Balestra founder and CIO James Melcher believes the U.S. has failed to learn the lessons of the Great Depression, that policy makers have little power to correct or bandage the economic crisis, and that the U.S. economy has much farther to fall. In his latest investor communication, Melcher lays out a case for defensiveness and caution.
Here's an excerpt from Melcher's November 30 letter. The full text is available on scribd.
As a true long-term investor, Balestra has remained steadfast in its negative stance on all markets except precious metals and high-grade bonds. Over the past few months (after the rally was well established) we have heard many economists and Wall Street analysts explain that economic data and market cycles over the past 60 years clearly show that the recession is over and that both the global economy and investment markets will continue to rise. They are looking at the wrong 60 years. As we discussed in our February 25, 2009 Bulletin, 60 years ago after ten years of depression; five years of a world war; and another five years of recovery, which included a mildpost-war recession, the United States was primed to enter a golden age of long-term growth and prosperity, when a confluence of major economic, social, and demographic factors reinforced each other in a virtuous upward spiral to produce a nearly continuous period of growth and prosperity. The major factors were:
• pent-up savings and consumer demand
• careful consumer spending and cautious use of credit
• the baby boom, which itself fostered the greatest increase in consumption ever
• cheap and abundant domestic energy sources
• women entering the labor force in large numbers, now accounting for half of all workers
• burgeoning international trade surplus
• low interest rates in the 50s and 60s, and especially since 2001
• steadily increasing easy credit until last year
• the primacy of the U.S. dollar during most of this period
Over the past 60 years, and especially since about 1996, we have shifted to an economy in which major negative conditions have been pushing the United States along with the rest of the world into a self-reinforcing downward spiral. These factors include the following:
• extensive wealth destruction
• high and rising unemployment and underemployment of nearly 18% in the U.S.
• a record decline in housing prices, likely beginning another leg down, along with collapsing commercial real estate valuations
• over-leveraged consumers now increasingly squeezed by job losses, falling home prices, and heavy debt payments - with rising food and energy prices further limiting discretionary spending
• a continuing decline in credit, with consumer borrowing having collapsed into negative territory
• a declining U.S. dollar with an increasing shift to other currencies for international trade.
We are no longer in a golden age. We are in trouble. The correction of economic and social distortions that have built up over the past twenty years is underway. It is creating serious ongoing economic and social problems, and despite the reassurances of central bankers and investment pundits, there is no easy way to deal with it. The Fed's standard remedy for treating recessions by lowering interest rates and boosting liquidity has been seriously abused since 1982. The normal clearing function of recessions was aborted by an over-reactive monetary intervention in every case, while fiscal irresponsibility at all levels of government mounted unimpeded, and regulators were curtailed, reviled, or fired. These policies are not a template for remediation. As we wrote in a recent Balestra Bulletin: for policymakers to expect the most over-borrowed and over-spent consumers in the world to borrow and spend more in order to carry us out of this recession is foolishness. So we suggest that the experts change their playbook and look for guidance at the U.S. from the late 1920s through the 1930s, or more recently, Japan's ongoing tortuous financial struggle, which has its roots in the excesses of the1980s.