Economic Cycle Theory

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Everyone and everything is getting higher and higher. Led by the investment banks, U.S. stocks are reporting earnings that “beat analyst’s expectations.” The Dow is over 10,000 again. Even oil is trading at $75.

Keep in mind most of the earnings news is garbage. Earnings are whatever an accountant wants them to be. Compared to last year – which was a shocker – this year’s earnings are bound to be better. And when analyst’s expectations are subjective, are you surprised to learn that the people who sell you stocks think that earnings are “surprisingly” good?

That said, the official unemployment figures in Australia appear to be going down. Consumer confidence numbers are back near all-time highs. At least here in Australia, the stock market and the economy are reading from the same prayer book. Both are singing the praises of the recovery (second coming of the Goldilocks Economy).

Amen.

In the States, it’s a little harder to figure out why stocks are singing such a different tune than the American economy. But it’s not impossible. Take oil.

While the higher price is good for oil companies and investors, you know it’s going to take money out of the pockets of consumers. Lower oil prices were a windfall for drivers all over the world in the last year, putting more discretionary income into the family budget. A higher oil price, as always, is a tax on consumer spending.

But we come here neither to praise nor bury the recovery. In fact, we come here to point out that the recovery is an imposter. It’s a financially-fuelled bear-market rally dressed in respectable clothing. The underlying problems in the economy are still there, dishevelled, dirty, and unwelcome in polite company . And the main problem is simple: too much debt (public, household, and corporate).

Or as Michael Hudson said in a previous interview, “The economy has reached its debt limit and is entering its insolvency phase. We are not in a cycle but the end of an era. The old world of debt pyramiding to a fraudulent degree cannot be restored.”

It cannot be restored, but the rate of its collapse can be arrested so that the members of the financial oligarchy can sell their stocks to a gullible public. And that’s what you’re seeing now. It makes for an incredibly tradable market. But it does make it harder to value corporate assets when balance sheets remain so badly skewed by a) bad assets b) unrealistic expectations of future consumer demand based on credit.

Advantage speculators. Disadvantage investors. And speaking of speculators…

Here’s a prediction about the U.S. dollar. It will find a floor. But that floor could be much lower. The greenback’s collapse is driving more countries to hold Euros, yen and gold in their foreign currency and monetary reserves. This could have a funny effect, though. It will put the spotlight on the fiscal conditions of Europe and Japan. And what do you think could happen then?

The Euro and the Yen may be better off, relatively speaking, than the dollar at the moment. But only relatively. In absolute terms, they are “deeply flawed” currencies as well, to use a Jim Rogers phrase. In the long run, most paper currencies fail. In the short run, there’s going to be a lot of volatility until a new monetary regime replaces the old one.

All of this bodes well for precious metals investors…in the long run. But don’t be surprised if governments get hostile to gold, at least for every day investors. Central banks will own it. But it might get harder for everyone else.

We began the week wondering about the cycles of history and markets. We wondered whether Australia is following the Anglo-American cycle into a long-winter…where people lose confidence in each other, in government, and in the institutions they relied on in the past for law and order, employment, and prosperity.

We’re not much closer to answering that question, and there’s only one day in the week left! Perhaps it will take more time. In the meantime, if you are interested in the idea of cycles and history, there’s a great article by Nick Paumgarten in the October 12th edition of The New Yorker. There are a few quotes from it below.

“Cycle theory is a kind of Gnostic offshoot of technical analysis. The nothing that things generally happen in cycles goes back thousands of years – Joseph’s seven-year-fat-lean cycle – but in the West the formal inquiry into economic cyclicality too hold in the mid-nineteenth century. The British economist William Stanley Jevons correlated economic cycles to the sun, proposing the fluctuations in sunspot activity might affect crop outputs.

