Q2 ’11:   Government is Losing Legitimacy

Washington can be an ugly place even in the best of times, but the recent debt ceiling debacle was downright obscene. House Republicans, loud and proud in their ignorance and extremism, successfully took the nation hostage over the national debt ceiling. All their demands were met by our Compromiser-in-Chief. I am certainly not unsympathetic to the demand for fiscal responsibility, nor to the goal of a minimal tax burden, but these tactics are disgraceful and have been extremely destructive.

Markets

The marketplace has cast its verdict on the debt ceiling deal – a resounding vote of no confidence, and the first ever downgrade of U.S. debt by S&P. Panic hit the stock market, which registered both its sixth and ninth largest one day point losses in one week (635 and 520) and its worst ever advance/decline ratio (67 decliners for every advancer). The previous worst advance/decline ratio (66 -1) was in 1940 when German tanks broke through French army lines. The Black Monday crash in October, 1987 was 38 to 1.

Long bonds are approaching their all-time highs (low yields) and the 10 years have made all-time highs, although why anyone would buy them is beyond me. Gold has continued its relentless uptrend, trading above $1800 at press time, more than double the previous all-time high of $887.50 in 1980. The White House has assured us that there is no possibility of a double dip recession. The marketplace begs to differ.

Economy

The Wall Street Journal reports that “across a wide range of measures — employment growth, unemployment levels, bank lending, economic output, income growth, home prices and household expectations for financial well-being — the economy’s improvement since the recession’s end in June 2009 has been the worst, or one of the worst, since the government started tracking these trends after World War II.”

The last several stimulus driven recoveries have each been weaker than the previous one, so this is not a big surprise. The current recovery is by far the most anemic since the Great Depression. Worse, according to a new report by the Center for Labor Market Studies at Northeastern University, corporations captured 88% of the economic gains from the current recovery. It seems almost too obvious to mention, but this is a very unhealthy trend in a consumer economy. If consumers are to consume they must have the financial ability to do so. Increasingly they do not.

The following chart demonstrates the fruit of three decades of Voodoo Economics for American workers.

Meanwhile, our debt to GNP ratio is approaching 90%. The previous all-time high after WWII was 109%. Even now, this debt could be managed and worked off over time in the traditional manner, not without pain, but it could be done. But Republicans are pushing for maximum pain while Obama is in office, insisting that the deficits be addressed solely by austerity measures.

As Bill Clinton recently noted….”Republicans, who control the House and now have greater control of the Senate, have now decided — having tripled the debt in the 12 years before I took office and doubled it since I left — that it’s all of a sudden the biggest problem in the world.”

Martin Wolfe explains “Why Austerity Alone Risks Disaster.” We are currently in a controlled depression when every sector except government is trying to improve its balance sheet at the same time. It follows that if government also tries to improve its balance sheet at the same time then we will have un-controlled depression.

“The BIS insists…highly leveraged countries are running structural fiscal deficits, which must be eliminated as soon as possible. Fair enough, but where are the offsetting adjustments to occur?…If you believe a sharp monetary and fiscal tightening would result in an investment boom, I have a bridge to sell you. If the more plausible adjustment is via shrinking profits, that surely implies a fall in output. If so, this would preclude lowering the debt overhang via higher real incomes. That then leaves default. This would work, but via a slump and destruction of financial assets.”

Our press has utterly failed in its mission by not bringing the truth of this matter to the American people. It’s notable that Elliot Spitzer, one of the few commentators willing to point out that Republican economic talking points are not reality based, has been let go by CNN.

Meanwhile, policymakers in Europe are tiptoeing around the herd of sleeping sovereign debt elephants, hoping not to wake them into a stampede of defaults. A new loan to Greece has put off default there for a few more months, and the ECB has since had to step in to buy Italian and Spanish bonds in order to keep those markets from melting down. The European landscape is littered with bad debt, which will continue to demand attention. Take your pick as to which European country will kick off the next crisis. You may want to start an office pool.

We are in the midst of a major shift in the economic and political structure of the global economy. Efforts to manage a recovery in the same fashion as past recoveries, by monetary re-flation, have been a failure. The current recovery is so anemic as to hardly warrant the term. Job prospects for the millions of consumers who are un or under-employed don’t look much better going forward than they have since 2008.

