You have to wonder who is willing to loan money to the United States government - given the state of its fiscal and monetary policies - for thirty years at below 5%. But the Treasury is anxious to auction as much long-term debt now as it can, locking in what it believes are low rates. This is another way of saying the Treasury thinks rates will rise (creditors will ask for higher rates when lending to Uncle Sam).

In the report from the Treasury's borrowing committee to the Secretary, the committee said it was getting a wee bit worried that the maturity schedule of the Treasury debt portfolio could be in trouble if rates go up. Specifically, it wrote that, "The potential for inflation, higher interest rates, and roll over risk should be of material concern."

Perhaps this is why the Treasury and the Fed are considering whether to "move out on the interest rate" curve and try and set rates for longer-term debt. If the market is going to push them up, the Fed will have to push them down (as it has been doing anyway with its purchase plans). Rules are made to broken!

Take the statutory U.S. debt ceiling for example. The Treasury's borrowing committee writes that, "Based on current projections, Treasury expects to reach the debt ceiling in mid- to late- December. However, the government's cash flows are volatile, and forecasting a precise date is difficult. Treasury is working closely with Congress to pass legislation to increase the debt ceiling. We will keep financial market participants apprised of developments as the debt outstanding approaches the statutory limit."

In other words, the jack asses in the U.S. Congress will have to pass a new law allowing the Treasury to borrow more. This would be comical if it weren't so disgraceful. U.S. monetary authorities continue to tell the world's savers that the U.S. standard of living is not negotiable, even if it means increasing public sector debt to over 100% of GDP.

But the world's creditors may not be in the mood to negotiate anyway. We think the rise in gold is one example of creditors deciding there are better things to do with their money. And in the meantime, take a look at the graph below from the Quarterly Refunding Statement of the Treasury's Office of Debt Management. It's a doozy!

Click to enlarge

Sorry about the size. We had to reduce the chart to get the whole thing in. In case you can't read the fine print, it says that in the next five years, there will 73 days on which more than $20 billion in Treasuries mature and 46 days on which more than $30 billion in Treasuries mature. That's 119 days of major league reckoning.

Normally, that debt is simply rolled over as a new (or often the same) buyer refinances it. But what do you think will happen in the next five years? The U.S. will be borrowing more and more and probably at higher rates. Our guess? It won't be good for the dollar.

Dan Denning
for The Daily Reckoning Australia

• Federal Reserve to Buy $300 Billion In U.S. Treasury Bonds
• Australia to Borrow as Much as $300 billion
• One Year Treasury Bills to be Reissued by Bush Administration
• Every Member of Congress Gets a Copy of I.O.U.S.A.
• U.S. Trying to Auction Off $162 Billion in Debt

The move we refer to is the forced breakup of Telstra's retail and wholesale businesses. It will separate Telstra's physical network from the services side of its business. The Minister announced legislation to achieve the split yesterday - and he did not make it in the form of a request.

We suppose Telstra doesn't have too much room to complain. If you profit because the government gives you monopoly status, you can't very well go and complain when the government (your former benefactor) changes its mind. This is why doing business with the government is so dangerous. It can change its mind...and the law...leaving you with no recourse.

But if Telstra the company feels hard done by, imagine how investors feel who paid as much as $7.40 for shares in the company when the Howard government sold off the government's stake in parts. The shares closed yesterday at $3.11.

And before we forget, do you remember that the Future Fund sold 684.4 million shares of Telstra at $3.47 per share on August 20th? It netted the fund $2.37 billion. The shares were sold via a placement to institutional holders. Hmm. So what to make of this?

Well, one way of looking at is that the Future Fund has profited while private investors haven not. Remember, the Future Fund was been set up to manage the pension liability of public sector employees. By our reckoning, the Future Fund would have made at least $250 million less selling its Telstra stake if it sold it at yesterday's closing price - after the government plan took a wrecking ball to the shares.

Mind you, no one forced anyone to buy Telstra shares when it was sold off to the public. You might be in for a spot of bad luck if you belong to superannuation fund that bought the Future Fund's Telstra shares last month. But then, we're not suggesting the private funds would have known ahead of time they were going to lose money on the shares. That would have been a bad deal, even for them.