“Around the same time, a Frenchman named Clement Juglar identified an economic cycle of seven to eleven years. In the nineteen-twenties, Nikolai Kondratiev, a Soviet economist, concluded that capitalism was inclined to half-century cycles of boom and bust and boom again, rather than, as Marx believed, a single inexorable collapse…”

“It was the Austrian economist Joseph Schumpeter, he of ‘creative destruction,’ who called these cycles Kondratiev waves and popularised them in the West. In the Kondratiev waves and other commonly cited cycles – the Kitchin (three to five years), the Kuznets (fifteen to twenty-five years)-the time span is flexible.

“They are suggestions, not rules. Hardcore cyclists, on the other hand, often seek and find instances of periodicity as rigid and fixed as the laws of physics, which is why hardcore cyclists are often dismissed as mystics and freaks.

“It is easy to scoff at cycle theory. Its whiff of predestination chafes the scientific mind. Our culture’s fundamental belief in causation and consequence, to say nothing of free will, does not easily accept the suggestion of helplessness, or of some kind of as yet unidentified exogenous force. God may decide the outcome of football games and debilitating illnesses, but he does not intervene in matters of investing and finance.

“And yet patterns exist, and we slowly discover them. Seasons, migrations, moons: the template is there. Consciously or unconsciously, most people accept certain components of cycle theory. We seek and see patterns in things. It is the way our minds work, presumably, for the purpose of survival.”

Dan Denning
for The Daily Reckoning Australia

Dan Denning
Dan Denning examines the geopolitical and economic events that can affect your investments domestically. He raises the questions you need to answer, in order to survive financially in these turbulent times.
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Comments

  1. Have I MISSED SOMETHING or is this the first time that this nugget has been mentioned on this web site

    “All of this bodes well for precious metals investors…in the long run. But don’t be surprised if governments get hostile to gold, at least for every day investors. Central banks will own it. But it might get harder for everyone else”

    Do you mean the very very long run but only if they let you keep your gold kind of thing???

    Thanks for a great website. I use it to confirm when truth comes from the fringe to the cultural centre. ie I tell my wife “Look it up on Daily Reckoning.com if you don’t believe me

    zytron bloodworthy
    October 15, 2009
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  2. “Earnings are whatever an accountant wants them to be.” Geez Dan prone to hyperbole much.

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  3. Z,
    it is not something gold bugs want to hear or speak about. They all want the “end of the world” scenario to come about so their gold goes to the moon.

    But none of them want to contemplate who ends up owning the gold if the worst case scenario does come about.

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  4. There have been economic cycles for thousands of years…why exactly is this such a big deal? But unfortunately the cycles are not predictable and this has been proven time and time again. Those who reckon the cycles move according to certain patterns that can be measured accurately simply find these patterns in hindsight. None of their systems or methods to predict the future ever work of course but they get plenty of coverage once economic conditions appear to be picking up again.

    Greg Atkinson
    October 15, 2009
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  5. Watcher7 isn’t going to agree with you there Greg.

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  6. I’m wary of throwing the baby out with the bathwater on gold. I think, for speculation, it’s a shameful waste of time (unless you know something nobody else knows, of course). However, in countries where there are no safety nets, smart operators tuck a little bit of this and that away in a secret place over time, just in case there’s a disaster and they have to flee. In that case you have to have a survival pack of various different kinds of valuable items for exchange (not just cash, as who knows which side is causing your particular disaster). A couple of gold sovereigns might get you a long way in that circumstance.

    Even in the fist world there is the remote possibility of total upheaval and chaos. I can tell you, the public of Europe by and large did not foresee the Second World War, and it was only a minority that sniffed the dangers of Stalin and Hitler – usually because they had connections or were well travelled. Nobody (except for the planners) anticipated those events until shortly before they occurred. The coming social, political and financial order might well be short lived, or it might not. People over the ages who _survived_ have had a belt and braces approach to risk management. That’s an important lesson for me.

