Economic Outlook for 2011 and Commentary

Middle East revolutions are yet another straw on the camels back among a storm of headwinds buffeting the outlook for the US economy in 2011 and beyond.

By Joshua E. Stone

Monetary Policy

“Expect the Fed to keep the Federal Funds Rate at current levels near 0-.25% for the remainder of this year at least” This is a repeat of my last two year’s forecast verbatim. There is some possibility that rates could be raised before the end of the year this time. There is a very high probability that the language will change enough to set the stage for rate hikes next year.
The FED has a dual mandate: to keep unemployment and inflation low. Right now it’s failing on both of these mandates in many peoples opinion. While perhaps inflation is debatable, I am in the camp that sees higher consumer prices as deflationary. But it appears that we can’t argue against disinflation either, as this is clearly being felt by anyone who buys things. However there is no debate about the worst employment picture we have had in the US in many decades. Worse, thanks to the fact that apparently no one in Washington is reading this blog; there is still no job creating energy policy. A Manhattan or Man to the Moon equivalent energy policy that switches all Government vehicles to Natural Gas, and road and infrastructure projects that launches us past China and last but not least…a new cheap source of alternative energy that does not transfer the wealth of the current energy cabals via some government mandate or new taxes or the termination of subsidies that will ensure the proposals are DOA. While the “experts” say we can never do these things, we are not China and can’t compete with them; I say we are America and can do anything. I would also suggest that those who think we can’t do anything need to move to somewhere that low expectations are the norm.
That we have not dealt and even worse not even addressed the issues is setting us up for real troubles in the next year or so if not sooner.
Inflation hawks will use everything at their disposal to confuse the markets about future policy changes, like the fact we might get some dissenting votes at the next FOMC meeting in March and the following ones this year. I would point to the UK, where something similar is happening. But if you dig deeper, you will find that the UK is in no position to raise rates and thus this recent rally in the pound has been nothing more than a breather before more downside ensues by many peoples estimation.
Delving a bit deeper into the Bernanke Dilemma there is a big problem I have only heard addressed by some people, mostly callers on the talk radio shows saying they can’t get a loan because the lenders are getting stricter and stricter in their terms. This is contrary to the mainstream understanding that QE2 was designed to help keep lending available to everyone and loosen the purse strings. Why is this happening?
As brilliant as Bernanke is, and as smart as his policy has been in my opinion to defy consensus in an effort not to repeat history, he seemingly did not count on or foresee one critical thing: the ability of the fat cats to put money where the interest is. I wonder about this conundrum though, and whether a man as intelligent as Bernanke really could have over looked something this problematic. To the best of my knowledge the deal Bernanke has made with the banks works something like this: the banks can borrow money for free, they can then sit on that money and earn interest on it risk free. What a deal!
So that leaves the banks two clear choices to choose from: If they loan it out, they have to take a risk. If they keep it they earn interest albeit small, but the bottom line is all that matters to these folks. Not to mention because of the new regulations they have to stay well funded to protect all those toxic assets they still carry. After all the bursting bubbles in recent decades, can anyone blame them if they don’t want to take on anymore risk? How can we expect any bank to risk funds on a business that may or may not succeed, when it is more likely than ever before to fail than succeed do to the uncertain nature of policy going forward? After all, it is their job to keep money safe. Why are they suddenly sticking to the letter after all this time one can only wonder. Perhaps the new regulations have worked too well. One can only wonder what they are hatching up for the next bubble though. Or perhaps this is the new crisis, the new “bubble” or even worse the next scam and fraud pulled on the people…
It appears to me, the only way out of this dilemma besides a three or four point improvement in unemployment would be an executive order to force banks to lend and corporations to start investing. This has its problems however: who is going to decide who wins and loses? Not to mention it was the politicians telling banks to loan to certain demographics that was largely responsible for the sub-prime meltdown of 2008. The only other option is for Ben to raise rates. Something he needs positive economic growth that runs the risk of inflation to do, which is not happening at the moment from his point of view
It’s quite a quandary: banks and companies don’t want to lend or invest till there are jobs to prove the economy has recovered, and the economy can’t recover till the banks and corporations start lending and investing to create those jobs.
The coming days and weeks will bring about a major debate over the debt ceiling. This will likely trigger a good bout of dollar weakness and market jitters, but I don’t think the great bond crisis is at hand this year. There is still no viable blueprint for another reserve currency at this point. What is already happening is that other countries are ditching the dollar in many places and trading in their local currencies instead. So in a way, our sovereign debt crisis is at hand, but only in stealth mode and not readily apparent. It’s not like a few trades made between Russia and China denominated in their respective currencies are a big deal, but the day Saudi Arabia or China announce they will no longer accept or require dollars for oil or trade will be noticed and felt by all. It will be equivalent to an act of war and will trigger a massive sell off in everything but commodities from what I understand. So it seems the gold bug scenario is at best a tapestry of doomsday for now. That said, recent developments in the Middle East do seem to make this scenario much more likely. China is also very unhappy with their exposure to US debt and has a number of tools at their disposal politically and economically before they have to use the “no dollars accepted here” nuke. At this point they are using the Broken Arrow method of beating us for lack of a better expression, and it is quite effective.
That said, all these forces moving away from the dollar are already in place and in motion as mentioned before, and as a result that is why we will continue to see inexplicable rises in gold and especially commodities.
In recent testimony Bernanke defended QE2 when asked about global commodity prices explaining that it is supply and demand issues, not FED policy causing the spikes in prices. As true as this may be in part, it is only one of many things one could call a perfect storm driving up demand and diminishing supply. The fact that QE2 has added fuel to the fire in this trend can’t be denied as the spikes in most commodities took steroids after QE2 was announced. Most folks don’t understand how QE2 works in my opinion and as a result most are quite confused about FED policy going forward. Bernanke can not only raise rates in fifteen minutes like he said on Sixty Minutes, he will stop the QE2 sooner rather than later if the employment picture improves.
If employment does not improve, and the US Treasury bond yields continue to go higher, it is hard to defend the FED and its policies regarding QE1 and QE2 and many think it will result in QE3. This will in turn result in a run on the dollar and force the implementation of a global gold standard by China and others. Something that is already in the works and is bound to happen sooner rather than later in my opinion. The question is how long the people in the US will let the politicians keep them snowed and asleep before they wake up, or will the global gold standard come first, plunging America and the UK into Third World (this is already occurring due to the natural course of events in the US, but is exacerbated by Government policy or lack thereof) status to wake them up.


