The Economy Guy

Issue: 12/18/07 Tuesday

The market consolidated today mostly.  Thank goodness stocks didn’t go down again – so it’s like dodging a bullet.  We continue to be firmly in a sideways trend in the market, technically speaking.

The big news was that the European Central Bank (ECB) will drop $500B into the European system over the next two weeks.  Technically speaking this is the cash needed to get across the important year end cash requirements, but it is twice what is normally needed.  That means the ECB added an additional $250B into the European economy.  The bond market was asking itself, “If they had to add that much money, what kind of problem is really out there?”  This is a great question, and the type of question you should always ask yourself.

Here is a story about China’s economy.

The size of China‘s economy is overestimated by some 40 percent based on most current measures, but is the world’s second largest, the World Bank said Monday. In a report ranking the world’s economies, the World Bank said a more reliable method of estimation using “purchasing power parity” (PPP) shows a much smaller value than the traditional market value estimates which the Bank called “less reliable.”

Now this story is interesting because it shows how silly the World Bank is.  First lesson is “the World Bank is a joke.”  The second less is “Don’t believe everything you read.”  PPP is totally dependent on exchange rates.  If the Chinese increased their exchange rate by 40%, the “40% overestimation” would disappear.  The best measure of a countries economy is GDP, and will remain so for awhile.

Here is an important statistic for the US.

The U.S. trade deficit declined during the third quarter to the lowest level in two years, raising hopes that the country’s trade troubles could be easing.  The Commerce Department reported Monday that the current account trade deficit fell by 5.5 percent to $178.5 billion in the July-September quarter. That was a better-than-expected showing and the smallest current account imbalance since a $173.4 billion deficit in the third quarter of 2005. The current account is the most comprehensive measure of trade because it includes not only trade in products and services but also investment flows between countries.  The current account deficit had set all-time highs for five consecutive years but has declined for two consecutive quarters, prompting economists to predict that this year will see the deficit finally start to decline.

This is good news for the US, but not great news.  So what if the current account is declining?  It is still so big that we are drowning other countries in our dollars.  The weak dollar is causing the decline as we increase our exports at the expense of other nation’s exports.

Keep your eye on the inflation potential.

Wheat prices surged above $10 a bushel for the first time ever Monday amid concerns that strong demand globally could result in a grain shortage in the United States next year — worsening food price inflation. Wheat supplies in the U.S. have dwindled this year as one wheat crop after another around the world has been damaged by poor weather, most recently in Australia and Argentina.

Here is another sign of inflation.  Wheat has NEVER been $10/bushel before. This price increase should work itself onto our grocery shelves next year sometime.

I love it when someone else echoes my concern about Citibank.

The financials are trading lower on concerns about problems in the credit markets and exposure to structured investment vehicles [SIVs]. These worries are not new, but don’t seem to be going away any time soon. In fact, the troubles prompted one Morgan Stanley analyst to recommend Citigroup as the top short investment idea for 2008. The sell recommendation came last Wednesday, and just two days before Moody’s downgraded Citi’s credit rating on concerns about low capital ratios. Monday, CNBC commentators said investors are now speculating that Citigroup will also cut its dividend. Shares of the bank have fallen 11.5% since last Monday and among the worst performers of the Dow over the past week.

The horse has bolted, so it’s time to close the barn door.

The Fed has been under attack for not doing more to stem the crisis as hundreds of thousands of people lost the roof over their head. The situation raised the odds the country will fall into recession, unhinged Wall Street, racked up multibillion losses for financial companies and resulted in political finger-pointing over who was to blame.  The proposed rules, endorsed by the Federal Reserve Board in a 5-0 vote, would crack down on a range of shady lending practices that has burned many of the nation’s riskiest sub-prime borrowers — those with spotty credit or low incomes — who have been hardest hit by the housing and credit debacles. The rules also would curtail misleading ads for many types of mortgages and bolster financial disclosures to borrowers.

This is too little, too late.

Here are Tuesday’s closing details:
DJ30 – 13,232 (Up 65 points)
10 year US Treasury Bond – 4.12% (Down 0.07%)
Euro $1.4414
Gold closed at $807 per ounce.  (Up $8)
Oil Closed at $90.49 (Down $0.14)
Gasoline is $2.30 (Down $.03)