    But that’s about all I’d say about gold. For me it’s in the what-if category, and even then I think other precious metals are a much better buy right now (eg: silver, whose price is falling even now). And even then, only if I had money left over which I couldn’t put to better immediate use.

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  7. Dan I got a few silver coins tucked away for the apocalypse ;).
    I think that the masters of the universe already have some idea of where all this currency debasement is going to lead us. So maybe gold will perform well as per last ten years until the time comes about when some new currency and/or political arrangentments are in place. Maybe then lower prices for gold or the action will just go flat. By that time the great transfer of power and wealth will be evident to the masses who’ll wonder why they didnt see it coming. Of course it’ll be their own fault for not reading DR. Then they could have stressed about it for years in advance until it happened anyway.
    At least at this very moment I dont think our masters will stir up trouble by banning gold. It doesn’t fit with their successful mode of operation over recent decades (successful pertaining to increased size/power of banks and governments) which generally assumes the pretense of offering increasing protection and security from anything we may fear while expanding liberty, standards and choices. We should know theres no such thing as a free lunch but alas we’re imperfect.
    Once the act is up well golds future is anybodys guess.
    Or does the act just go on and on till Morpheus rescues us from the matrix?

    Lachlan Scanlan
    October 15, 2009
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  8. prozak

    “But none of them want to contemplate who ends up owning the gold if the worst case scenario does come about.”

    ummm, if the worse comes about, what who? (hehehe)

    one thing about gold though, illegal or otherswise, is that when all the (real paper) notes are tenderised with RFID tags, and therefore as traceable as digital cash, you can still melt down the gold and it will, if acceptable in the black (real) economy, be useful and “liquid”… just a thought from a doomsdayist.

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  9. Vodka and tobak and benzene and canned munchies are WAY more useful and tradeable than lumps of pretty yellow metal should such badness come to pass fellahs … Believe what you want – But I’m telling you the truth!

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  10. Ned I reckon the alcotine mix would make great day to day cash substitute but for those wanting to store a little away (store of wealth) that gold has proven itself through time. Point taken on my silver coins though maybe, intoxicants more tradeable….but wait a minute… hmmmm now storing booze for a future doomsday…what happens if you get thirsy in the meantime :)

    Lachlan Scanlan
    October 16, 2009
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  11. Ah, a fellow survivalist Ned :)

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  12. I think we all need to relax a little and breath deeply. I recall vividly how the world was suppose to spiral into chaos when the Y2K bug destroyed the fabric of our society…but yet here we all are ;)

    By the way if you want to tuck something away that store values then try toys, have you seen what people pay for some of those old matchbox cars or original GI Joes still in the box?!? Or alternatively you could collect classic wines, then if things don’t work out as planned you can drink the stuff.

    Greg Atkinson
    October 16, 2009
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  13. Attended a few auctions where the top prices were achieved by suits with cellphones bidding on behalf of Asian customers, Greg. It was explained to me that many of these bottles would be exchanged several times, as gifts cementing one deal or another; or, if to be consumed, the year had to be the birth year of an offspring. When you see $4000.00+ spent on a great red, you have to hope it travels well.

    A friend paid $360.00 for a case of 1980 Grange when a liquor store near us went into liquidation two decades ago. (You can see why they went into liquidation.) When I cracked one to mark the millennium, the gold book rated it at $785.00 a bottle. Not too bad an investment. Quite a few of ours have appreciated, but others buried deep in the cellar have peaked. Really need to ‘catalogue our holdings’… . Love those tangibles. ;)

    Biker Pete, Vancouver Island, Canada
    October 16, 2009
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  14. hahahaha…. now we know what penniless pete thinks is a good wine and an expensive wine. oh well pete.

    obviously we have to make believe (like pete does) and pretend that that pathetic pete has even actually got within 10 feet of a bottle of grange.

