The gods will take care of it - The Daily Reckoning

The gods will take care of it

Jan 19, 2015

- By Bill Bonner

- Bill Bonner
Rancho Santana, Nicaragua

Dear Diary,

Today, we were going to talk about trading stops. But we need to look first at what is going on in the markets. In short: things are starting to happen!

Dow up 190 on Friday. Gold unchanged.

You probably thought we were exaggerating the connection between the Paris terrorist killings and the credit bubble, right. We almost thought so ourselves. But then a report in the French magazine La Liberation told us about Amedy Coulibaly, the terrorist who took hostages at a kosher food store and killed three of them. With no job and no income, how did he finance his life? How did he buy his weapons? He borrowed 6,000 euros from a consumer credit company, Cofidis, which offers on-line loans. His attack was financed on credit!

And not just his. He also helped finance the brothers who attacked Charlie Hebdo. Coulibaly:

"I helped him (one of the Kouachi brothers) by giving him a few thousand euros so he could finish buying what he needed."

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So, now we see that both sides in the war on terror are financed on credit.

But wait. How are those terrorists going to pay back these loans? The local radical 'emir' had a conversation with Coulibaly. Don't worry about your debts, he told the terrorists, "Allah will take charge of them."

No kidding.

And he's right, of course. The gods will take care of it.

Getting back to last week's events, two things happened last week that could signal the beginning of the end of the credit bubble. First, the price of oil dropped further than almost anyone ever thought possible. Second, the Swiss central bank was the first to give up the fight against the market gods.

Why are these important?

Debt is always deflationary. That is, the more people owe, the more of future earnings they have to set aside to pay it off. After a credit expansion, like a headache after a wild party, comes a credit contraction. You can try to hold it off by raising a glass or two more. But what has to happen will happen sometime, usually at the very worst time. After credit inflation, real prices go down; the gods insist on it.

And yet, the strategy of almost every central bank in the developed world - save Germany - has been to keep the bar open as long as possible, hoping the problem will go away. Debt deflation is not permitted. The Fed, for example, has added $3.5 trillion to its holdings (US money base) to try to prevent it.

Despite all these free drinks the party came to an end for oil 6 months ago. Then, commentators - chiefly in America - were all over the story...telling us what a boon this would be to the US economy.

Larry Kudlow:

    "This is a gigantic tax cut for the American economy."
The story was simple. A lower price at the gas pumps would leave consumers with more money in their pockets and thereby boost consumer spending in the U.S.

Sounds logical. But in the economic world there is always 'more to the story.'

The markets started to tell that story when the December consumer spending numbers were reported last week. Instead of going up, they went down 0.9%. And if you look at all the consumer spending gains during the year, you find the biggest increase in auto sales. 'Ah ha,' you may say, 'a lower price of gas is paying off.' But wait for the rest of the story.

Auto sales rose almost 9% last year - an additional $86 billion. But what's this? Auto debt rose $89 billion. It was like the good ol' days of the subprime mortgage bubble. Then, people were 'taking out equity' from their houses. Now, they're taking it out from their cars. They borrow more than the cars actually cost, pocketing the difference.

Delinquencies are already back to 2008 levels as more and more of total auto debt - expected to reach $1 trillion this year - is subprime.

Then, guess what will happen? The repo men will come out...used cars will hit the lots...prices will fall and the industry's collateral will give way.

Who will continue making auto payments on underwater autos?

Allah? Inshallah!

Bill Bonner is the President & Founder of Agora Inc, an international publisher of financial and special interest books and newsletters.

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