* Investment Strategy -- A direct line to Gary Shilling's thinking on current and prospective investment opportunities as well as the investment themes we're focusing on.  Gary was right on the money--and years ahead of the Wall Street and media herd--when it came to housing's collapse and the rippling effect throughout the economy.   Insight readers were kept apprised during the past few years of the coming collapse and its implications.

      * Summing Up -- Examines economic and financial developments and looks ahead to how they may affect our investment themes. 

       * Commentary -- Gary Shilling's often humorous, sometimes philosophical look at almost any topic.

JULY 2008
“High Unemployment Ahead”:  The recession so far has centered in the collapse of housing and Wall Street's woes, with little weakness in GDP or employment.  But the unemployment rate, which jumped from 5.0% in April to 5.5% in May, is headed for over 7%, according to our June forecast and more recent statistical model estimates, as consumer spending sinks after the limited spending of tax rebates.  An 8% rate in certainly possible, given the severity of our recession forecast.  Cyclical industries will see the big jumps as will those harmed by the consumer retreat from discretionary purchases.
The limited growth in employment in the 2001-2007 expansion is no bulwark against layoffs.  It resulted from sluggish economic growth, in part caused by limited rebound from the mild 2001 recession.  Housing never really turned down back then,. so it had no big revival.

“The Next Shoes To Drop”:  Wall Street and investors continue to reel from writedowns and losses related to the collapsing housing sector.  Still, other bad debt shoes may well drop and, together, could exceed the fallout from bad mortgages, even though they would not blindside investors as did the subprime slime in early 2007.
Leaping junk bond delinquencies are likely to cause considerable pain as are the related leveraged loans that still remain on banks' books.  Securitized home equity loans are close to subprime mortgages in size and very vulnerable.  Securities backed by auto loans are about one-quarter as big as subprime mortgages but also plagued by jumping delinquencies, especially among dealer-generated loans.
Consumers' reliance on credit card borrowing, where receivables are about half the size of subprime securitizations outstanding, is spawning delinquency and charge-off jumps.  The private securitizations of student loans may also suffer big losses.

JUNE 2008
“Semi-Annual U.S. Economic Outlook: Two Underway, Two Just Starting”:  The current U.S. recession is unfolding in four phases.  The first is the collapse in housing, initiated in early 2007 by the Subprime Slime.  Excess inventories will keep downward pressure on house prices through 2010 with further dire consequences for mortgage-backed securities.  With out long-held forecast of a 25% peak-to-trough house price drop, the home equity of the average mortgage borrower will be eliminated.  Massive further government bailouts will be politically unavoidable.
A year ago, the housing trouble spread to Wall Street and revealed extreme financial leverage that backed huge holdings of highly illiquid securities that were priced for above-market values.  The big writedown and losses (Phase 2 of the recession) are far from over, and the financial sector's ongoing deleveraging will squeeze its profits and curtail lending and economic activity in other sectors.  Despite the Fed bailout of Bear Stearns, other Wall Street disasters are quite likely.
Phase 3, massive consumer retrenchment, the worst since the 1930s, is commencing.  With the evaporation of home equity, exhaustion of other borrowing sources, and leaps in energy and food prices, consumers have no option but to slash spending.  And they're starting to.  Meanwhile, growing signs of recession range from leaping part-time employment to store closings to rising office vacancy rates to falling remittances by Mexican immigrants back home.  The Fed can't stop the economic decline or further financial crises.  The tax rebates will go to debt repayment, saving and high energy bills, not discretionary spending.
By year's  end, Phase 4 should start as falling U.S. consumer spending cuts the imports that fuel foreign growth.  Bursting foreign housing bubbles, weak consumer spending in Europe and Japan and the global financial crisis will also be at work.
Our forecast is a lousy one for stocks and commodities, but great for the dollar and Treasury bonds.

MAY 2008
“Devilish Deleveraging”:  Financial leverage has been extreme in recent years, especially in the U.S. financial sector, and in the household sector where mortgage borrowing was the driver.  Our analysis indicated that extremes not seen in 100 years were reached before the recent deleveraging commenced.
With the 1990s dot com stock bubble now history and house prices headed for a total 25% decline, consumers have run out of borrowing power and have no choice but to mount a saving spree.  That will replace a 25-year borrowing and spending binge, to the detriment of consumer discretionary spending and economic growth here and especially in the many countries that rely on exports to America.
It will be years before speculation again infects financial business.  Meanwhile, funding for nonfinancial sectors will be limited and massive deleveraging will constrict the profitability of many financial institutions.

“Inflation Feared, Deflation Likely”:  Inflation fears are rampant, especially as food and energy prices leap and the Fed eases.  But the declining real incomes that make inflation so scary imply that globalization will prevent commodity inflation from spreading to general wages and prices.
Also, the speculative commodity bubble appears to be breaking and will be deflated by shrinking demand as the recession spreads globally.  The weak dollar has had little inflationary impact and, regardless, is starting to rally.  And Fed ease is irrelevant in the face of financial market freeze-ups and massive financial deleveraging.  In any event, wartime excessive government spending is the fundamental cause of inflation, and that is unlikely unless the Middle East explodes.

APRIL 2008
“After The Bear Bust, What's Next?”:  Bear Stearns' collapse highlights the basis of Wall Street's crisis: complicated and opaque derivatives based on subprime mortgages and other questionable debts that are of unknown value, are highly illiquid and tremendously leveraged. Highly leveraged speculation has also infected consumers, and we're also seeing highly leveraged positions in commercial real estate, commodities, junk securities and foreign currencies being unwound as losses mount. Global deleverging is in full swing and will close the gap between the speculative financial sphere and the real world of goods and services.

“Forget Decoupling”:  Emerging economies as well as developed countries are unlikely to escape the    deepening U.S. recession and spreading financial crises. Ireland, Spain and the U.K. had housing bubbles that are now deflating and depressing their economies. Consumers are retrenching in Spain, Italy and, notably, Germany. As Europe slips, so too does Japan, whose economy is increasingly dependent on exports increasingly bound for China. Consumer spending and housing remain depressed. Even the orthodox IMF is saying, Be prepared for massive fiscal stimuli and financial bailouts in a troubled world.

“Europe's Monetary Mess”:  The European Central Bank is reluctant to cut interest rates because it fears inflation. Furthermore, lush safety nets in the eurozone make unemployment relatively painless.  Still, as recession and financial crises spread globally, the ECB will be forced to yield. The common monetary policy for diverse eurozone economies creates pressure for diverse fiscal policies, especially in countries close to recession.  A severe recession may test adherence to a common currency and central bank.

MARCH 2008

“Bear Market Refuges”:  A major recession appears to be underway, and with it a bear market in stocks. We continue to favor avoiding or shorting stocks, and in past recessionrelated bear markets none of the industry groups we analyzed consistently rose in price. But in those selloffs, and perhaps this time too, the best of the bad lot were electric utilities, health care and consumer staples like soft drinks, foods and household products.  This recession is driven by the ongoing collapse in housing, the related nosedive in consumer spending, especially on discretionary items, and the spreading and deepening financial crises. The industries involved will suffer accelerating pressure, and that may well spill over to consumer staples and other normally safer areas.

“Pricing Financial Assets”:  The prices of thinly-traded derivatives linked to subprime mortgages and other questionable securities are plummeting as accountants and regulators force their holders to mark them to market.  Opponents of this pricing technique argue that it overly depresses their values, especially when they are priced in relation to indices that are favorites of short sellers. They also contend that marking to market treats the entire security issue as constantly for sale and it probably isn't.
But highly liquid stocks are similarly priced with the last sale price used to determine the company's entire capital value, even though only a small percentage of the float could be transacted at that price. Few think about that fact with liquid securities, but the only difference between market pricing of the liquid and the illiquid is their liquidity.

FEBRUARY 2008
“Recession—How Deep? How Broad?”:  The recession the U.S. economy likely entered in late 2007 promises to be broad and deep. It's being driven by the collapse in housing, the rapid disappearance of home equity on which consumer spending depended and the spreading credit crunch.  As falling U.S. imports spread the recession globally, American exports will drop.  Forget the decoupling theory.  Washington-backed subprime mortgage bailouts will be of little help. The panicked Fed is pushing on a string, and the tax rebate plan, like its predecessors, will probably be too little, too late. Corporate profits and stocks are extremely vulnerable. We're not forecasting financial collapse beyond housing, but earlier intense speculation makes many areas vulnerable. Look for downside risks in junk securities, commercial real estate, emerging market equities and debt, U.S. financial houses and hedge funds.

“Excess Inventories Imply 25% House Price Decline”:  Our long-held forecast of a 25% decline in existing median house prices looks much more likely, even to begrudging optimists.  Excess inventories are the mortal enemy of prices, and our long-term model of housing activity indicated that 2 million extra houses remained from the housing boom. All but 0.5 million are identifiable in new and used housing inventories and the rest should emerge as speculators dump homes and foreclosures mount. A second model we developed shows that whenever the supply of houses in relation to sales exceeds 4.3 months, prices fall. So this model predicts a real house price drop of 28%, in line with our earlier forecast. Two other models confirm these forecasts, which may be optimistic as deflationary expectations add another impetus to falling house prices.

JANUARY 2008
“The 2008 Investment Outlook: 13 Recommendations”:  The investment climate we outlined in our Jan. 2007 Insight proved valid.  Furthermore, a number of our investment themes, led by the expected collapse in the housing bubble, were well-timed.  But some, like the spreading of economic weakness to China and the rest of the world, have yet to unfold.
Regardless, these investment themes still appear valid, so this year's "Investment Outlook" concentrates   on 13 recommendations.

