A Flaw in My Thinking?

I've been basing my worst-case scenario on a combination of the Great Depression, the 1970s, and Japan. I'm starting to think I was too optimistic, yet again.

TechTicker: FT.com's Martin Wolf "We'll Be Lucky if Downturn Only as Bad as Japan's"

Wolf, who is also a professor of economics at University of Nottingham, believes "it will be lucky" if the current downturn is only as bad as Japan's so-called lost decade. Unlike the U.S. today, Japan was able to count on a strong global economy to mitigate the affects of its burst bubble and struggling financial system. "There is no world economy to rescue the U.S.," he says. "Chances are [it will prove] much worse than Japan." (editor's note: wait, I thought China was going to save the U.S.?)

He makes a very good point.

Arguing today's toxic assets are "fundamentally worthless" - and there's lots more losses coming - Wolf says the lack of political will (or outright cowardice) to admit to reality means "we're really in trouble." Why? Because confidence in policymakers will continue to deteriorate as their ill-conceived solutions continue to fail.

We are so, well, you know. I've been thinking it since 2004. What I wasn't thinking was just how, well, you know, we really are.

There's nothing stagflationary about what happened today. Everything was in the red, from stocks to bond yields, to the CRB. My TIP fund had a good day (up 0.46%) but its non-inflation protected counterpart IEF had a much, much better day (up 1.34%).

As a side note, my girlfriend just bought a pair of Dockers for $2 at Ross. They were 75% off of $7.98, which was already a heavily discounted price. Is Starbucks pricing two pairs of pants equals one cup of coffee into their business plan?

There's currently deflation out there. No doubt about it.

Calculated Risk: Obama on Nationalization

Sweden, on the other hand, had a problem like this. They took over the banks, nationalized them, got rid of the bad assets, resold the banks and, a couple years later, they were going again. So you'd think looking at it, Sweden looks like a good model. Here's the problem; Sweden had like five banks. [LAUGHS] We've got thousands of banks. You know, the scale of the U.S. economy and the capital markets are so vast and the problems in terms of managing and overseeing anything of that scale, I think, would -- our assessment was that it wouldn't make sense. And we also have different traditions in this country.

Scale, vast, problems, and scale are what I see when I read between the lines. A normal cyclical downturn is something I don't see. I certainly wouldn't have started this blog up in 2007 if that's all I thought was coming.

TIPS: The Swiss Army Knife of the Bond Market

I argued that the government-guaranteed real yield on TIPS was compelling regardless of one's view on inflation.

That is and was my thinking. Further, my view of inflation is decidedly undecided, now more than ever. If deflation really sets in with a Great Depression style vengeance then I could easily lose 8% this year. It isn't as bad as it sounds though, once 10% cheaper prices are factored in. As a saver, it beats the heck out of hyperinflation.

But with oil and energy prices stabilizing and even rising over the past month or so, negative CPI months are much less likely to occur going forward.

I am sympathetic to that argument but we don't know that for sure. The stock market has also been stabilizing, right up until today that is. The experts continue to tell us that last November marked the bottom. Their reasoning? We haven't had a new bottom since. Wow. I sure hope they are paid the big bucks.

Never mind that staring at the obvious trends within historic charts is what helped to get us into this problem in the first place. Housing and stock market prices only went up, oil was always cheap, deficits didn't matter, and the banking system was riding an unprecedented wave of American prosperity, remember? Good times, good times.