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  15. Biker Peter – I have never had a good eye for wine, just a good stomach :) I was sent some investment material a few years back regarding a wine investment scheme (you buy the bottles and store them in London) but I passed because I wanted the option to turn up at any time and crack one open ;)

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  16. …these editorials are so good sometimes I’m laughing so much I cant get through the whole article….but I push myself

    keep it up
    cheers

    Ray Santini
    October 17, 2009
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  17. Hello Lachlan Scanlan!

    A wise old mamma who’d been through a few tough times once asked a foolish young man who had his eye on her little girl a few basic questions as to his financial stability:

    1 – Do you you have a job?
    2 – Do you own your home?
    3 – Do you have some money in the bank?
    4 – Do you own your car?

    But she never asked him whether he had any bullion holdings? Or even stocks nor bonds? I found that an informative lesson. Smile!!!

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  18. Not everyone who has been through tough times is wise Ned.

    In fact, plenty of people who should know better…have been running countries into the ground for years.

    Age or experience do not imply wisdom. Wisdom is gained from understanding your experiences, not merely being there at the time.

    And that, I believe, is why true wisdom is often very rare.

    That old mamma sounds like any old lady concerned about their little ones. And if she had already taken him for a “foolish young man” then it is a fairly safe assumption that he wouldn’t know a thing about bullion or stock trading.

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  19. Where there is charity and wisdom, there is neither fear nor ignorance.

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  20. Given that some of us will probably never be wise Pete, I feel it is handy to try and get the basics right regardless – And wise old mamas who’ve been through a few tough times seem to have a bit of an intuitive understanding for what the basics are.

    Another one of the basics just might be that central bankers are especially skilled at destroying the purchasing power of fiat currencies? And I’m real sure the wise old mama could have told the foolish young man that too – If he’d been clever enough to ask her – But she did her bit towards trying to protect him from that by dragging him around town and pointing out some property he might like to consider using his fiat currency to purchase.

    The last I heard, that property market was flat (after having gone up by maybe 80% in 4 years.) While the stocks have recovered a bit to only being down 40% from their peak – As opposed to 80% which they were a year ago.

    I’m not sure why the wise old mama didn’t suggest the foolish young man buy stocks given that very good money would seem to be able to be made trading highly volatile asset classes. It’s just possible she figured he didn’t have those skills yet and mightn’t acquire them anytime soon – If ever?

    The wise old mama was also pretty big on things like getting/having a reasonable education and on strong family bonds Dan – When you sometimes get four generations of ladies all living together in one small apartment with one small kitchen the latter could be especially handy I think! :)

    In fact, as I think about it, the wise old mama sounds like she might have had a lot in common with Robert Kiyosaki’s Rich Dad? Although she’d got her life lessons in a very different culture to him – A case of parallel evolution perhaps?

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  21. That’s just it, Ned. Tradition is a way of passing on wisdom to the unwise. Yes, the occasional person is born with an amazing intellect, with sublime gifts of insight and understanding, but most of the rest of us just have to get along more simply. To stick to one’s principles, or rather, to the principles of our forefathers is already wisdom enough for most.

    The modern world is geared to leave people adrift, all relationships being transient and only for self gain. As such people are vulnerable to trends, propaganda and whatever else – they part with their money and freedom willingly. The proverbial wise old mama is not so much speaking from experience, but echoing the words spoken to her as a girl by her own grandma from a previous age. Pete’s right though, tough times often come from lack of wisdom – the GFC is a case in point. And Rudd’s solution? More un-wisdom! In his opinion, the reduction in the splurging of cash (which would have been wise) was going to drag us all down, so he encouraged people to go out and spend – the fools who did it are now the more vulnerable.