DECEMBER 2007
“Semi-Annual U.S. Economic Outlook: Hope vs. Likelihood”:  Optimists have denied the spreading subprime slime all year. Still, their pipe dreams of never-ending economic expansion and soaring stocks were interrupted by the subprime mortgage woes early this year, the Bear Bust in the summer and then by CDO write-offs initiated by Citigroup and Merrill Lynch more recently. The cockroach, not the kitchen sink, theory prevails.
The collapse in house prices is commencing as builders dump inventories, homeowners who want to sell panic and subprime mortgage rates reset to unaffordable levels. Other speculative areas like emerging market equity and debt, junk bonds, LBOs, commodities and the carry trade are likely to suffer as deleveraging spreads.
A U.S. recession is unfolding as home equity disappears and, as a result, con-sumers retrench. The weak imports that will follow will transfer recession abroad, enhanced by growing protectionism.  Global business weakness and a dollar rally before long are bad news for equi-ties, but fading inflation fears, financial crises, recession and further Fed ease will keep Treasury bond prices soaring.

“What Is Employment Telling Us?”:  Employment normally peaks at the top of a business expansion—not surprising, given its link to economic activity. Over-all payroll employment, as initially reported, has not yet turned down, but since data revisions tend to be downward at peaks, the job total could already be falling.
Construction and manufacturing employment have been declining for more months than is usual before business peaks. Temporary jobs and overtime hours, both reliable leading indicators, have turned down decisively. Employment data, then, is consistent with an economy that is already in or close to recession.
 
NOVEMBER 2007
“The Chinese Middle Class: 110 Million Is Not Enough”:  ‘Decoupling’ is the buzz word and Wall Street hopes foreign economies, especially China and India, will lead global growth as U.S. housing and consumers falter.  Those economies, particularly China, are driven by ex-ports, which account for about 40% of GDP.  And since most exports, directly or indirectly, are bought by U.S. consumers, they will drop as Americans retrench.
China's economy could shift to being domestically-driven if her middle class is big enough and spends freely.  But Chinese consumers save a third of their income to cover old age, health and other costs no longer provided by the government.  The stock market bubble there attests to huge savings with few investment alternatives.
And although China's middle and upper classes are 110 million strong, that's only 8% of her 1.4 billion population and controls just 25% of GDP.  In contrast, America's middle and upper classes comprise about 80% of our 300 million population with incomes that equal 80% of GDP.
China also faces mountains of excess capacity as her self-feeding capital spending boom ends.  And she's faced with protectionism from the U.S. and Europe.  Pollution clean-up costs will be immense as will infrastructure outlays to deal with, among other things, the gridlocked roads we saw repeatedly on our recent trip to China.  The rapidly aging population, the result of the one child per family policy, is a longer-term drag as more of the output of those still working goes to retirees.
We expect the looming U.S. recession to spread globally, and Chinese domestic spending on cellphones and PCs will plummet as the exports and direct foreign investment that have financed them dry up.

OCTOBER 2007
“Did The Fed Flinch?”: Markets believe that the Fed cut rates recently to bail out housing and a wide range of speculators, but more likely it moved to protect financial markets and due to concerns over the economy.  Indeed, the Fed normally begins a credit ease campaign around the business peak, and the economy appears close to recession.  Housing continues its collapse, employment growth is falling and consumers are retrenching.
It's unlikely the Fed can revive the economy.  Lower rates wouldn't rekindle subprime mortgages.  And recent events and long-run trends indicate that the central bank's sway over credit markets and the economy is small.  At the same time, the likelihood that fed ease will renew inflation is minimal.  Fiscal actions contemplated in Washington so far to aid housing will have little effect, given the very poor quality of subprime loans.

“Rich Schools”: Many top private schools are extremely wealthy.  They've amassed this money by charging high tuition and then redistributing much of it through scholarships, through alumni generosity and by superior returns on their endowments.
This opulence is reflected in colleges spending some of it inefficiently and on questionable activities.  Donors are revolting as some give to lesser schools they didn't attend but feel are more deserving.  Others seek to restrict college uses of their money while in Washington, the Senate wonders why student tuition and fees don't fall as endowments mount.

SEPTEMBER 2007
“The Deleveraging Of Global Finance”:  In the last month, and with amazing speed, the subprime slime spread to many other speculative areas that are overrun with highly leveraged hot money.
Investors who thought their diversification would protect them were shocked by the uniformity of the selloffs, and didn't realize that diversification only works if everyone isn't doing the same thing with immense leverage.
Big risks have been fostered by oceans of liquidity, zeal for yield and low volatility in many markets.  In addition, divers-ification promoted complacency and more risk and leverage.  So did securitization and ETFs while illiquid CDO make the repricing of risk and deleveraging that's now starting very painful.
Hedge funds live on leverage and tend to end up on the same side of the same trade at the same time.  This is especially true of quant funds, the successors to the portfolio insurance schemes that generated the 1987 Crash and to Long-Term Capital Management and its 1998 disaster.

“What's Down With Housing?”: The housing scene continues to darken and the effects of the August mortgage market freeze-ups are yet to be felt.  Ditto for the lethal subprime ARM resets.  Housing starts, down from 2.3 million to 1.4 million, are only about halfway to their bottom.
Highly excessive inventories will devastate prices, and our forecast of a 25% fall in single-family existing house prices nationwide is supported by recent data while other analysts move toward our number.  That decline would insure massive consumer retrenchment and a major recession that would spread globally.  Decelerating consumer spending suggests a downturn by year's end.

AUGUST 2007
“No Offset To Housing Weakness”: The subprime slime is oozing throughout the U.S. housing sector and spreading to consumer spending as the supporting house appreciation disappears.  Still, optimists hope the negative effects will be offset by strength elsewhere.
But inventories look like they're being liquidated, not poised for rebuilding.  Nonresidential construction is in a vulnerable bubble and to small to offset the housing slump.  Equipment and software spending is weakening.
The growth in employment and pay needed to keep consumer spending robust is unlikely as the effects of construction job weakness spread.  And economic growth abroad, which depends on exports to the U.S., will not keep the American expansion afloat, but rather succumb as U.S. consumers retrench.

“The Bear Bust Aftermath”: In just the last month, the complacency with which most stock and bond investors viewed the subprime mortgage mess has been replaced with fear and foreboding.  The Bear Bust initiated the postponement of numerous junk financings as leveraged loan and junk bond buyers retreated and demanded much better terms.  This has left lenders with potentially lethal bridge loans.  CDO issuance has dried up as the value of those illiquid and opaque derivatives becomes questionable.  Related hedge funds are denying withdrawals and folding.
Countrywide's recent announcement made it clear that the subprime slime has moved to the prime arena.  Stockholders worry as the economic outlook darkens and as the stock buybacks and LBOs that propelled equities shrink along with the junk that financed them.  We continue to foresee a 25% fall in house prices and a 60% decline in sales, and others are moving toward our camp.  A stock bear market and recession lie ahead.

JULY 2007
“Will Bear Be The Bear?”:  With oceans of liquidity, zeal for high returns and low market volatility, speculation has been massive in recent years in residential and commercial real estate, private equity, farmland, emerging market equities and debt, commodities, junk bonds, derivatives, etc.  And the collapse of the subprime mortgage market has not deterred those involved in other risky areas.
But the crisis in Bear Stearns' subprime-ladened funds is causing an ongoing reappraisal.  Junk bond investors have become cautious and are demanding better terms.  Shrinking of this funding source will squeeze private equity buyouts.  Most important, the Bear Bust shows that illiquid and highly leveraged Collateralized Debt Obligations have been vastly overpriced by optimistic models compared to open markets.
The final result will probably be the crashing and burning of the many speculative balloons.

“Central Banks vs. Inflation”:  Central banks hate inflation and don't share our view that deflation is imminent and will push Treasury bond yields to 3%, despite their recent rise.  Most major central banks are raising rates while inflation falls, probably insuring the global recession we've been forecasting.
The year-long yield curve inversion is historically also a sure harbinger of recession.  Still, central banks may accept that risk to limit global speculation.

JUNE 2007
“Semi-Annual U.S. Economic Outlook: One Down, Many To Fall”:  Mountains of global liquidity, investors' zeal for high returns and low volatility in security markets are promoting aggressive risk-taking in a wide variety of speculations.  The beneficiaries are private equity, stocks, junk bonds, real estate, emerging market stocks and bonds, commodities, venture capital and farmland, among others.
Like all speculative eras, this Grand Disconnect between virtual markets and the real economy will end, and probably tearfully.  We believe the trigger will be housing as the subprime slime spreads to the rest of housing, depressed prices 25%, and then curtails the spending of consumers who have used house appreciation to fund spending.  The lousy spring selling season, cautious retail sales, job weakness and falling inventories suggest a recession may commence late this year.
Meanwhile, the Fed worries more about inflation than recession, but perhaps is really trying to tread a fine line between speculative blow-off and speculative collapse.

MAY 2007
“What Will Stop The Subprime Plague?”:  Stockholders and most economists continue to believe subprime mortgage woes won't sink the rest of housing and the economy. They earlier believed housing is safe until interest rates skyrocket, but then came deflation in subprime, the soft extrusion of the housing bubble. Now they ignore leaping subprime problems as teaser rates reset and the spreading difficulties as Alt-A mortgages are infected, lenders retrench and are pressured by regulators, the likely downgrades by rating agencies, the capitulation of housing speculators and procrastinating homeowners as the spring selling season bombs and the immense housing inventory overhang. Hopes that capital spending will replace housing as a growth engine have also faded, and foreign economic growth won't be a replacement either. Rapid U.S. job growth won't offset faltering housing.  Residential activity falls before business cycles peak and then declining construction employment and spending spread to the rest of the economy and overall jobs. A 25% fall in house prices will mushroom these negative effects.

