Richebacher Brief May 9th

BEST OF KURT RICHEBACHER
May 9, 2005
It can no longer be doubted that the world economy is heading into a new downturn following a recovery that has been unusually short and weak among the industrial countries. The loss of momentum during the second half of last year was especially pronounced in Japan and several Far Eastern countries. In Europe, the major eurozone economies have been making headlines for some time with very unpleasant growth and employment numbers.
There seemed to be two great exceptions to this unfolding general economic slowdown: the United States and China. That, at least, has been the overwhelming perception. A strengthening dollar largely reflected the consensus view that the growth spread between the United States and the eurozone would considerably widen again, as the U.S. economy maintained its strong growth.
At a conference of the Federal Reserve Bank of San Francisco on April 14, Fed Governor Donald L. Kohn presented a cheerful picture of the U.S. economy, starting his speech: "The economy has been performing well of late. Economic activity has shown a good bit of forward momentum as businesses have stepped up their purchases of capital equipment and households have continued to increase their spending on consumer goods and services and on houses."
Further fuel for the new dollar bullishness arose from the expectation that gradually accelerating inflation would induce the Fed to step up its rate hikes further. In its earlier comments, the Fed’s Federal Open Market Committee has done its best to confirm these high-riding expectations about the economy.
As we have explained in detail many times, we radically disagree with this general unconcern about the U.S. economy. Its stellar aggregate growth rates, particularly since 2000, have masked a dramatic deterioration in the four key fundamental determinants of long-term economic growth: national and personal savings, productive capital investment, profits and the current account of the balance of payments. All four are in shambles.
In essence, recessions are the phase in the business cycle in which consumers and businesses unwind the borrowing and spending excesses of the prior boom. In the U.S. case, the ugly reality is that the excesses and imbalances of the boom years in the late 1990s have grown in the past few years to extremes unprecedented in history.
The big question now is whether the rosy assessment of the U.S. economy is right or wrong. In our view, it is dead wrong, for two main reasons: First, contrary to perception, the flow of economic data since the beginning of the year suggests the exact opposite; and second, and more important, the U.S. economy’s recovery from its recession in 2001 has a precarious foundation in the unsustainable housing bubble and exploding consumer debts, while employment and income growth are calamitously lagging.
While scrutinizing the economic data, we first noted a sharp slowdown in consumer spending. Inflation adjusted, it declined slightly in January, by 0.1%. An increase of 0.3% followed in February. Meanwhile, sluggish retail trade figures for March suggest little more than stagnation. With these weak numbers before our eyes, we have been following the public discussion and the Fed’s statements about the strong economy with amazement.