    The utility of these thoughts for a place like DR is that financial wealth won’t last unless you have something more within yourself to pass on to the next generation. Having the three generations living together ensures the handing on of family traditions and wisdom – it promotes the retention of wealth (aside from being a very efficient way to live). The industrial revolution blew this apart and ushered in modern serfdom and the great “home ownership” fallacy (ie: you get into debt to move away from the farm you once owned (or were given a home in for nothing by the owners), in order to live in cramped conditions near the factory that employs you but doesn’t bother to house you). It has been worsened further by the various other revolutions (bloody and otherwise) that have followed. But as I read somewhere, the past is proof of what is possible – it’s not that hard to dredge up the good bits and recreate them in the present.

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  22. Ned:
    I am not at retirement age yet. I was taught to respect my elders when I was young and I very much seek and appreciate the advice of people who have experienced things that I have not.

    But I am careful not to assume that age/experience = wisdom. Many an older person is jaded by past mistakes or jealousy of the youth. Think about all the boomers pushing their kids right now to buy into the housing bubble. That is not wisdom, that is just fear. The majority of them think that the trends of the 2000’s will continue forever…because this was the trend during their lifetime. You don’t have to look back much further into history to see that this trend is not consistent.

    My understanding of Robert Kiyosaki’s book is that a good education and a good job is not enough to be rich. It is “thinking” that way that rich people think that get you there. So I very much doubt the old lady has anything in common with that book.

    Incidentally, I think you would find many European “old mammas” with exactly this same attitude. Didn’t seem to help those economies much.

    Dan:
    “Tradition is a way of passing on wisdom to the unwise”

    Sorry, although this may sometimes be true, I very much believe that is a rarity.

    Think about all the traditions that have existed that have held progress back, discriminated against or benefited only those in power.

    We could say that traditionally western economists follow Keynes’ theories.

    Not to mention non-economic traditions such as female circumcision or islamic people cutting their heads in the name of religion. Note that I am not against any religion, but some traditional practices are extremely backward.

    “As such people are vulnerable to trends, propaganda and whatever else”

    And if people follow tradition, are they not even more vulnerable to these? Tradition makes behaviour predictable and even more prone to manipulation.

    I do generally agree with what you have said, however I think that you have unintentionally confused wisdom and knowledge with tradition. One could even say that a ‘tradition’ in Australia is to leverage up on property as much as possible. Which is not using past wisdom or knowledge at all, other than the speculation that an upwards trend will continue forever.

    However, back to your final points, which I do agree with.
    I heard a phrase once when I was much younger – “it takes two generations to build wealth, and only one to destroy it”. This was in reference to family wealth, but would probably apply to national wealth too.

    I agree that Rudd’s cash splurging is stupid. He seems to think that if you can prop up the spending for a little while, it will eventually recover and you won’t lose jobs in the downturn period. As most of us would realise here, the spending we have been doing has been based on excess credit, which is clearly not sustainable. KRudd is using a far too simplistic economic model that suggests the world was running perfectly pre-2008 and that natural economic equilibrium will take us back to that point in time. He is wrong, and the future generations will get to learn from that.

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  23. Good answers, Pete. I admit on rereading my comment that I hadn’t thought it through particularly well, and the whole thing is quite conditional actually. Indeed the example of Islam’s cultural traditions is an excellent rebuttal.

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  24. I don’t think anyone is trying to make the argument that age equates to wisdom Pete? And while I definitely don’t regard myself as wise (or especially aged – Smile – More like the foolish young man perhaps?), I sure do wish I knew at 15 what I knew at 50.

    Those Many older people you reckon are jaded by past mistakes and jealous of youth sound like a right pack of “baskets” to me – I can’t actually say for sure that I’ve ever met one – Although I have met people who are younger than me and a similar age to me and older than me who just didn’t seem to like me.

    As to folk wisdom helping one get the basics right – I think that is why it exists – And overall it is most probably best followed most rigidly in environments where survival is significantly more challenging than the one we inhabit.