“The Importance of Money”:  The less structure and the more economically dynamic the society, the more that money matters to a significant group of its people.  In recent years, the extremely dynamic U.S. economy has created immense wealth and power for those on top.
Those people can dispose of their money by conspicuous consumption, letting their heirs spend it or through charitable activities in which three trends have evolved. People dispensing funds in their lifetime or in limited time thereafter. Well-paid CEOs and others are establishing foundations. And donors are personally involved in the charities they fund.

APRIL 2007
“The Approaching Financial Tsunami”:  The subprime mortgage market has collapsed, and hopes that the plague will spread no further will probably be dashed, given the enormity of the housing bubble.
Upward rate resets in ARMs will inflict more pain as house prices fall.  Lenders and investors, abetted by rating agencies, and regulators, will tighten standards throughout the spectrum.  The elimination of most subprime borrowers will kill the move-up market.  The period of homeowner denial that prices are weak is about over, especially if spring selling continues weak.  Hugely excessive inventories of 2 million will take years to absorb since annual housing starts average 1.6 million long run. 
Meanwhile, prices will fall 25%, big but hardly enough to return to trend.  And cyclically, the housing correction is only about half over.
The Fed will react too late.  Ditto for Congress, which will still spend lots of bailout money.  The housing rout will wreck consumer spending, spawning global recession.  Major housing problems may spread to other speculative areas such as private equity and commodities

MARCH 2007
“How To Make Big Money: 11 Time-Tested Strategies”: A lot of people have made a lot of money in recent years.  Luck is often important, no strategy is sure-fire and some are self-destructive.  Still, we've identified 11 that have worked:

1. The old-fashioned way—skill, brains, clairvoyance, hard work—and so much government subsidy that you can't miss.  Consider healthcare, agriculture, real estate and energy.
2. Inheritance from rich relatives.
3. Small equity and big debt—as long as you're right on the investment's outcome.
4. Nonfinancial leverage such as from movies, TV and lawyers' associates billable time.
5. Great ideas, but often not the first implementer.  Ever heard of Seattle Computer Works, Chux or Carterphone?
6. Small slices of very big pies that benefit the likes of investment banks, private equity managers, mortgage lenders, CEOs, commercial banks and fast food franchises.
7. Cartels and monopolies, as long as cheaters, new supply, governments and weak demand don't intervene.
8. Sell the sizzle, not the steak to the naive, be it royal jelly, garlic and vitamins, penny stocks or how to get rich quick books.
9. Take advantage of addictions and vanities involving sex, nicotine, caffeine, booze, drugs, cosmetics and lavish clothes as well as small luxuries like greeting cards and fancy coffee.
10. Supply picks and shovels to potentially very profitable ventures.  Consider stock brokers, asset managers, stock market-oriented TV and radio, real estate brokers, mortgage lenders and corn farming equipment makers.
11. Get paid with money that isn't the payers', especially if they're desperate.  Winners include business consultants, corporate defense lawyers and soft commission dollar recipients.

FEBRUARY 2007
“All-Important Inventories”:  Inventory corrections account for the bulk of recessions.  Despite the increasingly service-dominated economy, and ever-improving inventory control, inventory's share of the economic slumps has not declined over time.
Inventory excesses aren't always recognized at the time, as in the early 1970s.  Fearful of shortages, producers hid their inventories while double- and triple-ordering in what proved to be a massive self-reinforcing inventory cycle.  Speculations spawned superfluous inventories in the late 1990s dot com bubble that left mountains of excess tech gear.
The housing bubble has generated a perfect storm of all the classic inventory excesses—speculative overbuilding, overleveraging, readily-available financing and hidden inventory-building.  The impending correction will probably drag the U.S. and indeed the world economy into recession.

“What We Watch”:  We concentrate on statistics and events that support or challenge our long-term investment themes, and suggest new ones.  So we don't worry about most ephemeral data releases, theories concocted to explain hopes, situations that are unlikely to change or the views of politicians.
At present, we're focused on inventories in many areas as the end of the economic expansion approaches.  Also housing, especially subprime mortgages, the key to the U.S. and global outlook.
If housing collapses, so will many other financial speculations.  So we follow stock speculation, buybacks, private equity, aggressive life-cycle funds, China, risky new asset classes, commodities, junk bonds and leveraged loans, executive pay practices, and evidence that speculative peaks are near because everyone who can be sucked in has been.

JANUARY 2007
“The 2007 Investment Outlook: 12 Nonconsensus Themes”: As was true in 2006, six background elements will dominate the investment climate in 2007:
1. The world is still awash in financial liquidity
2. Inflation remains low
3. So many investment returns are low
4. Speculation remains rampant
5. So investors assume more risks to achieve expected returns
6. The insatiable U.S. consumer will spend until borrowing power is exhausted

In this climate, we foresee 12 investment themes, eight of which are likely to unfold in 2007 while four will probably work but maybe not until later:
1. The housing bubble will burst.  If so,
2. The Fed will ease; meanwhile, the yield curve will remain inverted
3. U.S. stock prices will fall, perhaps below the 2002 lows, in the midst of a major recession
4. China will suffer a hard landing due to domestic cooling measures and U.S. recession
5. Weakness in U.S. and China will spread globally, dragging down economies and stocks universally
6. Treasury bonds will rally
7. The dollar will rally, but not before the recession is global
8. Commodity prices will nosedive
9. Maybe global and chronic deflation will commence in 2007.
10. Maybe U.S. consumers will start a long-run saving spree, replacing their 25-year borrowing and spending binge
11. Maybe deflationary expectations will become widespread and robust
12. Speculative areas beyond housing may suffer in 2007

DECEMBER 2006
“Did The Election Really Matter?”: The election gave control of Congress to the Democrats, but their majorities are small.  So too were GOP majorities from 1995-2006, in contrast to the huge Democratic majorities from the 1930s until the 1990s.  The long liberal swing ended in the 1970s, but the backlash to it brought voters to the center, not the far right.
Since there never was a big conservative Republican victory, there isn’t much to give back to the liberal Democrats now in control of Congress.  Even more so with Bush still in the White House.  Don't expect much action in Washington until at least the 2008 election.

“Semi-Annual U.S. Economic Outlook: Soft Or Hard Landing?”: Housing remains the key to the U.S. economic outlook. Sales have plum-meted and prices will follow soon.  Speculators will sell and subprime borrowers will default as their ARMs reset upward.  As prices fall 25%, consumers who depended on house appreciation to sup-port spending will retrench, precipitating a recession starting early next year.
Inventories in general are excessive and will get more so as sales weaken, further depressing economic output  Profits and stocks are highly vulnerable as is capital spending with the usual lag.
The dollar will remain depressed until the recession spreads globally, then rebound. Oil and other commodities will suffer big declines, but Treasury bonds will rally to 3% yields as global recession touches off chronic deflation.

“Risk Reigns”: Since the 1990s stock speculation, a huge gap between speculative financial and the real economy has existed.  Residential mortgage lending is a prime example.  Junk bonds and questionable M&A activities also show little concern for risk.  This speculation will no doubt come to grief in the next recession.

NOVEMBER 2006
“What Will Collapse Housing Prices?”: The housing bubble is deflating as sales slide and prices begin to drop. The big price plummet may start soon as many speculators give up on appreciation dreams and throw their properties on the market, triggering a downward spiral.  Alternatively, interest rates on the Adjustable Rate Mortgages of many subprime borrowers will adjust up dramatically next year and force them into defaults and house sales.
Cheaper energy will not offset losses in house appreciation nor will non-residential construction growth. The Fed is unlikely to slash interest rates soon enough and big enough to save the day.  Washington will be politically forced to bail out hapless homeowners, but as with the S&L crisis, will probably arrive too late to prevent major damage.
Housing speculators will get killed, but the major global recession spawner will be the retrenchment of consumers who have relied on house appreciation to bridge the gap between weak income and strong spending growth.

“Vulnerable Commodity Prices”: Energy, agricultural, industrial and precious metals and other commodity prices have all skyrocketed. In many cases, producers did not expand capacity significantly in earlier years. Energy prices reflect foreign political and military risks. Global economic growth has been robust and individual and institutional investors have rushed into commodities.
Global deflationary forces have kept commodity inflation from spreading, but the price leaps have transferred purchasing power from users to producers.
In the long run, high prices will spur price-depressing supply. Meanwhile, the collapsing U.S. housing bubble will precipitate a global recession. Falling demand and excess inventories will substantially depress the prices of crude oil, copper and many other commodities.

OCTOBER 2006
“Vulnerable Corporate Profits”: Corporate profits growth since the 2001 recession has been robust.  American corporations have contained labor costs much more so than in most past profits expansions.  But compared to relatively muted growth in corporate sales, this cost containment was not outstanding.  Productivity has averaged only a bit higher growth than in the eight previous post-World War II profits expansions.   Interest costs are tiny and of little importance.  What has really propelled profits to heights has been the longer than normal expansion.
Our statistical models indicate that something beyond sales growth, labor cost restraint and strong productivity gains has been hyping profits.  The house price collapse-induced recession will be rough on earnings, and if "factor X" disappears as well, it could be gruesome.

“Financial Efficiency”: It now takes about 20 cents in net new debt issued by nonfinancial sectors per dollar of GDP, up from the 9 to 10 cent norm of the last century.
Oversized financing also occurred due to big government borrowing in the world wars and with inflation-inspired tangible asset speculation in the 1970s and leveraged buyouts in the 1980s.  This time, the culprit is mortgage borrowing sired by the housing bubble.  As it breaks, borrowing will plummet but crushing mortgage debts will remain.