But it's hard to see that the interests of government employees seem to have been looked after in the last month quite well, while private investors who got into Telstra years ago continue to take a pounding. It makes you wonder...what did the Future Fund know and when did it know it?

And also, is this more evidence that we don't live in a capitalist world or a socialist world but in an oligarchy? Are we moving to a world where the most job security and financial favour comes from being on the government payroll? What a world that will be...

By the way, the breakup should be better for consumers. The only real argument for a telecommunications monopoly in the first place is that Australia was never a big enough market to support multiple telecom companies capable of making the capital intensive investments to build nationwide networks. So the government picked the winner and backed it.

Even though it's an island, there are now lots of foreign firms and capitalists willing to compete with local entrepreneurs. The argument for preserving Telstra's legally mandated near monopoly evaporates. Consumers ought to get more and better services at lower prices. Here's hoping it works that way.

And while we're on the subject of government and absurdities, make some time to read Dr. Steve Kates' article in the Australian earlier this week about GDP and recession. His article points out how handy a classical economist can be in a debate and how ridiculous is the government's claim that the Aussie economy is better off because of the stimulus.

The first thing you try to do when you win an argument is control the definitions. Words and ideas are the "battle space" of public policy. If you control the definitions, you control the high ground of the engagement. That's why names have consequences. It's also why it's interesting that the naming of things is one of the first things Adam does.

The government wants to equate avoiding a technical recession with doing something good for the economy. But as Dr. Kates points out, GDP measures the level of economic activity, but not necessarily the quality. He shows that there are three components of GDP measurement; spending, production, and the distribution of business receipts (through wages and investment).

By two of those three measures, Australia did have a recession. It only avoided a technical recession because the government stimulus spending - borrowed money that adds to the fiscal deficit - created the illusion that a dollar of public money spent creates a dollar of real economic growth. Although Dr. Kates doesn't say it, we will: that's bogus.

Spending borrowed money does not make an economy more productive or create new assets. To say it does is like saying that running in place can get you from point A to point B. Your arms are pumping. Your legs are driving. You're literally going through the motions. But you're literally going nowhere. It's all heat and no motion.

Dr. Kates puts it this way, "While the stimulus package appears to have been able to distort one of the three sets of national accounting measures we use, beneath it all the Australian economy, in keeping with the rest of the developed world, has gone through a recessionary phase from which it is only now beginning to emerge."

As you can see, there is still heaps of deliberate misinformation or just plain stupidity about the wisdom of fiscal policy. But along with bankers who had access to nearly infinite leverage, its these free spending politicians their interest rate fixers at central banks who created this financial albatross that hangs around the neck of the real economy. Do we really expect them to tell us how bad it is, or how much worse it could get?

If you're looking for an explanation (and a prediction) of where we really at, mark Wednesday, October 14th in your calendar. At 6:30 pm that night Professor's Michael Hudson and Steven Keen are going to "Lift the Lid on the GFC" at an event at the Melbourne Town Hall. It's free, but you'll have to RSVP to reserve a spot.

We haven't met Professor Hudson in person yet. But along with Steve Keen, he's one of the straight shooters on what got us into this mess. They've both written quite a bit over the last few years, and in clear terms that challenge the conventional wisdom.

And if you're not in Melbourne there's good news. It looks like similar talks are on the calendar for Brisbane, Sydney, and Canberra. You can find details on the events here.

Your editor is on his way to Paris today for a meeting of international financial publishers to discuss the state of the industry. We'll be in the air for the better part of the next day, but will check in with you when we get to France on Thursday morning. Until then...

Dan Denning
for The Daily Reckoning Australia

• The Inevitable Path Toward Capital Controls in America
• One of the Biggest Humbugs in Capitalism is Private Equity
• Aussie Dollar is Crushing Long-time Rivals Like the Pound and the U.S. Dollar
• Bigpond Blocking e-Mail from the Daily Reckoning Australia
• Rumours Swirl Over Chinese Equity Stake in BHP Billiton

Oil did move up overnight in the futures market to US$71.94. And locally, there was more positive news for energy and energy stocks. Bloomberg reports that, "LNG sales from Australia's biggest resources project may reach A$300 billion over its first 20 years." It added that, "Chevron yesterday completed supply agreements with Tokyo Gas Co., Osaka Gas Co. and South Korea's GS Caltex Corp. that [Aussie Prime Minister Kevin] Rudd valued at A$70 billion. The Japanese companies have agreed to buy a combined 2.25 percent stake in Gorgon."

