to the busts of the late 19th and early 20th
century can easily spiral into a depression. This risk is further
heightened by the Fed’s insistence on fighting the last war.

Most of the "experts" are busy telling us why Asia will have little impact
on the US economy. Secretary of the Treasury Robert Rubin was the first to
reassure us as he told investors not to panic on Oct. 28th because as both
he and President Clinton put it "the US economy is fundamentally sound".
(Quoted in Business week Nov 10 1997)

Chairman Greenspan took this confidence even one step further when he told
Congress we can see the events in Asia and the October decline in the US
market as salutary events.  These remarks sound eerily like statements
made in 1929.  After the initial collapse on Oct 29, John Meynard Keynes
told investors the collapse should be seen as a beneficial rather than an
evil event which would contribute to the long term health of the world
economy.  President Hoover like Clinton and Rubin reassured the public
that there was no reason to panic as the underlying fundamentals of the US
economy were quite strong. Just as the IMF is scrambling to put packages
together to bail out the falling Tigers in 1998, back in 1929 JP Morgan
led other leading Banks in trying to put together a stabilization package.
Despite all the assurances and the confidence of the experts JP Morgan’s
package failed to stabilize the markets and the decline that began on Oct
29th 1929 proved to be the beginning of a severe world wide depression. To
ascertain whether there is something to these rhymes we need to evaluate a
little more closely the nature of the Asian crisis.

Asia today is caught in a classic deflationary trap of too much productive
capacity and too many goods chasing too few consumers. This type of
malignant deflation can and is getting quite ugly. Economic growth wilts
as some consumers postpone purchases out of concern about the future, and
other would-be buyers hold off in the expectation that prices will
continue to fall. Deflation and falling unit-sales depress profits. As a
result, companies retrench by firing workers and chopping capital
investments further weakening demand. This is the stuff of what Marx
referred to as the Bust Cycle of Capitalism.

What is going on in Asia today appears to be following the Marxian
paradigm perfectly. The East Asian crisis is directly traceable to the
late 1980s when Japan experienced a classic investment led expansion which
kicked off an investment binge throughout the region. Back in the 80s
Japan dramatically added to its industrial capacity at a rate that far
exceeded demand growth which led to price cutting and instances of dumping
on world markets.  This in turn discouraged new investments in plant
capacity at home and encouraged excess capital to seek out new targets.
These conditions fed a financial market and real estate bubble in Japan on
the one hand and on the other to the export of excess capital into the
rest of Asia. This investment in Asia absorbed the capital that was
blocked up in Japan and fueled dramatic growth which created markets to
absorb at least in the short run much of Japan’s excess capacity. As Marx
would have predicted the "miraculous"  growth that swept through Asia was
not shared equally and in fact led to tremendous disparities in wealth.
While every one's standard of living improved, the billion plus army of
new consumers and low-cost workers who unlike the capitalist elite only
shared a very small portion of the fruits of their labor could not provide
the necessary demand to continue fueling the global economic boom.
Meanwhile, the rich elites were getting richer and squandering their
wealth on feckless, unproductive, conspicuous consumption, not to mention
all the speculation in the stock and real-estate markets.

While the Japanese financial bubble burst at home, investments in Asia
continued in an even more reckless and indiscriminate fashion than was the
case earlier in its home market.  With easy access to capital, the large
Asian conglomerates just kept building and expanding hoping sales and
profits would follow. The result has been the creation of an industrial
monster. Massive global inventory and capacity overhangs were created in
many key industrial sectors leading to falling prices and profits.

In recent months, one after another of the once mighty Korean Chaebols
along with their smaller Asian peers have been lining up to seek court
protection from creditors, setting off an Asian if not global debt crisis.

Desperate for cash, Korea along with China and the other Asian tigers have
gotten into beggar thy neighbor currency depreciation's, in an attempt to
make their exports more competitive. The Asian tigers find themselves not
only in desperate competition with one another but with their one time
Japanese benefactors. In short, Japan has exported its excess capital and
productive capacity to its Asian sisters in such an utterly reckless
fashion, that it now faces along with the rest of the global economy a
problem of truly apocalyptic proportions. There goes that jingle again,
this sounds a great deal like 1929.

