Thursday, January 1, 2009

So its 2009....

My thoughts:

And so it begins. Quietly. Like a thief. It has all the makings of being a year that most people would like to forget when it does end. The financial crisis is getting close to the mid point mark. The gangrene though has spread into the real economy. Large masses of people are starting to get laid off - not just the bottom 10% as sales slow. Consumers and Business are deleveraging simultaneously and as they do - they are feeding what is a classic deflationary downward spiral with demand destruction in all economic activities. In such a scenario the velocity of money slows dramatically and one of the ways to combat this is to create more money and hope that the additional money will compensate for the reduced velocity. The second and surer way to combat this is by Keynsian government spending. We've now heard of a proposed 800B Stimulus package from Obama's financial team. By the time this makes it way into Congress and Senate this should be close to 900B if not 1T. This spending if done wisely (giving it to the 50 States, green infrastructure etc) will help create demand (which is being destroyed in the private sectors). Robert Shiller (of Case Shiller) has called for Obama to create full employment (or what full employment would be in a typical recession). Obama is 100% right when he pinpoints the fact that it will be JOB CREATION that will renew confidence. Right now that is the most vital commodity that we're in a sore lack of. CONFIDENCE. Without it - nothing much matters.

Speaking of confidence, restoring that in the financial markets is another ballgame completely. Ofcourse one of the first things on Tim Geithner's agenda will be Insolvency at the heart of the US Banking system. If we were to assume 2T of total losses (I have even heard 3T worldwide if you factor in credit cards, student loans, CRE etc) - then only 550B or so has been recognized. Even if I were to believe some other estimates and say 800B has been recognized - that still means there is 1.2 to 1.4 T dollars of looses that have not been recognized. Even cutting this estimate into half - we're still left with 600B - 700B of looses that need to be recognized before the end of 2009.

Folks - this means that the Fed is going to print money. It also means that the Treasury will likely have to come up to the Congress one more time for another 700B or so and this money will be solely to re-capitalize the banks (dare I say nationalize the banks?). But assuming that this happens in the early part of 2009 - and the stimulus passes - and we start creating jobs again - we should see the end to this immediate nightmare by end 2009 or early 2010. But then we will have a ton of printed money worldwide sloshing around. At that point, inflation will make a huge comeback. I wouldn't be surprised to see oil take off to the races once again along with the other commodities in 2010. The Fed as usual is likely to be behind the curve and will tighten only when it is sure that inflation has taken hold and the economy will not die. So expect some tightening of interest rates in mid 2010 (and expect inflation to run rampant here...). Eventually Volcker will be able to talk some sense into the responsible people and liquidity will be drained severely in 2011. But don't be surprised if ice-cream ends up costing you five dollars a cone before this is done and things return to "normal."

Expect to be robbed and take steps to protect yourself.

Good luck to all.