In the last two years forecast I predicted: “…the housing prices to start to bottom in the next year maybe even longer…”… and it appears like it will be more on the latter side of that statement...”
It appears this was fairly accurate as the most recent data confirms the expected correction in housing values after the First Time Home Buyer tax credit expired resulting in a slowdown of home purchasing over the remaining months of 2010.
The forecast for this year is pretty simple and straightforward: we are once again heading off a cliff in home values with no hope of any return at this point because there are no meaningful signs of a recovery in jobs or even worse no plans to create those jobs. While this continues, the “stealth” or shadow “supply” of unsold homes continues to build continuing to compound the problems.
In the tradition of this blog, I would like to be more optimistic about this outlook. The only encouragement I can find is that I think some folks will be in their homes to stay this time, in the belief that home prices will not fall much further and that they are pretty much out of options as rents are rising along with everything else so eventually home values will follow. This is a pretty sound strategy in my opinion. But I am biased as I have recently helped my own mother buy a place with the help of Uncle Sam. The interesting thing is; that as a result of the free money, we have a very high pain threshold for falling value in that home. It is also a home, not an investment property. This is one thing we won’t be dealing with this time: is the collapse of the speculative investment real estate bubble.


In the last two years I said in this blog to “…Expect unemployment to reach double digits before this recession is over. I am guessing it may go as high as 10% this year. I don’t see much of an employment recovery really. This will be a jobless recovery. Unless the new Administration in Washington can get the corrupt politicians to make a new energy policy that creates jobs. Yes We Can! ...”
We have reached a new norm, where the number of underemployed and people out of work for more than six months has not measurably or meaningfully diminished during the last year or so. This means many people are now unqualified to work or when they do finally get work, it will not be at as high a pay rate as before. This makes weekly unemployment claims one of the key data releases to be watching in the coming months along with the usual like NFP, GDP, Consumer Confidence, Housing and other data related to inflation like PCI and CPI.
With no hope in site of any real job growth from the private sector or by any political initiatives on the horizon, unemployment will not decrease much from the current level of 9.0% for the rest of the year. I have no idea how it will get much lower than this if some drastic changes are not made regarding the current direction of the country. I think it is more likely to move back up if the status quo continues in Washington. I think a depression has been prevented, but this economy can’t be propped up indefinitely.
While unemployment has steadied, and never got above 10% this year; there are some very troubling statistics showing up if you look beneath the headline numbers. There are also bills being proposed by politicians that would drastically lower the unemployment rate and slash the entitlements, creating a permanent underclass. While this is pretty much cheap political theater, playing the politics of fear is not a help. In fact is tantamount to dereliction of duty. How can any politician in good faith waste time on frivolous bills that have no chance of being passed in a time of war and crisis like this! It only shows and demonstrates a caliber in Washington of what I can only imagine and hope to be inadvertently nefarious politician’s and there equally suspicious proposals to help this country in good faith. One can only assume at this point that this and many other monsters` proposed and in some case created; like in the case of GSE `s are not by accident. The Federal Reserve and the amount of power it has is another example how smoke filled rooms have decided the direction of this country with the country only along for the ride.