    An example: I was wandering along one day with an Aboriginal bloke and he bolted – Next thing I know he’s back with a sand goanna – And I got the pleasure of watching him prepare lunch for two. In preparation he put a neat little nick in the side (just above one back leg as I recall?) and slowly and carefully hooked out the innards with one finger. Seemed like a lot of effort when one could have done the obvious thing and ripped it right up the guts and got the lot out easy all in one hit? I did the typical “Ask a stupid question” thing and said “How come you did it that way?” At which point he looked at me like I was an absolute fool an replied “Because that is the way it is done.” After which I figured that asking questions as to “why” wasn’t going to get me very far – So sat and watched (and continued to learn maybe???) He dug a hole in the sand and put in a bunch of leaves and twigs plus the goanna and some more combustibles on top, lit fire, scraped sand on top and later on we ate well. I’m not real quick, so I’m pretty sure it was only many years later that the thought finally popped into my mind that if he had done it “my way” rather than “the way it is done” I would have had the pleasure of chewing on a bunch of sand and charcoal and ash along with my meal. Did that man understand that? No idea.

    I guess we all took our own lessons from Kiyosaki’s books – So yes, I do still see similarities between “the wise old mama” and “Rich Dad”. They surely weren’t identical – Way too many quite fundamental differences in the opportunities their societies offered them, their culturally accepted ways of achieving security for them and theirs etc, etc, etc … But there were important similarities – From where I sit anyway.

    Wise old mamas (be they European, or Asian, or some other breed … Even Oz ones?) are probably still handy things to have had around should one’s central bankers prove to be a bit of a disappointment perhaps? But yep, ours is a changing world and learning some new tricks could be handy – If one can.

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  25. PS: If you aren’t an Aussie, a goanna is a lizard (they grow up to about 6 foot long maybe? Although I’m no bushy and reckon the biggest I’ve seen couldn’t have been much over 4 foot once I toned them down to reality in my imagination) – Although the one me Abo mate and me et that day was more like 2.5 foot maybe – I’d steer right clear of the big buggers unless you know what you are doing – They have sharp claws for climbing trees – And have been known to mistake people for trees when frightened I’ve been told.

    Just thought I’d try and do the courteous thing and save any foreigners the effort of googling the term if you were in any way interested.

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  26. A goanna is also a kind of monitor. But I get funny looks at Hurvy Narmon’s at the entertainment section when I shout “hey check out the goanna! nice resolution .. but I don’t like the sweet spot”.

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  27. And a monitor is a kind of lizard. (As I recall?) And “go anna” can be a political statement in the State of QLD. English can sure be an interesting language – Given all it’s numerous and very varied forms. Read a great little book on it (shouldn’t that be “red” – as it is past tense perhaps? Good try but no – Because red is actually what pink is when one removes the white bits – Try eplaining that to a new migrant!) called “The Adventure of English” by Melvyn Bragg a while back (cute surname given some of the comments floating around DR recently perhaps – Coincidental I’m sure – Good book IMO regardless.) Wonder how many Brits realise that “Got Mit Uns” [Nyet, dat’s Duetsche] – These European lingos are all so similar they keep mixing me up – Apologies to youse more culturally inclined linguist types – What I really meant to say was “Dieu Et Mon Droit” – Like on their granddad’s wwi belt buckle (and HRH’s coat of arms – You know the one – It’s got a lion and a unicorn on it as there were lots of them running around the UK when the druids were huggging oak trees) is not wog Latin (Chk Chk Boom is my pinup girl – ah to be 30 years younger, cruising the Cross, not out and out pigdog ugly and in with a chance – Perhaps not – But she was good fun anyway [some people pay money to see performances that aren’t as good as that – We’ve got to find a lizard to name after that lass – A goclaire perhaps?] but wog Frog! Just wondering? :)

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  28. I just can’t resist Ned – I bet that Chk Chk girl has seen a cockatoo. How much can a Koala bear :)

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  29. God luv ya Don – Just how many of us Aussie males aged between 9 and 90 probably wouldn’t really like to know the answer to that if our surface veneer was scrathed off with a finger nail? CHEERS!

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