SEPTEMBER 2006
“House Party Horrors”: The nationwide housing bubble, the first in the post-World War II era, has been propelled by low mortgage rates, loose lending practices, aversion to stocks after the 2000-2002 bloodbath and conviction that house prices always rise robustly.  It has propelled the prices of these unstandardized, uneconomic, depreciating, illiquid, highly leveraged and lender whim-dependent investments about 25% above the norms and made them vulnerable to declines at least that big.
Significant price declines will do severe economic damage.  The average American owns much more house than stocks.  Thinly capitalized speculators, subprime borrowers, the low ends of subprime debt and many lenders, mortgage bankers and homebuilders will be wiped out as falling prices and sales and leaping inventories feed on each other.  But the major damage will come from the retrenchment of the many consumers who have relied on their house appreciation to bridge the gap between their meager income gains and robust spending growth.
The housing collapse will sever the links between a place to live and a great investment, to the ultimate advantage of rental apartments and factory-built housing.  It will probably also initiate a saving spree, replacing the borrowing and spending binge of the last 25 years.  The major global recession it will spawn may drive stocks to new lows, but initiate deflation and a further attractive rally in Treasury bond prices.

AUGUST 2006
“What's Left?”:  For 25 years, Americans' spending binge has been fueled by a declining saving rate and increasing borrowing rates.  Earlier, they justified and collateralized these actions with soaring stock portfolios and, when stocks faltered, by leaping house prices.
But house prices are beginning to crumble and no other sources such as inheritance or pension fund withdrawals are likely to fill the gap between robust consumer spending and weak economic growth.  Consumer retrenchment and the saving spree we've been expecting may finally be about to commence.  And the effects on consumer behavior, especially on borrowing and discretionary spending, will be broad and deep.

“After The Fed Eases...”:  Encouraged by Fed pronouncements, equity bulls hope for a pause in Fed tightening and a soft landing.  But with only one clear-cut exception in the mid-1990s, central bank ease since the mid-1950s means the economy is in a recession, or will be within a few months.
Fed ease and the related recession are very beneficial to Treasury bonds in the majority of historical instances.  But stocks, already under fire from high interest rates, suffer more as the salutary effects of Fed ease and declining interest rates are overwhelmed by recession-driven profits declines.

JULY 2006
“...And Taketh Away”:  Central banks hyped the money supply early in the decade in reaction to stock meltdowns, 9/11 and deflation fears.  But that money largely spurred asset speculation, not economic growth.
Now they worry about asset inflation spreading to goods and services price hikes.  So they're all constricting credit in lock-step fashion.  In dollar terms, combined 9 central bank money supplies grew at a 7.9% annual rate from January 2001 through April 2006.  Reducing that to 5%, in line with economic targets, would slash the combined money supply by 13%, the equivalent of a 10.9% cut in total GDP.

“Something Big”: Many speculative markets such as commodities and emerging market equities saw substantial declines recently.  We see that as not just a mid-course correction in continuing rallies but the beginning of big declines that anticipate global economic weakness.  Weakening U.S. house prices will probably sink consumer spending and the American and world economies before long.
Our rough count of the increased value in the last five years of stocks in major countries, emerging market debt and equities, commodities, merger premiums, real estate and derivatives totals $20 trillion, or 153% of U.S. GDP.  The demise of speculation could wipe out a big fraction, especially due to deteriorating investment quality and the high correlations among speculative markets in recent years.

JUNE 2006
“Semi-Annual U.S. Economic Outlook: The Finale”:  The 17-quarter-long economic expansion is aging.  And it's vulnerable, driven primarily by consumers' willingness to use their house appreciation to finance spending in the face of weak income gains.
The housing bubble, however, appears to be bursting.  Aided and abetted by Fed tightening and high energy costs, a resulting recession starting later this year looks likely.
Stock markets here and abroad as well as commodity prices may already be anticipating a U.S. downturn, which will spread globally.  Given the intense speculation in many areas in recent years, declines may be substantial.

“Argentina—No Muerto”:  Argentina, with its largely Southern European population, has suffered from political and economic mismanagement for almost a century.  The Perons' income redistribution schemes discouraged investment and paved the way for hyperinflation, which was curbed in the 1990s by freeing markets and linking the peso to the dollar.
But then currency collapses in Asia in the late 1990s and finally Brazilian devaluation forced Argentina to float the peso and it dropped by two-thirds.  And like many other Latin American countries today, she is emphasizing government intervention over free markets.  The often-contradictory measures to spur economic growth through exports and contain inflation are not promising for a country that has a potentially great future.

MAY 2006
“Deceiving Oil Inventories”:  Crude oil prices have leaped, in part due to tiny excess capacity and fear of supply disruptions while demand climbs.  The jump is also due to the world's excess cash gravitating toward oil, including the futures market.
The resulting contango, with distant futures prices well above spot prices, encourages inventory-building for those with storage capacity.  So, ironically, inventories and oil prices are climbing together.
Inventory holders can sell forward and lock in huge profits, but crude prices must climb further just to keep long holders of distant contracts even.  And excess inventories are lethal to prices in the long run, regardless of short-run rationales.
At some point, crude prices will start down and speculators will dump their long positions while the contango's demise will induce inventory holders to disgorge, adding to the price collapse.  A $30 to $40 per barrel price drop is reasonable before prices rebound.

“Will History Repeat Itself?”:  Emerging stock markets did well in 2005 in an atmosphere of growth and stability similar to what the Asian Tigers enjoyed in the early 1990s.  But huge inflows of foreign capital back then coupled with local corruption and unsound financial practices overwhelmed them and the 1997-1998 meltdown ensued.
Today, the Asian Tigers are even more dependent on exports for growth and, once again, have financial markets dominated by fickle foreign funds.  The U.S. house price collapse we forecast will force American consumers to retrench, pulling the rug from under those countries' economies and stock markets.

APRIL 2006
“Not Home Alone”: The U.S. housing bubble is deflating and bulls hope average house prices will not drop the 20% or more we foresee but, instead, level, as they have in the U.K. and Australia after earlier leaps.
But in those two countries, mortgage rates adjust instantly to central bank rate changes.  That spurred housing when credit was eased early in this decade.  But the lack of decline in house prices since then is probably because subsequent central bank rate hikes have been offset by inflation.
In the U.S., ARM rates that don't adjust for years, loose lending practices and stable 30-year mortgage rates since the Fed's tightening campaign began have isolated housing.  But $2 trillion in mortgage debt, one-quarter of the total, will reset monthly payments in 2006-2007 with 10% to 50% increases.  With appreciation evaporating, refinancing will dry up and foreclosures leap, especially since, unlike the British and Australians, Americans have little saving cushion to fall back on.

“Say It Ain't So, Ben”: The Treasury yield curve has inverted recently with short-term rates above long-term yields.  Many hope no recession will follow, but the history of the past 50 years says otherwise.
The yield curve didn't always invert ahead of Fed-induced recessions, but when it did, a business downturn always followed.  Inversions preceded business peaks, but switches to credit ease by the Fed before the economy topped did not prevent recessions.  When inflation was declining or low, as at present, inversions resulted from rising short rates with little increase in bond yields.  So, the current belief that the lack of rise in long yields makes the yield curve irrelevant is condemned by history.  A recession, perhaps starting later this year, is likely.

MARCH 2006
“Merrill Lynch Exits Investment Management: Regulation Or Profitability?”:  Merrill Lynch's decision to exit asset management was driven in part by regulatory pressure against favoring in-house mutual funds, and the reluctance of competitors to sell another broker's brands.
Still, the prospective limited profitability of asset management may also be a significant factor.  Wall Street firms' high costs force concentration on high-profit products.  But regulators are forcing down management fees as are current and future returns on securities that are tiny com-pared with the exuberant 1990s.  As airlines and steel show, few firms in an industry pressured to slash costs have done so successfully.

“Government Lovers”:  As the President's recent fiscal 2007 budget proposal indicates, containing government spending is difficult at best.  And no wonder since over 50% of the population relies on government for income in meaningful ways.  This includes government employees and their dependents, recipients of welfare, food stamps, Social Security benefits, student loans and grants, farm subsidies, government contracts and many others.
The percentage climbed from 28.3% in 1950 to 55.0% in 1980, but then receded to 49.4% in 2000 due to strength in the private sector and as anti-government sentiment slashed welfare recipients.  But the number climbed back to 52.6% in 2004 and is headed for 60% in the decades ahead as aging postwar babies tap Social Security, Medicare and Medicaid.

“Deja Vu All Over Again”:  Kraft's recent decision to ax jobs, plants and products, and the poor stock performance of big brand companies in recent years, are stark reminders of the fading price insensitivity of major brands.  Brand power has been slashed by powerful mass retailers, the maturity of products into commodity status, readily-available product information, excruciating competition in developed and emerging countries, and low inflation.  Looming deflation will only add to big-brand woes.

FEBRUARY 2006
“The Consequences Of Restrained Labor Compensation”:  Except at the top corporate and Wall Street levels, American labor compensation remains under pressure.
In industries like steel earlier and now autos and airlines, pay is still above competitive levels.  Globalization makes it attractive to move many jobs to cheaper locales abroad or automate them at home.  Labor union power is being eroded by non-union competitors, foreign competition and the shift from high-paying, highly-unionized to non-union, lower-paying industries.  Defined benefit pensions are fading and employers are shifting medical cost increases to employees.
This trend can't last forever.  The recent leap in profits' share of the pie is vulnerable in a democracy.  Also, rapid house price appreciation allows U.S. consumers to bridge the gap between declining real incomes and rapid spending growth that propels the U.S. and global economies.  The likely house price nosedive will leave Americans unable to buy's the nation's output.