The Prime Minister would be keen to associate himself with the success of Gorgon. Who wouldn't? It's a big deal. It's also a dirsuptive deal.

Earlier in the week - prior to being struck down again with an intestinal virus - we reviewed the negative comments on unconventional LNG from Woodside Petroleum's Don Voelte. He pointed out that the capital spending and operating costs for the coal-seam-gas business were probably higher than people realised, and that there were real problems with higher carbon dioxide levels and other by-products from unconventional gas (compared to conventional off-shore LNG).

Voelte may be a bit frustrated that investors are taking a punt on the small companies in the LNG business that have yet to produce anything, instead of say, chucking some cash into his firm. After all, Woodside remains one of the best established LNG producing stocks in the world. That's why we featured it in Diggers and Drillers a few years ago.

But he was wrong to imply that unconventional LNG can't be economic or competitive. It can. An example is the production of unconventional reserves from the Barnett Shale formation in Texas over the last two years. Yes, it was capital intensive. But it - and other 'tight gas' projects - increased gas production in the U.S. over the last three years. That reversed a long period of stagnation, with natural gas production having peaked in the States in the early 1970s.

So the financial and business model for succeeding in the unconventional energy space is already there. For Australia, that makes the prospect for investors even more exciting. Not that it will be easy. But at least you know what you're looking for. You're looking for geographic regions that are highly prospective for either "tight gas" (natural gas stranded in semi-porous structures) or coal-seam-gas, most of which is being found in Queensland's Bowen and Surat Basins.

Once you find the companies that have the best prospects, you look for the companies that can produce those prospects at the lowest cost. You'd also look at the capital structure to make sure the firms can execute their projects without a lot of debt, and preferably with a cash cushion. You'd look for good managers too.

None of this still guarantees the company will succeed or the share price will rise. But if you want safer integrated energy plays, there are already plenty of those to choose from. And all those firms are valued on production and reserves, meaning that the upside (in terms of share price) is strictly correlated with rising oil prices.

The case with the unconventional energy plays is different. First, the big institutions aren't looking for these firms. They don't want to take a punt on unproven company in an unproven industry with high capital costs and high probability of failure. The advantage for finding the eventual winning firms goes to small investors simply because bigger investors can't be bothered to look until later, after the winners emerge (by which time the largest share price gains will have already occurred).

But the main advantage of looking at the smaller firms is that they are emerging as the disruptive technology firms of the energy sector. It is true that technology can increase production from oil and gas fields and help us find more oil and gas. We don't think this means that better technology means there is no oil crisis.

However the smaller, entrepreneurial companies are probably the most exciting energy stocks because their success is so unexpected. As Ingrid Campbell writes in "A overview of tight gas resources in Australia, "The defining feature of the history of tight gas exploration in North America has been the high level of scepticism by the major global oil and gas companies towards the commercialisation of this unconventional resource. It was, and is, the smaller independent explorers, who were motivated to develop the techniques and technology for extracting gas commercially from tight reservoirs."

Small companies with everything on the line had better be extremely motivated. If they aren't, they'll fail. And frankly, most of them do. But the ones that don't, well they often do very well indeed. And that alone is the best reason to keep looking at these stocks, as Kris Sayce has with his "thin air" plays at the Australian Small Cap Investigator.

Dan Denning
for The Daily Reckoning Australia

• Uranium: A Carbon-friendly Substitute for Coal
• Giant Costco Opens in Melbourne!
• Tesco is a Buy
• Small Caps to Lead the Way in 2009
• Supply of Conventional Crude Oil is Very Close to its Peak

"Banks recover to their levels before the fall of Lehman," is a headline in this Monday's El Pais from Madrid.

"Public assistance enables the world's largest 15 financial firms to return to the capitalization they had in September 2008," the article continues. The largest of the largest, HSBC, is now judged to be worth $186 billion, according to the stock market. China's ICBC is on its heels, with a market cap of $178 billion. BNP Paribas is 7th at $87 billion.