A source of optimism is the underground economy, greatly underestimated by economist at large in my opinion, it is very unquantifiable and perhaps the most vital and resilient part of the US economy. I have said before there is a job at every firm for Social Networking engineers, and I am glad to say that in the time I first mentioned that last year I have seen many companies are taking it seriously at last and hiring for such positions. Unfortunately as with many things, often one must start as a volunteer or just as a side hand and show results before a company or potential boss will take notice and decide to give you a salary. So that’s right, I am suggesting you find a company you love and start blogging and managing a social network for them. Of course, it goes without saying they should already have a social networking presence, or if they do then that means you are trying to show them it can be done better. So like everything, communication and openness in what you are trying to do for them is a prerequisite. If they have good management, they should have no objection with you giving them positive exposure to the internet. Of course, it also goes without saying that one could easily find a niche being a critic, but the prospects of obtaining a salary from such work would seem more difficult to me. But perhaps not if it is noticed by competition and that gets you a job.
The biggest obstacle to creating and keeping jobs in the USA is a good energy policy and regulation. The forex industry is a prime example of this. There have been so many new regulations put in place by the CFTC in recent years I have personally had to move money out of the USA in order to get the flexibility I desire from my broker. Many countries will not even consider taking my deposits or doing business with me simply because I am in the USA. This has restricted my access immensely to the market. This is all done under the guise of “protecting” me and making the markets “uniform”. I see it all as a terror attack on the heart of our financial freedom. I have literally lost sleep at night in terror wondering how long before the CFTC figures out a way to keep me out of the forex entirely. Sadly I think that Japan will be a leading proponent of banning retail forex trading in the coming years. It’s not like there is not plenty of compelling evidence that something is amuck in the futures industry. The USA could be a financial powerhouse if it was not for the free market killing regulations that have a stranglehold on this country.
An example of how ongoing detrimental energy policy and new regulations could derail jobs and small business is my own organic farming business: highly dependant on local transport and being free of costs related to regulation; I figure four to five dollars a gallon for gasoline could very well put us under. I have not figured out the exact breaking point, but much above the current three twelve a gallon is already making it much harder to break a profit and is depleting what cash there is to spare. Already we are pulling back on spending as a result of the higher gasoline prices seen at the pump in recent weeks. Not to mention the cost of wheat, the higher fuel prices go, the higher wheat prices go. This a very real and present threat, many have talked about food shortages and thanks to the QE2 fueled perfect storm mentioned before this issue could derail stocks and the recovery at any time. People globally have already been feeling this pinch; folks in the developed nations will soon be feeling it even more as well.


I am expecting the GDP to chug along at about 2% again this year. Some argue that what positive data we do see in GDP is purely a result of QE2. I don’t think this is true, since in my opinion there is an underground economy fueling an organic recovery. This is the only way to explain how the US is doing so well in the recovery up to this point in my opinion. I fully expect the GDP to continue in this same range for the next several years. This is a new norm and with the result of Benny and the Inkjets policies, everything has been drastically inflated. Resulting in an apparent economic data “recovery” but I would rather call it an economic data “rescue” because the economy has been rescued from intense contraction (that would have been painful but was sorely needed in my opinion).


The two year bull cycle in stocks I have observed and forecasted on this blog for two years now appears to be on an unusual third year extension. This is based on a number of factors, QE2 not being the least of them. As a result I expect to see another good year in the S&P500 of about 15-20%. I am expecting some volatility this summer, the age old adage of sell in May and go away will probably be very true this year.


