Findings & Forecasts 03/07/2012

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by Patrick Wood


The Fed­eral Reserve is scared to death of defla­tion. I have been waiting for responses from the Feb. 29th head­line, “Bernanke warns law­makers country headed for ‘mas­sive fiscal cliff’”, but there has been none. As rad­ical as that sounds, wouldn’t you think that it would start a national discussion?

According to Bernanke,

“Under cur­rent law, on Jan. 1, 2013, there’s going to be a mas­sive fiscal cliff of large spending cuts and tax increases… I hope that Con­gress will look at that and figure out ways to achieve the same long-run fiscal improve­ment without having it all happen at one date… All those things are hit­ting on the same day, basi­cally. It’s quite a big event.”

The idea is this: The com­bi­na­tion of higher taxes plus reduced gov­ern­ment spending will push the economy off the cliff. When con­sumers don’t spend, gov­ern­ment must make up the dif­fer­ence. This is exactly why the Fed has encour­aged gov­ern­ment spending over the last 3 years. Increased spending is the only remedy for deflation.

The Fed was orig­i­nally cre­ated to stim­u­late and con­trol infla­tion, and it has many tools at its dis­posal to do so. How­ever, there have never been tools or poli­cies that would con­trol or mit­i­gate deflation.

Bernanke is too late in expressing these sen­ti­ments. The forces of defla­tion are already in con­trol and cannot be nul­li­fied by any means except for let­ting it run its course. Still, the thought of a “mas­sive fiscal cliff” is a per­fect descrip­tion of what is ahead.

The uni­ver­sity system (thanks to gov­ern­ment enable­ment) is bank­rupting an entire gen­er­a­tion of young people even before they get a chance to be pro­duc­tive in the work­force. Stu­dent loan bal­ances at the end of Q3 2011 were mea­sur­ably higher than either total credit card debt or total auto loans ($870 bil­lion vs. $693 and $730 bil­lion). Of those who are out of school and need to make pay­ments, 27 per­cent are past due. While the average bal­ance per overall stu­dent (former and cur­rent) is $23,300, recent grad­u­ates are walking into life with bal­ances exceeding $100,000.

Except for mag­ni­tude, the stu­dent debt debacle is just as severe as the sub-prime debt crisis of 2006 – 2008. Unem­ploy­ment among this young gen­er­a­tion is double the overall unem­ploy­ment rate, making it vir­tu­ally impos­sible for most to retire their debts in the first 10 years of post-college life.

It should be noted that the edu­ca­tion system in America is a busi­ness monopoly. No com­pe­ti­tion is allowed and price increases cannot be resisted. Politi­cians have cap­i­tal­ized on this by cre­ating a web of debt to create com­plete depen­dence upon government.


Tuesday’s sharp drop in stocks and metals are sig­naling that the next phase of the bear is in force. In stocks, 90 per­cent were down with 90 per­cent of volume being down volume. All the major aver­ages have now expe­ri­enced drops out of their respec­tive chan­nels. In the S&P 500, the upward wedge has clearly been ter­mi­nated. In the NASDAQ 100, it has clearly fallen out of its steep upward channel.

The above chart shows how the NASDAQ 100 bumped up against its longer-term top trend line prior to reversing sharply.

More impor­tantly, the NASDAQ, DJIA, S&P 500 and Rus­sell 2000 have all dis­played impul­sive 5-wave pat­terns down, indi­cating a change of trend. If this were not the case, we would have seen a 3-wave cor­rec­tion before resuming the uptrend.

The dollar has ral­lied strongly and has com­pleted a clear 5-wave advance, con­firming a change of trend direction.

Gold and silver both broke sharply on Tuesday, con­firming Prechter’s “All-the-same” market theory. As stocks work lower, metals and com­modi­ties will follow. In par­tic­ular, watch for sharp drops in oil as well.

For anyone invested (long) in stocks, metals or com­modi­ties, there is a very serious risk of cap­ital loss straight ahead. Although no market moves in a straight line, prices should be con­sid­er­ably lower by year end. My loose tar­gets for the next 12 months or so are as fol­lows: Silver — low $20’s; gold — $1,300-$1,400; DJIA — 8,000 – 8,300; oil — $75/bbl.; US dollar — 88 – 90.  It is too early in the decline to offer mea­sured or cal­cu­lated tar­gets, but after the first inter­me­diate wave down is com­pleted, I will take a closer look.

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