“Investment Theme—North American Energy”:  High energy costs and political and military unrest in such major producers as Russia, Iran, Iraq, Venezuela and Nigeria should focus energy producers, Washington and investors on safe, although relatively expensive North American energy.  That includes petroleum, natural gas, coal, nuclear, Canadian tar sands and perhaps ethanol and shale.
Many of the needed investments are long-term in nature and have long gestation periods.  The risk is that current prices bring forth enough supply globally that prices fall to the point that many North American projects no longer appear profitable.  Global demand could also weaken if the likely nosedive in the U.S. house prices has a lasting negative impact on worldwide energy demand.

JANUARY 2006
“The 2006 Investment Outlook: 10 Nonconsensus Themes” Early last year, we proposed 6 nonconsensus investment themes for 2005, three "likelys" and three "maybes."  We expected the dollar to rally, deflationary expectations to flatten as the Fed raised short-term rates but bond yields would be flat to down.  Maybe, we said, the housing bubble would burst, stocks would fall and China would suffer a hard landing.

For 2006, six background elements will dominate the investment climate:
1. The world is awash in financial liquidity
2. Inflation remains low
3. So investment returns are low
4. Speculation remains rampant
5. So investors accept more risks to achieve expected returns
6. The insatiable U.S. consumer will spend until borrowing power is exhausted

In this climate, we foresee 10 investment themes, seven of which are likely to unfold in 2006 while three will probably work but maybe not until next year:
1. The housing bubble will burst
2. The Fed will keep tightening until then, and seriously invert the yield curve
3. U.S. stocks will fall with the recession that declining house prices will spawn
4. China will suffer a hard landing due to domestic cooling measures and U.S. recession
5. Weakness in U.S. and China will spread globally, dragging down stocks universally
6. Treasury bonds will rally
7. The dollar will remain strong since the U.S. is a global safe haven
8. Maybe global and chronic deflation will commence in 2006
9. Maybe U.S. consumers will start a long-run saving spree, replacing their 25-year borrowing and spending binge
10. Maybe deflationary expectations will become widespread and robust

DECEMBER 2005
“Semi-Annual U.S. Economic Outlook: Watch The Consumer”:  For 25 years, U.S. consumers' spending growth has exceeded the rise in purchasing power, driving their saving rate from 12% in the early 1980s to negative territory today.  Consumers will probably continue this pattern as long as money is available, and the current source is appreciation in their houses.
Four forces could end the current consumer-led economic expansion.  First are the effects of the hurricanes, but their damage, although devastating locally, was not substantial nationally.  Second, the Fed interest rate-raising campaign could, as usual, precipitate a recession.  Still, its actions haven't done much damage yet and probably won't bite soon enough.
High energy prices tax purchasing power, but remain manageable, especially for the 69% of households that own their abodes and can tap their home equity.  So, the fourth negative, a bursting of the housing bubble, will probably be the expansion ender.  Signs of the bubble's demise are accumulating, making a 2006 recession probable.

“Dollar Strength Reflects Foreign Woes”:  The new theory explaining the dollar's strength this year is that higher interest rates here than abroad attract foreign money.  But current and potential weakness overseas are also at work.
In Europe, socialistic structures as well as overpriced and overegulated labor are restraining incomes and domestic growth.  So, the meager rises in economic activity come almost entirely from exports.
Asia is even more export-dependent, ultimately on the U.S. consumer to buy her surplus goods and services.  Japan's more-than-decade-long deflationary depression probably is over, but domestic growth is yet to appear.  China's attempts to cool her white-hot economy seemed to be working, but the resumption of rapid growth in recent months leaves that task undone.  The odds of a hard, not soft landing there remain high.

NOVEMBER 2005
“Greenspan's Legacy”:  After 18 years as Fed Chairman, Greenspan leaves in January, floating on a cloud of accolades.  His long tenure reflects his political skills, but his fabled success may more reflect the timing of his chairmanship than his abilities.
Inflation fell throughout those 18 years, trending interest rates down to the advantage of central bankers here and abroad.  Disinflation and restructuring spiked profits, the burst of new tech sired inflation-dampening productivity and the end of the Cold War shrank the federal deficit, all of which aided Greenspan.
He chose not to curb irrational exuberance for stocks in the late 1990s, but with massive monetary and fiscal stimulus after stocks collapsed and the terrorists attacked, speculation survived and shifted to other assets, especially housing.  This encouraged speculators to take even bigger risks and leaves Greenspan's proposed successor, Bernanke, with huge potential problems when real estate and other rank speculations nosedive.

“Dead Birds Still Fly”:  Airline fares and routes were deregulated in 1978.  At the time, we expected this high fixed, low marginal cost industry to suffer cut-throat competition until the financially weak were eliminated and the deep pockets survivors regained financial health.  Now, 27 years—and 163 airline bankruptcies—later, consolidation is yet to happen.
Antitrust resistance to mergers staved off consolidation as did frequent flyer program loyalty and sophisticated pricing to separate business travelers from price-sensitive tourists.  Still, Southwest and other low-cost, efficient upstarts, and now high fuel costs, have pressured legacy carriers whose management and labor refused to face reality.
Bankruptcy has proved a great way to shed labor, pension and debt costs but not necessarily antiquated attitudes.  Banks rush to lend to bankrupts and aircraft makers strive to keep them flying.  Old line airline managements may finally be facing the competitive facts, but withhold your investment funds until consolidation is irrefutably in evidence.

OCTOBER 2005
“The Hurricanes and Energy—Rotten Timing”: The initial reaction to Hurricane Katrina was that the economy would falter and the Fed would pause if not end its interest rate-raising campaign.  Investors now realize that the longer-run economic effects will be small and the Fed not only skipped any pause, but is worried about hurricane-led energy price inflation.
Energy prices, especially for refined products, will remain high because there's no excess capacity to make up for lost production during the storms.  We don't foresee energy price leaps spreading to general inflation, but the energy dent on incomes will hurt more than just low income renters when the housing bubble bursts and destroys the appreciation homeowners have relied on to support their spending.
Before the housing-led recession unfolds, the Fed will probably invert the yield curve to the detriment of regional banks and other spread lenders.

“Elections In Germany And Japan: Opposite Results”: The recent German election was a stalemate, and a Grand Coalition of the two major parties promises gridlock.  This reflects the stagnant German economy, and probably postpones the labor market and other reforms that are desperately needed to improve Germany's international competitiveness.  It's also a bad example for reform in other Western European countries.
Despite slow growth on average in the Eurozone, the ECB threatened to raise interest rates in response to energy-created inflation, further restraining growth.
Japan's election was a landslide victory for reform-minded Prime Minister Koizumi, who wants to shrink government's economic involvement and shift capital to more efficient private investments.  This is sorely needed in Japan's inefficient domestic sector.
It also may help provide for Japan's rapidly aging population.  The more productive those still working in future years are, the more they can satisfy their own demands and those of mushrooming retirees without inter-generational warfare over the shares of the economic pie each receive.

SEPTEMBER 2005
“Will Energy Costs Kill The Consumer?”:  The recent spike in crude oil prices to $70 per barrel suggests a rerun of the 1970s and early 1980s when energy prices spiked and the economy was disrupted by frequent recessions.  That was an era of rising inflation, however, while today disinflation and robust deflationary forces reign.
Furthermore, energy use efficiency has risen substantially in the meantime and the overall economy and consumer spending continue to shift to services and away from energy-intensive goods.  Consumers spend as much on gasoline today in real terms as in 1980, but with the income increase since then, the share of their total spending is much less.
Still, the energy price leap sends 1.5% of U.S. GDP to foreign oil producers.  This is being masked for homeowners by rapid house price appreciation.  When the housing bubble breaks, high energy costs will deepen the resulting recession.

“How Are We Doing?”:  Early this year, we proposed 6 nonconsensus investment themes, all likely to unfold sooner or later, but three of them definitely in 2005 and three of them "maybe."  So far, so good.
We expected the dollar to rally this year, and its advance so far should continue, even in the face of a fading economy and likely 2006 recession.  The U.S. will be the best of a weak lot.
Consumer deflationary expectations keep spreading, as shown by GM's inability to drop "employee discounts for everyone" in favor of more profitable "value pricing."
The yield curve will continue to flatten and likely invert as the Fed hikes short rates while impending recession and deflationary forces depress Treasury yields.
The housing bubble has inflated to bursting size, but its demise may not occur by year's end.
A renewed stock bear market may commence by year's end as earnings prospects disappoint.
China's economy is cooling, and the likely hard landing may occur this year.

AUGUST 2005
“The Consumer-Dependent Economy”:  U.S. economic growth in coming quarters depends almost entirely on the consumer.  The big tax cuts and past federal spending bulge are fully absorbed, and the Fed has reversed the earlier east credit policy that spurred consumer spending and housing.  Capital spending growth will be insufficient to lead the economy, and the growing trade deficit is a drag.
Personal income benefited from big bonus and commission payments in the last year that are unlikely to be repeated.  Business pressure on labor compensation in order to preserve the recent leap in profits in a global economy will be intense.  And personal tax payments may continue to leap, curtailing after-tax income growth.  So, robust consumer spending growth will require continuing reductions in saving and substantial increases in borrowing.  These actions will probably persist as long as leaping house prices make people feel wealthy.  But when the housing bubble bursts, look out below!

