US borrows cheap despite record deficits - The Daily Reckoning
The Daily Reckoning by Bill Bonner
On This Day - 28 July 2010
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Paris, France,

Yesterday, the rally on Wall Street slowed down a bit. The Dow rose 12 points.

Gold had a bad day - down $25. We had guessed that gold would be going down. But it is still too early to detect a real trend. For the moment, the financial markets and the economy are going in different directions. The stock market is signaling a boom. The economy and gold are signaling a bust. We'll have to wait and see which direction prevails...

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In the meantime, had a seer come to us a couple of years ago with a tale of back-to-back US deficits totaling $3 trillion over two years his credibility would have been in doubt. Had he also foreseen US Treasury debt at record low yields - at the same time -- he would have no credibility at all.

One of the surest things we thought we thought we knew back then was that the government could not simultaneously run huge deficits and borrow cheaply. It was one or the other, that was all there was to it.

It turns out that Dick Cheney was right all along. Deficits don't matter. At least, they don't matter until they do matter.

And they don't matter right now. Bloomberg:

"For all the criticism of record budget deficits, President Barack Obama can take comfort knowing that for the first time in half a century, government bond yields are declining during an economic expansion and Treasury Secretary Timothy F. Geithner is selling two-year notes with the lowest interest rates ever."

"The combination of record-low yields on two-year notes, 10- year rates below 3 percent and a deficit projected to surpass $1.4 trillion for a second consecutive year is a signal that the bond market is less concerned with government spending than with getting the economy back on track."

"The last time yields were this low as the economy expanded was in 1955, when Ray Kroc founded McDonald's Corp. and Bill Haley's 'Rock Around The Clock' topped the music charts. The 10- year note yield averaged 2.65 percent that year, according to monthly data compiled by the Fed, while the economy grew 6.4 percent, consumer prices for the year declined 0.4 percent and the government ran a fourth consecutive budget deficit. "


Why have yields fallen so much? Because the economy is not recovering. Investors look for a safe place to put their money. Bloomberg continues:

"Expectations of growth over the next couple of years have indeed come down," Alan Blinder, former Fed vice chairman, and economics professor at Princeton University, said in a telephone interview. "There is still plenty of fear out there in the world financial markets, which has investors all over the world scurrying into Treasuries, even though they get paid very little."

We opined - without doing any research on the subject - that Harley Davidson had probably peaked out. Only old men ride Harleys. The young prefer a different style of bike. We guessed that it was time to sell the stock.

Naturally, the company's earnings have soared since then. But not because of increased sales. Instead, like the rest of corporate America, Harley is learning to earn more money without selling more merchandise.

The New York Times has the story:

"Motorcycle sales are falling in 2010, as they have for each of the last three years. The company does not expect a turnaround anytime soon."

"But despite that drought, Harley's profits are rising - soaring, in fact. Last week, Harley reported a $71 million profit in the second quarter, more than triple what it earned a year ago."

"This seeming contradiction - falling sales and rising profits - is one reason the mood on Wall Street is so much more buoyant than in households, where pessimism runs deep and joblessness shows few signs of easing."

"Many companies are focusing on cost-cutting to keep profits growing, but the benefits are mostly going to shareholders instead of the broader economy, as management conserves cash rather than bolstering hiring and production. Harley, for example, has announced plans to cut 1,400 to 1,600 more jobs by the end of next year. That is on top of 2,000 job cuts last year - more than a fifth of its work force."


Everyone is doing the right thing. Households are reducing spending. Business is reducing its costs. GDP growth is falling and investors are taking shelter in Treasury debt.

So what's the problem? Well, the feds can't bear to see people doing the right thing. They want them to do the wrong thing -- that is, they want them to spend money they don't have on things they don't need. Why? Because it makes the economy look good...and makes them look like they know what they are doing.

It's all hokum and folderol, dear reader...all hokum and folderol...

*** Paris is for lovers. We are sitting in a café in the 19th arrondissement, with a complete set of café furniture stuck upside down on the ceiling. In front of us, as we finish our Daily Reckoning, is a couple of young Japanese or Chinese. Good looking people. The man has a very distinctive look, with long hair and a chiseled face. Not knowing anything more about it, we would guess that he is a descendant of Mongol invaders who swept into China and set up a dynasty under Kublai Khan in the 13th century. He is a cross between Jackie Chan and Genghis Khan. She, on the other hand, has a prettier, softer, more civilized look, like the delicate court women found on Chinese paintings.

What an ardent lover he is! He leans towards her. He kisses her. He strokes her shoulders and her leg. He is so full of life. So enthusiastic. It is hard not to like him.

But she is being coy. It is not clear she really appreciates his attention. Maybe she is mad about something. Or, maybe she is thinking about something else...shopping...travel...or how she will pay her bills.

Either he doesn't notice...doesn't care...or he is trying to win her over. Good luck to him!

*** There are two kinds of people. There are the insiders and the outsiders. What makes the Vancouver conference particularly interesting and fun is that it is full of outsiders.

Insiders are people who, literally, want to be inside. They are joiners. They are club members. They participate in community affairs and attend meetings. They know the right people and make easy conversation at dinner parties. They have the right ideas too, those that are socially acceptable. They get them from magazines and TV.

If there were a crowd, the insiders would want to be in the middle of it. They are very alert to how to 'dress for success' and very careful to send their children to the right schools. Some are ambitious. Some are not. Some are leaders. Some are followers. But whatever they get in life they expect to get it by following paths laid out for them.

But the people at the Vancouver conference are rarely insiders. They are often oddballs, eccentrics and free-thinkers. They tend to be original in their habits and in their dress. They went to universities no one ever heard of and followed career paths their parents warned them against. They can be excruciatingly bad company, because they tend to focus on narrow areas, noticing things that others miss...developing skills and interests that others avoid. They are always on the fringe...on the margins...on the edges of mainstream life. In short, they are Daily Reckoning readers!

That is why it is a pleasure to meet them and hear their stories. One joined the army, learned radio communications, and went out on his own to build a technology company based on his own invention. Another bought up apartment buildings in Cleveland and sold them at the top of the bubble. One dropped out of high school. Another makes movies.

"I went to college and studied engineering," said a man with a German accent. "Then, I came to the US. I didn't have any money. I didn't have any connections. So I looked for a job. This was many years ago, when you could still do things like this. After a couple of weeks, though, I was getting desperate. Because I was running out of money completely. So, I went into a bakery. The guy asked me if I knew anything about baking bread. I said 'sure.' All I knew was that I had lived above a bakery in Germany. I knew they started work early in the morning. But I figured I'd at least get a lot to eat before he realized I didn't know anything. He told me I could start tomorrow.

"That afternoon, I went to the library and found a book on baking. I read it carefully. So, at least I knew what it was all about, in theory. But when I got to work, I didn't know how to operate the ovens or anything like that. And my boss saw I didn't know. So I told him... 'These are very different from the ovens we have in Germany.'

"He pointed to the label on the machine - 'Made in Germany' - ha ha.... But we became good friends and we opened up a whole chain of bakeries."

Outsiders often have strange ideas. But they always have good stories to tell.

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

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