The bursting of the Japanese bubble combined with the more recent crises
of the Asian Tigers has sapped up the excess capital of the 80s and
created in the words of Japan’s finance ministry "a severe liquidity
crunch."  While the Japanese are still reeling from the collapse of their
financial markets and 7 year recession, their crippled banks now face
losses from their massive lending spree too Asia, their investments in
Asia, as well as the fallout from further declines in the Nikkei. In the
last 6 months 11 major Japanese financial institutions have already
failed. Japan appears to be in a spiraling recession headed for
depression. Japan’s interest rate on their 10 year bond has sunk from 8%
in 1990 to 1.4% today, yet its economy continues to decline. (So much for
the notion that we have nothing to worry about with such low US rates.)

The problems in Southeast Asia promise only to exacerbate Japan's woes.
Exports have been leading Japan's ill-starred attempts at economic
recovery, and Southeast Asia was Japan's largest market, accounting for
over 40% of its total exports.  Not only have those exports fallen off the
cliff as the Tigers retrench sharply but Japanese companies are being
squeezed by the deflationary pressures being exerted on their pricing
power by their Asian competitors.  At a minimum, Japan may have to devalue
the yen to compete, raising the specter for the global economy of another
round of competitive devaluation's among the formidable trade partners in
Asia. This will in turn further erode corporate profits, push more
companies into bankruptcy, create more bad debt, drive down demand even
further and deepen the crisis.

The situation in Asia is indeed rather frightening. The turmoil that came
to the surface last summer in Thailand and spread quickly to Indonesia,
the Philippines and Malaysia has since moved north to Hong Kong and Korea
and now, as we have shown, threatens to unravel Japan as well. These
markets are off anywhere between 50% and 75% the debt of many of these
nations has been reduced to Junk status. Bankruptcies and bank failures
are announced on an almost daily basis while the IMF and its more powerful
members are being called on to participate in massive bailout and
stabilization projects.  The new Korean President has already admitted his
country is bankrupt and that the 60 billion dollar stabilization package
is not nearly enough.  This is no minor development, after all Korea is
the worlds 11th largest economy.

After rather extensive research I have reached the conclusion that
virtually all of Japan’s key financial institutions - specifically its
Banks and Large life insurers are on the verge of insolvency. Japanese
Banks are reportedly sitting on over one trillion dollars in bad debt.
This insolvency will be increasingly difficult to cover up as the Asian
crisis deepens. Who will provide the trillions needed for an Asian wide
bailout which already shows signs of spreading to other developing export
led economies in Eastern Europe and South America?

Can anyone really take seriously the initial response that the US would
not be affected in any significant way. The analogies to the 1994 Mexican
situation or the 1982 Latin American crisis constantly drawn as proof of
America’s power to whether the storm only shows how out of touch these
analysts really are.

In 1994 the US allowed Mexico and earlier Latin America to export their
way out of their crisis as Washington provided emergency capital and the
market for their cheap imports. Does anyone believe the US is capable of
providing the 100’s of billions if not trillions necessary to bail out the
world while buying up all of the global excess capacity?  Even if the US
had the capability and the will to do so, the ultimate effect on the US
economy, particularly on jobs, and corporate profits would push us into
depression anyway.  Congress' recent denial of fast track authority for
the White House to negotiate trade agreements along with its refusal to
increase funding for the IMF would tend to indicate that even at this
early stage the US lacks the will to fill the role of lender and buyer of
last resort.  In short, recent trends would seem to indicate the triad of
conditions deflation, competitive devaluations and rising protectionism
that characterized the Great Depression are coming to characterize the
current global situation. History does indeed seem to rhyme.

We do not believe we our overestimating the dangers of the Asian contagion
on the US and the evidence that has begun to flow in recent weeks appears
to validate our thesis. While it is true as Wall Street’s ever optimistic
analysts continue to remind us, that South East Asia buys a mere 6% of US
exports it is quite irrelevant to the issues we have raised here. To begin
with, as we have shown, this is not a problem limited to the Asian tigers
but has spread to encompass most of Asia, including Japan and China. Asia
absorbs over 30% of America’s exports and accounts for 38% of our imports.
Perhaps of even greater significance is Asia’s share of the global economy
which exceeds 34%, the biggest of any region. By comparison North America
has a 22% share and Western Europe has 20%.