“They're At It Again!”:  Despite the apparent accuracy of the Leading Economic Indicators in forecasting past business cycle peaks and troughs, this index has enjoyed limited credibility in recent years.  In part, it's because other statistics have become more fashionable--monthly payroll employment at present.
Ironically, the credibility of the LEI has been hurt by changes designed to keep it current.  For example, the current LEI fell decisively before the 1973-75 recession, the worst since the 1930s, but at the time, it never declined.  Back then, most of its components were in nominal dollars so raging inflation masked their collapse in real terms.  Subsequently, all but the stock index became physical units or inflation-adjusted measures.

JULY 2005
“The Housing Bubble May Break Soon”:  The housing bubble is not local, but national—not surprising since it's driven by economy-wide forces: investor zeal for high returns but skepticism over stocks, ample cheap mortgage money, and lax lending standards.  Indeed, these forces and the housing boom are global.  Earlier U.S. housing booms-busts were driven by local business cycles such as the rise and fall of the oil patch along with oil prices in the 1970s and 1980s.
Since houses are much more widely owned than stocks, the bubble's likely demise will shake the economy more than the early 2000s bear market.  It could change the good deflation of excess supply we foresee to the bad deflation of deficient demand.
The most likely bubble-pricking pin is massive speculation itself, and as prospective buyers stand aside, mounting inventories will precipitate a downward price spiral.

“Why Stocks Are Flat”:  Flat stocks in the first half of 2005 reflect the net effect of positive and negative forces.  Robust economic growth, rising employment, subdued inflation and falling Treasury bond yields are in the plus column.  The negatives include the business upswing's old age, high energy costs, an economy sustained by consumer borrowing, the vulnerable housing bubble, looming deflation, likely profits softness, a probable hard landing in China, and the possibility that the October 2002 stock market low will be penetrated.
On balance, stockholders should be cautious.

JUNE 2005
"Semi-Annual U.S. Outlook: The Calm Before The Storm?": U.S. economic growth is slowing since earlier massive monetary and fiscal stimuli are fully absorbed and capital spending strength is unlikely to offset waning outlay gains by debt-laden consumers.
When the rapidly expanding housing bubble breaks and adds to earlier stock losses, Americans will convert from spenders to savers.  This will be negative for U.S. growth and even more so for the many foreign countries that depend directly or indirectly on exports to America.
The robust dollar is hurting many speculators that are also under fire from the flattening Treasury yield curve and the aftermath of the GM debacle.  Falling long Treasury bond yields, in part due to low inflation, are making it difficult for the Fed to raise short rates to its target level without inverting the yield curve.  That would kill many speculators and harm banks and other spread lenders.
European economies are weak and China will probably see a hard landing result from her economy-cooling efforts.  So, slowing growth in the U.S. and abroad in coming quarters is likely and a recession in 2006 may be in the cards.

"There's Still Time, Brother":  The recent Treasury announcement that it may again issue 30-year maturity bonds, starting next February, thrilled the bond bears.  They added 'increasing supply' to their list of reasons why yields will rise.
But the long bond continues to rally as economic growth moderates, inflation remains contained and as money fleeing low-quality bonds after the GM debacle seeks the safe haven of Treasurys.  The long bond yield has dropped from 14.7% in 1981 to 4.3%, and with the further decline to 3% that we foresee with mild deflation, they're still attractive.  If that decline occurs over two years, a 30-year coupon bond will return 35% and a zero-coupon bond almost 50%.

MAY 2005
“The Long Bond”: What have 38 years in the economic consulting and investment business taught me?  Find an important, nonconsensus and long-term investment theme, and then stick with it.
In the late 1970s, inflation was raging and few saw any decline.  I was convinced otherwise because of the voters' turn against Washington, the creator of inflation through excess government spending.  With falling inflation rates would come declining long-term interest rates, so in 1981 I forecast that we were entering "the bond rally of a lifetime."
Despite the decline in Treasury bond yields from 14.7% then to 4.6% today, few forecasters or even professional bond managers have agreed with my steadfast forecast in those 24 intervening years.  Our forecasts of mild deflation in coming years and 3% yields on Treasury bonds also are comfortably nonconsensus.

“The U.S. Current Account Deficit—Who's To Blame?”:  The rising U.S. current account deficit continues to be criticized even though the weakness in the dollar it supposedly generated has been reversed this year.  The deficit results primarily from robust imports, driven primarily by free-spending American consumers.
At the same time, weak foreign economic activity, restrained consumer spending in many lands, high national saving rates and government policies that favor imports and discourage exports are retarding U.S. exports.
Critics seem unaware that a balanced federal budget and an American consumer saving spree would sire a U.S. recession and disasters for the many lands that depend on Americans to buy their excess goods and services.

APRIL 2005
“What's Bad For GM...”:  GM's recent projection of weak earnings this year continues the downslide in the U.S. auto industry, which clings to its cartel mentality despite decades of erosion from imports, transplants and global vehicle glut.  The prospect of GM bond downgrades to junk is, however, a new element.  That would force massive selling by bondholders who can't or won't own junk.  The timing is awful.
Declining defaults and tons of carry trade investing have overly compressed the spreads between Treasurys and investment-grade corporates, junk and emerging market debt.  But the flattening yield curve is wrecking the carry trade and now GM is reversing credit-quality improvement.  A self-feeding spiral of selling is possible, with Treasurys and the dollar benefiting.

“Risk Lovers”:   Despite the earlier stock collapse, massive monetary and fiscal stimuli kept speculation alive and spurred financial risk-taking to current lofty levels.  It's shifted from stocks to commodities, junk bonds, emerging market securities, hedge funds, venture capital, private equity, housing and commercial real estate.
Risk lovers assume the Fed can and will continue to provide them a hospitable climate, but the central bank's assignment is becoming increasingly difficult.  Global problems may lie ahead, especially if U.S. financial problems coincide with a hard landing in China.

“Merger Mania—Again”:  The current merger wave is rationalized by the abundance of cash, excruciating competition, excess capacity and technological change, pressure from customers, hostile environments and globalization.  Still, today's zeal for risk and fading memories of past disasters seem to be the roots of the urge to merge.

MARCH 2005
“Something's Got To Give”:  In four short years, the federal budget has nosedived from a big surplus to a large deficit, in part because personal taxes as a percentage of personal income have moved from well above the 12-1/2% norm to well below.  The end of the late 1990s Wall Street bubble and economic boom axed tax collections, which were further depressed by tax rebates and cuts.
The President is vehemently opposed to tax increases, but history suggests that an "invisible hand" will move the effective individual tax rate back to 12-1/2%.  Indeed, in his fiscal 2006 budget, the President is proposing higher user fees.  Furthermore, his tax reform panel may recommend a flatter tax and changes in income taxes and possibly consumption taxes that could raise total individual tax payments.

“Private Social Security Accounts—The Wrong Target But Still Helpful”:  The President's proposal for private Social Security accounts will not fulfill the retirement needs of the postwar babies, as the Administration itself admits.  The system transfers money from employers and employees to retirees, and when the postwar babies retire, those still working will be sparse.
The basic challenge isn't having big pools of money from private accounts or other sources, but rather having the productive capability so that those still working will be able to produce enough for themselves and the retired postwar babies.  Private account saving can help if it is invested in plant and equipment, technology, education and training, and other productivity-enhancers.  Still, other measures such as slower growth in benefits and later retirement ages will probably be needed.

FEBRUARY 2005
“2005 Investment Themes: Three 'Likelys' and Three 'Maybes'”:  We have developed six investment themes for 2005.  Three of them are likely and three are "maybes" this year, but none are widely believed.
The dollar is likely to rally, especially against the euro as excessive pessi-mism and speculation against the buck unwinds and as the superior strength and productivity of the U.S. economy is appreciated.
U.S. consumer deflationary expecta-tions have moved from autos, airfares and telecom to general merchandise, and are likely to spread further.
The Treasury yield curve is likely to flatten further as the Fed raises short rates, but bond yields will probably be flat to down.
Maybe the housing bubble will break, creating much anguish and a consumer saving spree that will devastate the many foreign countries that depend on U.S. consumers to buy their excess goods.
Maybe U.S. stocks will fall to new lows as earnings growth proves inadequate to meet expectations in an era of high P/Es and low dividend yields.
Maybe China will suffer a hard landing with negative implications for many other economies and commodities, especially if the U.S. is simultaneously soft.

“Do Foreign Central Banks Influence Treasury Yields?”: Recently, foreign central banks have been heavy purchasers of Treasurys and many believe that is why Treasury bond yields didn't rise last year.
Nevertheless, there is no statistical evidence that these purchases affect bond yields, even after the influences of the Fed funds rate, inflation and the federal deficit are taken into account.

JANUARY 2005
“A U.S.-Hong Kong Debate: Will There Be Deflation?  Will It Be Good? Bad? Or Is Inflation On The Horizon?”: Last month, Gary Shilling and Marc Faber exchanged views and opinions on the global economy and, specifically, debated whether deflation is on the horizon and, if so, whether it will be good or bad.
Drawing on their backgrounds as well as their particular vantage point of the world—Dr. Shilling from the U.S. and Dr. Faber from Asia—they engaged in a wide-ranging discussion that brings forth their knowledge of history, geopolitics and, obviously, economics.

DECEMBER 2004
“Institutional Investing—To Look Forward, Look Backward”:  The length and strength of the 1982-2000 bull market convinced many that equities would soar forever and spawned many widely-held convictions.  Investors should buy and hold, not try to time the market.  Cash is trash.  Precise asset allocation, "pigeon hole" investing, is superior as is concentration on high-flying sectors.  Managers should be hired to invest fully in specific sectors and their sole goal is to beat their benchmarks.  Index funds beat active management.  Dividends are counterproductive, bonds are for wimps and management fees are too tiny relative to returns to matter.
Despite the bear market that followed, the bull's strength and the massive monetary and fiscal stimuli that sustained the early 2000s economy kept speculation alive.  The demise of that speculation, centered now on hedge funds, the carry trade and housing, and the deflation I foresee will eliminate those bull market-sired convictions.  So will much lower returns on stocks.  Investors will learn that this time, it isn't different.