Last year I wrote: “…Of course you can’t forget the possibility of events affecting the market. Any number of things could change the outlook for the dollar/stocks and energy/commodities in a hurry not the least of which is terror; but China is also a big problem. We can’t depend on them to keep fueling the bulk of this recovery as market action in recent weeks is telling us….”
This has turned out to be quite accurate in the sense that the dirty laundry that is the China economic machine is finally starting to be aired. As a result they are slowing there economy down with rate hikes. This has had a pretty significant affect on the markets over the past year. Slowing down a QE2 fueled rally in stocks and keeping major currencies like the Euro in check.
While my “Death of the Dollar” mantra has matured recently and I don’t think we are going to see that happen completely for the foreseeable future. I, like everyone am bombarded with spin, and I am slowly beginning to see straight as I learn more. I have come to the conclusion that the dollar is the prettiest pig in the ugly contest as one analyst put it during the darkest months after the global meltdown in summer 2008, and that’s not likely to ever change. If it does, it will only be temporary before the replacement is found to be more attractive at first, but not at all functional or an even worse basket case. This puts the Euro on a teetering ledge. I expect to see the EURUSD trade in a range this year between 1.19-1.50 on the outside. I don’t think it is destined to fall apart this year. In fact China has begun buying up EURUSD and Euro zone debt. So the EURUSD looks to be well supported for the foreseeable future. We will see how things look next year, but you know the mantra by now: if these politicians and bankers don’t figure out how to stop creating bubbles and start creating a system that actually works this year were probably all heading down the chute in short order.
This does not mean that gold is going to stop going up though. Quite the contrary, it only adds more fuel to the fire as it becomes an instrument of hedging against uncertainty even for the smallest of households to the largest of banks.
Another factor leading to gold and the rise of silver in my estimation is the IPod. There are over 500 million phone users in India alone, and soon the phone and pc will be replaced for the most part by the IPod. Can anyone say upgrade? This will only put more pressure on already limited resources.
I could rattle off the traditional litany of reasons to buy gold and silver I have cited on this blog many times before, but I thought the IPod argument was a refreshing perspective; especially since the Debbie Downers of the gold rally love to point to supply and demand as a cornerstone for their argument against rising gold prices.
I have come to the point where I am not going to guess about possible corrections or what levels any corrections might go to. What I have observed is the most recent correction was decent, but has left those looking for more with a dry mouth of disappointment. In 2009 I did post charts on Twitter when gold re-tested the 1070-90 dollars per ounce support indicating it was a good place to increase long positions. I also forecasted last year that gold would close at around $1200 an ounce. This was pretty accurate to put it fairly. I expect gold to close at a lofty $1500 and ounce this year, perhaps even make a run to $2000 or at least $1681. It’s rather hard to guess at exact levels at this point since it has never been this high before and the best tool besides common sense is projected fib ratios. Silver is also on track for $50 an ounce. I have never talked much about silver, choosing rather to speak about gold as a barometer. It goes with out saying that if gold is going up then so is silver, and that has been true. Some argue that the move in silver is actually what is behind the rally in gold and is a canary in the coal mine for the economy and even geopolitics. It appears these speculators are being rewarded with more evidence everyday as the price of silver goes parabolic.
Oil can’t really sustain a level above $100 a barrel as long as the economy is in recovery in the opinion of many experts. So I expect to see oil to continue bouncing around from the $80-150 a barrel for the year. The wide range is due to all the factors I have been pointing out on this blog for over two years now and more. Not the least of which is the Middle East Revolution. It could go far higher if the Middle East alignment against the USA and Israel we have seen manifesting as a result of the ongoing revolutions continues spreading to other countries allied with America and Israel like Saudi Arabia. Like I said before, it’s hard not to get caught up in the death of the dollar mantra and freak out about oil prices. But in the mildest tone I can muster: if the politicians don’t do something about our energy and foreign policies soon the dooms dayers are probably right, we will see oil being traded in a currency other than the dollar for the most part and this will set off a chain reaction that will cause gas, oil and food prices in the USA to go through the roof. It goes without saying that most of the rest of the world will suffer even more as they already have been for many years.
This could all happen over night, so being a trader or investor in this time is something that requires paying close attention to the ongoing unraveling of Americas influence, credibility and power. A process that has been expedited under an idealistic Administration brought to power by a naive populace wooed by a media so immersed in affirmative action and getting an African American in power that a mainstream journalist like Tom Brokaw can be quoted on Charlie Rose as saying “We don’t really know who he is or what he stands for…” on the eve of the election. A populace that still fails to see the wisdom former president Bush led the US with; and still sees him as the worst president ever simply because everything unraveled on his watch. Never mind it was his ideal of bringing democracy to the Middle East that is largely responsible for the revolutions we now see taking place; just as it was Bush who popped the oil bubble in 2008 by lifting the ban on offshore drilling. It goes without saying that every president I know of has done something to help destroy this country, and of course Bush was no exception, but vilifying him and canonizing another is the road to repeating the mistakes of the past.

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