If the essential dilemma posed for the global economy by the Asian crisis
is its deflationary pressures than these percentages carry great
significance and drawing analogies to Mexico, are to put it mildly,
absurd. That US exports to the region will decline is obvious and not
insignificant. However the larger threat is that of a desperate Asia
dumping its excess capacity on global markets. This will squeeze competing
US corporate profit margins, forcing cut backs and layoffs on the one hand
and encourage protectionism on the other.

In recent weeks, numerous major US corporations have stunned Wall Street
with profit warnings as well as cutbacks due to these Asian deflationary
pressures. First came Eastman Kodak in early November. Facing serious
pressure from Fuji, Kodak cut their forecasts and announced 10,000
layoffs. Caterpillar, Boeing, International Paper, Tenneco, Avon Products,
Union Carbide, Minnesota Mining and Manufacturing, Coca Cola, Seagate,
Read Rite, Micron, Nike and Reebok to cite just a few, made similar
announcements. Western Digital and Micron Technology coupled their
warnings with cries that Asian rivals were, could you believe it, selling
below cost. Hewlett Packard pointed to the Cannon and NEC printers that
are being given away free in PC packages. Compaq has complained that
Toshiba’s aggressive pricing has begun to take its toll. The list goes on
and on, but the point has been made.

The real collapse in Asia has just begun to gain momentum in the last two
months and we are already seeing serious negative fallout for US earnings.
Yet Wall street analysts have not yet revised their forecast of 14.5%
earnings growth next year.

Despite all this the US markets shrugged off the initial swoon and drove
the markets to new highs in December as if nothing at all had happened.
Most US money center banks who stand to be one of the biggest losers in
all this, even after warning investors, actually hit new highs in mid
December. In a recent Montgomery Asset Management survey 750 investors,
out of 1000 polled, said they're looking for 20%+ average annualized
returns over the next decade. That's tantamount to saying: "This market is
never going down again. I don't have to worry about it. I have to invest
in it. I'll borrow money to invest". As usual, investors are extrapolating
the recent past into the indefinite future.  Just as in 1982 when the dow
had gone nowhere for 17 years and multiples contracted to extremely low
levels, investors assumed equities would continue to remain depressed
indefinitely, so to today we are blithely assuming 15% per annum growth as
a given.  It would appear that we have indeed become quite "giddy" over
the sustainability of this bull market specifically and in a more general
sense, the impact on global economic growth of the "triumph of

The only thing this market has going for it today are low interest rates
and low inflation. If the threat facing continued growth was the classic
postwar Fed rate hike slowing down an overheating economy, these two
factors would indeed be positives. However, since the threat we face today
is a Classic Marxian deflationary bust cycle these two factors should be
seen as warnings. During the depression, rates remained low for many years
with 0 inflation but the economy still did not recover. The problem during
the depression as it has been for Japan in recent years is earnings or the
lack thereof in a deflationary environment.

Withdraw the pillar that has sustained the markets high multiples in the
last few years, namely earnings growth, which is only now being ratcheted
sharply lower in the wake of the Asian crisis and there is obviously a
problem. It is only a matter of time before our market heads sharply
lower. In this regard it is much more than the intrinsic impact of
earnings disappointments on stock valuations.  Ultimately the volatility
of earnings and increasing frequency of disappointments will lead to a
high premium being placed on risk as opposed to the recent premiums placed
on growth.  Consequently multiples will begin reflecting the perceived
risk of plunging profits. In time we will see a change in psychology and
the overall attitude toward equities as we have seen after every major
market shift.

As we saw in the 30s and the early 50s equities as an asset class will
derate relative to debt instruments. In the early 50s, US equity yields
were significantly higher than bonds as the memory of the 30s and the
perceived risk in equities remained the predominant determinants of
investor psychology.  Today, yields are scoffed at as investors have
learned for the past 15 years to focus on growth and capital gains. When
we consider the fact that partly due to these psychological influences
markets tend to overdo it at both extremes the withdrawal of the earnings
pillar from our currently overvalued market is rather scary.  Lets not
forget that at the end of secular bear markets, equities trade at levels
closer to 6x earnings than the current 23 x earnings and with yields
closer to 7% than the current 1.5%.  Even assuming current earnings
levels, the market would have to decline about 65% to be consistent with
post bear market valuation levels. If you add to that calculation a period
of contracting earnings the potential decline is mind boggling. Such a
decline when considering the extent of public participation particularly
the extent of retirement money in today’s market carries with it serious
economic as well as socio-political risk.