The entire globalization agenda is in jeopardy as the advanced nations gradually sink under the weight of their debt. China, India and the rest of the emerging sector are in pretty good shape debt-wise, but they are largely dependent on exports. Who will they export to if the Western financial structure collapses? This next recession will probably mark the end of the current paradigm.

Politics

The hostage situation over the debt ceiling has overshadowed everything else lately, except of course the terribly important Casey Anthony trial.

Behind the headlines, the extremism of House Republicans is being driven by threats of primary contests for anyone not hewing to the Tea Party line. The Republican Party made a deal with the devil and now the devil is calling the shots. On the Democrat side, craven subservience to the oligarchy prevails, resulting in no effective opposition to the Republican mob.

As one clever commentator put it, “the oligarchs own the Republican Party and have rented the Democrats.” Democrats may have to choose soon between their voters and their financiers.

Obama is in trouble with his base. After getting elected as a relative unknown by tapping into the deep desire of the American people for a real change in the way things are done in Washington, he pivoted 180 degrees from day one and has seriously alienated his base of support. David Sirota sums it up in a recent Salon piece entitled “If Obama Cuts Social Security…

“Indeed, when a political candidate promises to try to pass a public option to compete with private insurers, attempt to crack down on Wall Street abuse, do what he can to stop unfair trade deals, oppose extending his predecessors tax cuts and avoid initiating initiate costly new wars sans congressional approval, and then once in office works to kill a public option, refuses to prosecute Wall Street crimes, presses the rigged trade deals he opposed, supports the extension of his predecessor’s tax cuts and starts a new war in Libya with no congressional authorization — whose fault is it that he ends up in reelection trouble?”

It’s going to be very difficult for us to find our way out of the problems we have created with our current leadership. Like bad money that drives out good, partisans have replaced public servants and the resulting public “debate” is an ongoing food fight that has little do with truth and even less to do with reality. And the successful hostage taking in the debt ceiling fiasco will only embolden the mob to employ the same tactics with every dispute going forward.

I feel some vague concern that the debt ceiling fiasco represents some kind of symbolic Rubicon, and that in having crossed it we are going to end up with a complete meltdown of government function and the end of the great American experiment. The resulting corporate sponsored propaganda wars will be so far removed from reality that it will be impossible for ordinary people to understand what has happened, why, or who is responsible.

Government is losing its legitimacy.

Government failure is of course high on the Republican agenda. The objective is not to make government more responsive or efficient or less burdensome, but to prove that government doesn’t work by doing everything possible to undermine and obstruct government from doing anything successfully. Unfortunately, corrupted and disorganized Democrats have been unable or unwilling to counter this agenda.

Stanley Greenberg published a very insightful commentary in the 7/31 New York Times entitled “Why Voters Tune Out Democrats.” Even though the people consistently favor Democrat positions on the issues, they don’t bother to support the Democrats because they don’t trust them to actually implement their stated policies.

Even the Supreme Court is losing respect. In the midst of the cacophony that is our public “debate” and the political devolution of our major parties, there has been one refuge of honor and integrity that has given Americans hope that reason and justice would ultimately prevail…the Supreme Court. Now, even that bastion of integrity is crumbling under the right wing assault. The appointment of George Bush in 2000 was a black mark on the court, but it was a one-off violation. Recently however, the Court has gone out of its way to implement the so-called “conservative” agenda.

At Chief Justice John Roberts’ confirmation hearings he pledged to respect precedent, to “call balls and strikes” rather than use his position to legislate from the bench. Since then, making a mockery of his promises, he has engineered a series of partisan 5-4 rulings, most notably the Citizens United decision overturning 100 years of precedent and affirming a commitment to a nation of, by and for the corporation. The distorted reasoning behind many of these rulings is shameful.

Ronald Dworkin, a prominent and widely respected legal scholar, dissects the intellectual dishonesty of the Supreme Court in its recent partisan rulings in an article in the New York Review of Books entitled “The Court’s Embarrassingly Bad Decisions.”

In addition to the blatantly partisan rulings, Clarence Thomas’s casual attitude toward judicial ethics has brought discredit to the Court. Joy-Ann Reid has been documenting the growing array of scandals surrounding Clarence Thomas on her blog, The Reid Report.