“Semi-Annual Economic Outlook—What Will Sustain Growth?”:  Massive monetary and fiscal stimuli muted the 2001 recession and offset      9/11's drag while consumer spending also benefited from increased borrowing and reduced saving.  But new spurs to consumer incomes and spending are lacking, and replacements from business outlays haven't materialized.
High energy costs, monetary tightening, the vulnerability of the housing bubble and the morning after the presidential election will also subdue economic growth.  A likely recession in 2006 if not before will eventually reverse interest rate increases but slash profits.  Most foreign countries depend on exports to the U.S. for growth and will not benefit the American economy in coming quarters.

NOVEMBER 2004
“The Economics of Medical Services—Free Markets Would Slash Costs”:  The current American health care system encourages high and rising costs.  On the demand side, consumers want the best in medical care since their lives are at stake.  And their demand is almost limitless since governments and employers pay most of their medical bills.
On the supply side, heavy government involvement in health care almost guarantees inefficiency.  Since hospitals are run for the benefit of MDs, not patients, inefficiencies abound there as well.  And because consumers pay little of their drug costs, the FDA and drug companies have little incentive to constrain them.
If government and employee health care money were given to consumers to spend as their own, they would become much better medical care shoppers, and much government bureaucracy and health insurance administration and cost would be eliminated.  Hospital employment of physicians would slash inefficiencies and put patients first.  Price-sensitive consumers would also compress drug costs.  Competition is being introduced to medical care, but much more is needed, before the huge medical needs of the aging postwar babies materialize.

“Export Dependence”:  Asian countries are growing concerned because their export growth is waning.  At the same time, rising energy prices and other forces are cooling the U.S. economy and, thus, American demand for Asian exports.
This will become a significant problem since most of Asia's exports go, directly or indirectly, to the U.S.  And finding a big importer to replace the U.S. is probably one of the global economy's biggest long-run challenges.  China is trying to cool her white-hot economy, so she may not be a candidate.  Could it be Japan?

OCTOBER 2004
“Here Comes Deflation—Ready Or Not”: Few agree with our mild deflation long-term forecast, probably because they've only experienced inflation and mistakenly believe that prices are rising on everything they buy.  Still, inflation is fading and many powerful deflationary forces are hard at work, including the burst in productivity-soaked semiconductors, computers, the Internet, telecom, biotech and other new tech.  Restructuring, inflation-wary central banks, globalization and the likely shift of U.S. consumers from borrowing and spending to saving also promote deflation.
We foresee the good deflation of excess supply, as in the new tech-driven late 1800s and the 1920s, not the 1930s bad deflation of deficient demand.  Still, the transition to good deflation may be rough as excessive leverage in housing, the carry trade and other areas is rationalized.
Once good deflation is established, stocks should do well, but nothing like the exuberant late 1990s.  Risk-adjusted, Treasury bonds will be attractive competitors after a further substantial rally to 3% yields.

“9-11's Effects: As Significant As Past National Traumas?”:  It's been oft-stated the past three years that the events of 9/11 changed the country forever.  But how much of that change is actually systemic?  Will that date be as full of long-term ramifications as other national traumas from our history?
Some of the after-effects of the Civil War are still with us today.  World Wars I and II led to long-term changes around the world that are still being dealt with.  Even events such as JFK's assassination and the Watergate scandal set in motion a number of developments that, 10 and 20 years later, altered the country significantly.
Time will likely tell whether 9/11 has the major impact that we currently ascribe to that tragic event.

SEPTEMBER 2004
“Crude Behavior”: Many worry that the recent leap in crude oil prices will "tax" the U.S. economy into sluggish growth, if not a recession, as did the previous five oil price spikes.
But energy use per dollar of GDP continues to fall due to greater efficiency and the rising service orientation of developed countries.  Also, in real terms, oil prices are well below previous peaks.  In addition, the energy that Americans buy from domestic producers is recycled within the U.S. economy.
Still, big oil imports mean that the price spike is a "tax" paid to foreign exporters of almost 1% of U.S. GDP, and few of those dollars return to buy U.S. goods and services.  Given the subdued American economy, Fed tightening and the likely hard landing in China, the oil price spike may well tip the scales toward a global recession.

“Is The Middle Class Disappearing?”: The Kerry camp says that the American middle class is endangered and that the country is gravitating toward two classes, one rich and the other poor.  Recent statistics on real pay, middle income layoffs and excessive executive pay support them.
Still, the polarization of income is three decades running, and results largely from employment shifts from high-paid sectors like manufacturing and utilities to low-paid industries such as leisure and hospitality.  Meanwhile, those on top have the skills to thrive in today's global economy.
Still, there are also new depressants on middle class incomes, including soaring medical costs, rising debt service costs, longer unemployment duration, offshoring and the maturation of new tech.  Bush should worry that the Kerry camp may have found a vulnerable issue.

AUGUST 2004
“The Fed's Effect on the Economy, Stocks and Bonds”:  The initial sluggishness of the economic recovery and fears of deflation induced the Fed to delay raising interest rates until June, when the expansion was 31 months old.  Delays at least this long occurred in three other post-World War II business upswings.  Conversely, the Fed tightened as soon as one month into earlier recoveries.
In past cases, Treasury bond yields continued to rise even after the Fed delayed tightening.  Still, with the current transparency of intended Fed actions, yields this time rose more than they ever have before the Fed acted.  And, the end of earlier massive fiscal and monetary stimuli and likely slowing of economic growth may well turn inflation fears back to deflation concerns.  Treasury bond yields may have already peaked, especially if a post-election year recession unfolds.
Stock gains tend to be small after Fed tightening commences, and sometimes equities peak before the central bank moves.  In view of the current expensiveness of stocks, this may be one of those times.  In fact, the stock advance that topped early this year may prove to be a rally in the bear market that started in early 2000.

“The Great Disconnect”:  The economy and corporate profits are strong but stocks are limp.  This disconnect probably measures investor expectations of rising interest rates and much slower earnings advances while stocks are already expensive
This dichotomy also reflects the disconnect between the economic and financial worlds that started with irrational exuberance over stocks in the late 1990s and shifted, after massive Fed ease, to residential real estate and "borrow short-invest long" speculation.
History says the two worlds will reunite, but the longer Washington staves it off, the more violent it may well be.

JULY 2004
“Inflation: Perceptions vs. Reality”:  Inflation has replaced employment as investors' primary economic concern.  The Fed, however, is less worried and intends to raise short-term interest rates at a gradual pace.
Unlike the Fed, most Americans didn't see a deflation threat last year and, indeed, mistrusted the data that showed core CPI inflation close to zero and falling producer prices.  Most are biased by lifetimes of inflation and recent price hikes in frequently-purchased items like gasoline and milk.  They forget the price drops on big, infrequently-bought goods such as computers and vehicles.  In fact, the CPI continues to overstate inflation.  
The current inflation rise will probably prove to be one more uptick within the disinflationary trend since 1981.  Indeed, with softer U.S. economic growth likely in coming quarters and a hard landing in China, renewed concern over deflation may soon replace inflation fears.  Then the Fed will switch from raising to cutting interest rates.

“Car Crazy?”:  Since 9/11, big incentives have been needed to sell cars in the U.S., but may still be required after concerns over terrorism, high gasoline prices and other negatives are history.  Longer-lasting vehicles and market saturation will limit future sales growth.
This is bad news for domestic producers, with their continuing labor cost disadvantage to imports and transplants.  Market share losses and strains on profits should persist.

JUNE 2004
“Semi-Annual Outlook: The Deflating Speculative Balloon”:  Fed-induced low short-term interest rates and a steep yield curve spawned immense speculation in recent years.  Many hedge funds and others borrowed short term here and abroad to finance Treasury bonds, commodities, currencies, emerging country stocks and bonds and junk bonds with gay abandon.  The massive extent of this speculation is being revealed by huge market volatilities as these trades are unwound in the face of anticipated Fed rate hikes.
The two big questions are, first, have interest rates risen so fast that some major financial institutions have been seriously hurt and will drag others down with them?  And second, will the real economy, especially the vulnerable housing sector, be significantly damaged?
Even without either of these major crises, U.S. economic growth is likely to slow later this year and may enter a recession in 2005, especially if China's attempt to cool her red-hot economy results in a hard landing, as is likely.

MAY 2004
“Spotlight On Profits”: With the near universal predictions of rising interest rates, already high stock  P/Es are likely to decline.  And, dividend yields are too low to protect equity prices.  So, the bulls' case requires very rapid gains in profits.
Corporate earnings growth has been robust recently, much more so than indicated by the usual drivers.  Still, the consensus forecast of continuing rapid economic growth, higher inflation, robust employment and the resulting slower productivity growth, stronger labor costs and rising interest rates translate into S&P 500 operating earnings gains of only 4% year-over-year in future quarters.  This is far below Wall Street analysts' estimates of 16% growth and the 20% average of the last six quarters.
Interestingly, our forecast of slower economic growth, subdued prices, rapid productivity growth with continuing layoffs, modest labor cost increases and falling interest rates results in the same modest gains in profits.