To better appreciate the decline we are probably heading for, a closer
look at the decline in the Nikkei since 1990 might be helpful The Nikkei
approaching 40,000, in 1989 was very similar. The Japanese had become so
confident in themselves and their market they believed it would never go
down. The Japanese were all powerful they were buying up everything, even
America. They bought Pebble Beach, Rockefellor Center, Hollywood studios
and every painting they could get their hands on from Christie's and
Sotheby's. Writing in the Atlantic Monthly in May 1989, days before
Japan’s market began to crack, James Fallows a respected economic
columnist wrote, "No symptom of slowdown can yet be observed. By every
measurable indication -- corporate profit, personal savings, industrial
productivity -- Japan is distinctly on the rise." (Atlantic Monthly May

 Essentially, you had the same tone of overconfidence there that you have
here today. And what happened in that market? As the market began to crack
they bought the dips. They didn't have a crash. The market would fall
sharply and then rally back almost as sharply as confident Japanese
investors jumped at the opportunity to buy the dips. The long awaited
correction had finally materialized. Investors guided by knowledgeable
analysts saw the decline as healthy. "We haven't had a 10% correction, in
some time", they tell each other. "This is no big deal, I'm going to buy
this dip. I'm not going to worry about it. Besides, I'm essentially locked
into my long position. I can't sell because I know the market will come
right back. After all over time equities have proven to be the best
investment". Then the market bounces and everyone feels great. Then the
market plummets another time, (can you hear that jingle) as Japan was now
in a Bear market each wave down invariably set lower lows.  This rather
painful process went on for a while. It took some time for investors to
unlearn their earlier lessons until stocks get to the point where
investors couldn’t take it anymore. By that point, many were wiped out. In
fact, it wasn't until the Nikkei broke 20,000 that people began to realize
that there was something very wrong.

The Nikkei went on to fall another 7000 points and 6 years later the
Nikkei is still down over 60% from its highs.  Imagine such a fall here.
Imagine how painful buying those dips will become when the market keeps
breaking down to new lows. Imagine wiping out peoples life savings. Of
course this can not possibly happen here.  America is the strongest
economy in the world. We won the Cold War the whole world is striving to
follow our example. I would not entirely rule out the possibility of a
1929 type crash despite the tendency to buy the dips.

Should the markets decline too sharply in a short period of time the
specific nature of certain derivatives particularly the popularity of put
options as a post 87 form of Portfolio insurance could trigger a sharp
downward spiral that gets completely out of control. Since this is a
rather complicated technical issue I will spare you the gory details.
Suffice it to say that while in this scenario the small investor is spared
the heart wrenching Chinese water torture type of decline the final result
is much bloodier for the overall system.  In the latter scenario the
decline is likely to be steeper and lead too the collapse of more
financial institutions.

Of course all this seems unfathomable, we have learned the lessons of the
recent past well. We have been trained to buy the dips. We have grown
quite confident in the strength of our economic system and the US economy.
This confidence, as we have shown, is totally unfounded. We should not
allow the current complacency to confuse our analysis. Prior to every
major market break, be it 1929, 1968, 1976, 1987, or Japan in 1990,
complacency reigned.

Yet prior to all those declines the warnings were readily apparent to
those who took a detached view. We have proven that today’s complacency is
not justified by reality. We have demonstrated the extent to which the US
market is overvalued even in the best of worlds. We have made a strong
case for the argument that developments in Asia are of grave significance
to the US.  We are convinced the great bull cycle that enriched so many in
recent years is about to be undone in a very painful bear market that may
rival the Great Depression in its impact. We are also convinced that the
world will be a very different place when it is over.  The pain,
frustration and disillusionment will be enormous and widespread.  We will
see violence on the streets of Korea and other Asian, Latin and Eastern
European countries. We will likely see revolutionary change in many of
these countries. The impact of this global finacial collapse on the
already shaky move toward European Union will certainly not be a salutary
one. We will also no doubt witness serious social and political unrest in
the US. The question for Jews must be what all this means for American
Jewry, Jews around the world, and US-Israel relations.

Debt, Deflation, and Hyperinflation The Coming Economic Collapse

Lance Owen has posted yet further supporting evidence of an impending economic
crisis.  It can be found at:

Hoofbeats of the Black Horseman Page 2

Home  The Tribulation Times  Links  E-mail Dr. Zambrano