This is the beginning of chaos. If our politicians are liars and cons, well, they are members of the world’s second oldest profession. It’s not acceptable but not entirely unexpected. But when the Supreme Court is increasingly seen as just another partisan group shaping the law for the benefit of their buddies, telling the convenient lie and ignoring ethical constraints, then how can we expect the people to have any respect for the law?

The people may be easily manipulated but they are not blind. When they watch our “leaders” consistently saying one thing and doing exactly the opposite — ignoring the general welfare, gaming the system for their own benefit and that of their financiers and violating the law with impunity — why should they bother to be truthful, or honorable in their dealings, or feel constrained by the law? Why shouldn’t they just do whatever they please?

Geopolitics

Pax Americana has been in a topping phase since Vietnam and we have clearly entered into the markdown phase. The debt ceiling debacle has done serious damage to America’s already tarnished image abroad and has accelerated the trend.

Realignment proceeds at an ever faster pace. Afghanistan is just another neo-con disaster and our alliance with Pakistan is unraveling. Our relentless drone attacks and deadly night raids rightly or wrongly are seen as immoral, and are cementing anti-American sentiment in the Muslim world. Regional trade agreements with local currency swaps are proliferating, diminishing the role of the dollar. The widespread uprising in the Arab world has left the U.S. with sharply reduced influence in the Middle East. We still have the most and biggest guns of course, but the Taliban has demonstrated to the world that our big guns don’t guarantee victory. We are losing ground militarily, economically and morally. Even China has taken to lamenting that U.S. behavior is not a good advertisement for democracy. Vladimir Putin, of all people, has called the U.S. a “parasite” on the world economy.

Opportunity

The geometric expansion of computing power is enabling future paradigm shifting technologies in every sector. There are going to continue to be big changes, which means big winners and big losers going forward. We essentially have a casino economy bestowing vast wealth on a few fortunate winners while the vast majority languish with marginal gains at best. There will continue to be big winners in the casino, but for most they will be out of reach. These opportunities in the near future will be in paradigm shifting long shots (see Vinod Khosla’s Scientific American interview) that are hugely expensive to ramp up.

Our technological ascendance will eventually yield a new economy, but in order to generate a robust broad based economy and not a neo-feudal dystopia, it will require a parallel shift in the way we allocate the fruit of economy. That change is not going to come easily, or quickly.

Our increasingly virtual economy is isolating and this is not healthy. Humans are social animals. Doing business with a website is not socially rewarding. We will inevitably find our way back to humans doing business with humans. The opportunity is to position for and serve that transition.

In this vein, there is a growing trend toward community and local economy. This is seen in the burgeoning local agriculture movement, alternative health care and the recent growth of co-op and worker owned businesses. See “The New Economy Movement” by Gar Alperovitz in the May 25th edition of The Nation.

Summary

I find myself fantasizing that the debt limit saga and all the extreme rhetoric emanating from Washington has been an elaborately staged theatrical production and they didn’t really mean any of it. But even if that were true, in politics perception trumps reality. And the widespread perception now is that the Republicans are insane and the President is weak, and either unwilling or unable to control the Republican mob.

Perhaps Republicans will wake up and realize that they are taking themselves down along with the country. Extreme partisanship and rampant demagoguery amplified by a credulous, tabloid style corporate press threatens to turn a very difficult situation into a disaster. A rational policy response to the ongoing economic distress is critical to an acceptable outcome. Given the imbalances created by decades of mismanagement, any real solution will not yield fruit overnight, and any credible policy response will necessarily involve compromises and components not acceptable to the so-called conservatives. Unfortunately, in the absence of any coherent opposition, these conservatives are dominating the debate and dictating policy.

In the current environment, government is the only economic player with the wherewithal to sustain any semblance of growth while the imbalances from the Bush era are gradually normalized. Unfortunately, Republicans are determined to cut this source of economy off at the knees and Democrats are offering little resistance. There are no ideal solutions after decades of fiscal mismanagement, but there are less bad solutions. We remain vulnerable to debt deflation and/or hyperinflation if the economic illiterates driving the public debate are successful. Investors need to be aware and as much as possible prepared for a wide range of possible outcomes.

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