“Will Job Growth Be Robust?”:  The unexpectedly large payroll increase for March, reported April 2, convinced most that rapid economic growth, renewed inflation and Fed tightening lie directly ahead.
But 70% of the gains were in retailing, health care and other sectors shielded from global competition, and they may be temporary spurts.  Also, most other components of the March labor market reports were weak.  Weekly hours fell, permanent job losses grew, the unemployment rate rose and those offered only part-time jobs leaped.
Furthermore, the growth in jobs is centered in low-paid areas like leisure and hospitality while high-paid jobs in manufacturing and IT disappear.  Earlier lackluster labor markets may not be ancient history.

APRIL 2004
“Interest Rates—Up Or Down?”:  The conviction is almost universal among economists, Wall Street wizards and investors that the next major move in interest rates is up.  Withdrawals from bond mutual funds, the widespread shorting of Treasurys, big corporate bond issues and statements from Fed officials bear witness to this belief.
Most look for continuing rapid economic growth and the return of significant inflation to boost interest rates.  Still, the rally in Treasury bonds since last August and the steepness of the yield curve is very frustrating to bond investors who have remained on the sidelines in cash with its negative real returns.
In contrast, we see a weaker economy later this year and next, with weak labor markets dominating, and we continue to forecast mild deflation in the long run.  We also expect foreigners, especially central banks, to continue to recycle dollars into Treasurys to restrain their currencies and promote exports.  A subdued economy may induce the Fed to cut short rates further before they move to our long-run 2% forecast.  Deflation will push Treasury bond yields to our long-held target of 3%.

“The Housing Bubble”:  Conventional, site-built housing has benefited in recent years from declining and low mortgage rates.  Many see its nemesis in the spike in interest rates they forecast.
We believe that the next major move in rates is down, but still see trouble for housing from overly generous lending terms.  To keep the bubble expanding, Washington is moving downpayments for low-income buyers from 3% to zero.  Private lenders are pushing interest-only loans and loans that exceed house values.
The bubble is insidiously self-feeding as more liberal financing terms spur higher prices that require even more liberal terms to keep first-time homebuyers viable.  Look for the bubble's ultimate collapse to slash house prices and destroy much homeowner wealth.

MARCH 2004
“Profitable Unemployment?”:  The average time between jobs has been much higher in relation to the unemployment rate since the early 1990s than earlier.  It's due to excess worldwide capacity and the resulting lack of business pricing power, which spawns permanent, not just cyclical job cuts, as well as job exports.  People who enter retraining and move to different occupations take longer to become re-employed, especially now that white as well as blue collar jobs are being permanently axed.
It doesn't appear that lush unemployment benefits encourage laid-off workers to conduct job searches only leisurely.  Washington does extend unemployment benefits, but only temporarily and after unemployment leaps.  

“The Kondratieff Wave—Dead or Alive?”:  The 1970s interest in the Kondratieff Wave evaporated when the final "depression" phase failed to materialize in the 1980s.  Still, high inflation stretched the plateau phase from the usual 10 to 25 years, but didn't alter its structure.  Indeed, the 1990s twinned the 1920s.
The “depression” phase likely started with the financial collapses in Asia and Russia in 1997-98, and will be the usual 15 years of working out past excesses.  The tech stock collapse and super-abundant capacity are typical as are protectionism, new regulation and impotent monetary policy.
Look for the good deflation of productivity-driven excess supply after a rough transition, falling real estate prices, aggressive fiscal policy, 4% to 5% real Treasury bond yields and 7% real total stock returns.

FEBRUARY 2004
“A Limp String”:  The Fed's easy credit policy in recent years has spurred mortgage borrowing, but little else.  Other bank lending demand is so weak that the Fed hasn't needed to create more bank reserves to keep short-term interest rates low, despite the recent strength in economic activity.
With weak inventory investment, subdued plant and equipment spending, huge free cash flow and pressure to clean up their balance sheets, businesses are retiring, not increasing, their bank borrowing.
The net result: the money supply has been falling since last summer, and the Fed can't do much more to revive it.  For the monetarists who see money as THE driver of the economy, this is scary.  For the rest, it's worth watching.  Money isn't the only driver, but it does matter.

“Pressure on Investment Fees and Commissions”:  Led by New York Attorney General Eliot Spitzer, regulators are squeezing mutual fund fees, which have risen in the last two decades despite the supposed economies of scale from the leap in fund assets.  Furthermore, 12b-1 fees that pay for marketing and for distribution are being scrutinized, especially for funds closed to new investors.
The real sleeper is commissions on securities transactions.  Fund share-holders are largely unaware that they pay for more than execution, with the excess used to buy research, computers and administration and to pay brokers who promote the funds.
Pressures to shrink mutual fund fees and commissions may well intensify the likely consolidation of the mutual fund industry.  Non-brokerage house independent research could largely be eliminated.

JANUARY 2004
“Long Term Outlook--Still Deflationary”: Most believe that a surge in inflation is imminent.  They look at recent strong economic growth and normal inflation harbingers such as the gold price spike.  We disagree and continue to foresee mild deflation of 1% to 2% in the years ahead.
Despite 9/11, defense spending should continue well below Cold War levels, total saving will grow faster than investment, and central banks will be impotent in resisting deflation.  Restructuring persists globally and new tech, despite stock market embarrassments in the recent past, will continue to drive productivity and excess supply.  Globalization with persist in turning worldwide excess capacity into deflation, and the shift by U.S. consumers from borrowing and spending to saving will put downward pressure on prices internationally.
Deflation will persist until the next major shooting war, and will be the good kind, spawned by excess supply, not the bad deflation of deficient demand.  Still, the transition to it may be rough since few are prepared, and a financial crisis that could turn good deflation to bad is possible.
In mild, good deflation, stocks will be attractive but much less so than in the late 1990s bubble.  High-quality bonds, risk-adjusted, will be equally interesting.

We also look at how China’s current attempts to cool her overheating economy could implode with worldwide ramifications.

And we also take a look at how Asia's attempts to lessen its dependence on exports to the U.S. are failing.

DECEMBER 2003
“U.S. Quarterly Economic Outlook: Will Recent Strength Persist?”: U.S. economic growth, especially in the robust third quarter, has relied on consumer spending and housing.  These sectors have in turn been driven by tax cuts, falling mortgage rates and the military spending bulge during the Iraq hot war phase.  These stimuli, however, are running out.  Optimists hope that business spending on inventories and capital equipment will seamlessly take over and continue rapid economic growth, but negative pricing power and excess capacity say otherwise.
The lack of stimuli will unmask the weakness in consumer incomes resulting from continuing layoffs, the only route to cost control and profits growth when selling prices are falling.  Combined with consumers' newfound zeal to save, this suggests economic weakness next year and a breaking of the housing bubble.  In that climate, stocks are vulnerable but Treasurys will benefit, especially as a soft economy resurrects the specter of deflation.

“Sidebar—Capacity Utilization: How It's Measured”

“The 2003 Tax Cuts: They're All Over”: The 2003 tax cut package had a big impact on third quarter consumer spending as the $400 Child Tax Credit checks went to Wal-Mart, pronto.  But that's all folks!
The rest of the individual tax cuts went largely to higher-income taxpayers since they pay the vast majority of taxes.  They're also the big savers, so the income from tax reductions this year and next as well as the big refunds next April will be predominantly saved.  Business tax rate reductions are unlikely to spawn capital spending, given ongoing excess capacity.

NOVEMBER 2003
“Productivity and Profits”:  Recent robust profits growth, aside from the ending of big writeoffs, has been driven by leaping productivity.  This in turn is the result of vigorous layoffs and job exports more than longer run factors like new tech, labor training and restructuring.  In a climate where pricing power is absent and volume growth tepid, cost-cutting, especially labor costs, is the only route to profits improvement.  Without robust productivity, profits in recent quarters would have fallen as the effects of higher labor costs and falling selling prices offset the impact of rising sales volume.
Tax cuts, low mortgage rates and other stimuli that have been spurring consumer spending and housing strength are fading at a time when consumer saving rates are rising.  If business investment seamlessly supercedes these government stimuli as the economic driver, double-digit corporate profits growth may well continue and support current high stock prices.
But if a business spending surge is lacking, as we expect, then continuing layoffs may well precipitate weakness in consumer spending and housing.  This climate would be detrimental but not disastrous for profits.  Layoffs would probably keep productivity growth ahead of muted labor cost increases, but falling selling prices and volume would harm earnings.  Present stock prices do not suggest that shareholders are prepared for this scenario.

OCTOBER 2003
“Is "The Bond Rally of a Lifetime" Over?”:  The leap in Treasury bond yields from mid-June to mid-August—along with the conviction that the Fed, fearing deflation, is hell-bent on recreating inflation—has convinced many that the two-decade-long rally in Treasurys is over.  We disagree.
Deflation remains the odds-on bet regardless of monetary and fiscal policy attempts to stop it.  This will be clear to fixed-income investors if our forecast of a 2004 recession pans out.  Tax cuts, low mortgage rates and the leap in defense spending have sustained the economy in the face of robust global deflationary forces and the morning after the 1990s bubble.  But these stimuli are about over, and high layoffs continue.  So consumer retrenchment and housing weakness are likely to subdue the economy.
This will force investors to recognize the strength and pervasiveness of deflation and, in the process, push Treasury bond yields to our long-held target of 3%.

“Protectionism Is Flourishing”: The  recent breakdown in trade talks and the G-7 pressure on Japan and China to boost their exchange rates points to an increasingly protectionist world, not surprising when layoffs are continuing and jobs are scarce.
The U.S. is limiting immigration and subsidizing numerous sectors; Europe, pleading health and safety, has severely limited imports of certain U.S. agri-cultural products while subsidizing its own farmers; and Japan restricts rice imports to protect its own.
Meanwhile, China and Japan gave a flat "no" to the G-7's demands.  And the poor countries want the rich t