We will overlook the compromising detail that banks actually lost money in the last quarter - more than $3 billion. And let's forget that China's major banks are sitting on mega-losses from more than eight years ago (to say nothing of the more recent losses). Western banks, too, still have billions in assets whose real worth is an open question...and subject to quick reconsideration...

El Pais goes on to report something intriguing: "The two big Spanish banks leave the crisis stronger."

Ah. What doesn't kill you makes you stronger. The world economy is recovering, or so people believe. Stocks are going up - led by the banks. But are the undead of the banking world really stronger?

Ha ha...don't make us laugh.

But the world seems to believe it. The Wall Street Journal reports that just five big financial stocks are behind the stock market's rally. Fannie Mae, Citigroup, Freddie Mac, Bank of America and AIG account for nearly a third of market's daily turnover. Seems everyone is speculating on the banks...and moving them higher.

You will recall, dear reader, the banks made a fortune during the bubble years. You may also recall that they made so much money that when the bubble years came to a close, that they were almost all broke. Without hasty action from the feds, it would have been the end of the road for every major bank on Wall Street. As it was, even with government help, none of them survived intact. They all either went bankrupt, were sold off, or got bailouts with strings attached.

What busted the banks was too much of a bad thing. They made their money by peddling debt. In order to move the stuff, they convinced clients that their products were good safe investments - even leveraged derivatives backed by subprime mortgages! Such good salesmen were they that they even convinced themselves. When the crisis came, they realized that they had been buyers of the debt...as well as sellers of it. What could they do with it...except sell it to the feds?

But the whole financial industry is coming back to life. According to El Pais, it's back...and it's better than ever.

But wait? How could that be? Hasn't the world entered the worst recession since the great depression? How could lending money be such a good business? People don't borrow in a recession.

Strategic Short Report's Dan Amoss is just as skeptical. "The banking system has no experience managing through the current 'negative home equity' environment," he tells us. "This is an environment in which mortgage rates are already about as low as they can get and consumer balance sheets are as stressed as ever. Due to the nonrecourse nature of mortgages, most borrowers have no financial incentive to keep paying. Many are choosing to mail the keys back to the lender.

"This problem will cap the upside of bank stocks for years to come, so the sector will offer lots of short selling opportunities."

Borrowing by households has fallen off a cliff. Instead of borrowing, they're paying back debt at the fastest rate since the '50s. No money to be made there.

How about commercial and business loans? Are you kidding? Businesses are cutting back too. Businesses borrow to expand...and there is no expansion going on. This is a contraction. Credit is contracting along with everything else.

Then, how could the banks make money? Let's refer to that news item again. Oh...there are the magic words: "Public assistance enables..."

The banks are making money the same way Detroit is making money...dishonestly and temporarily. Instead of doing honest deals with willing and able counterparties, the banks are pulling a fast one. Their money comes, ultimately, from the poor taxpayer...the poor sap who funds all the government's giveaways. The private sector lived far beyond its means during the bubble years. People wasted their money they didn't have on things they didn't need. Now, they try to save their money. But now the government wastes their money for them.

Speaking of which...a quick note on the Cash for Clunkers program. Numbers to be released today are expected to show a peak in sales in August caused by the feds' incentives. President Obama calls the program a showcase, proving how effective government can be at getting the economy back on the road.

But let's go back to basics. It's a sham when people waste their own money. It's a crime when they waste other peoples' money. Prosperity comes from accumulating (saving) capital...and using it to increase productive capacity. The formula is pretty simple: Save your money. Invest it in productive business. The Clunkers program encouraged people to do the opposite - consume capital, other peoples' capital.

'Nuff said.

Bill Bonner
for The Daily Reckoning Australia

• Warren Buffett Travels to Europe to Seek Out Better Investments
• Aren’t You the Least Bit Suspicious that Goldman is Talking Up the Banks?
• Banks or BHP?
• Central Banks’ New Money is Piling Up
• Ask Not What Your Banks Can Do For You…

"Friday's edition of The Wall Street Journal picks up on the theme of the long road of pain ahead for bank shareholders in the US," colleague Dan Amoss tells us. "In 'Banks on Sick List Top 400,' the WSJ details several ugly highlights from the latest FDIC Quarterly Banking Profile, published last Thursday.

"Here are a few:

"1. The FDIC's Deposit Insurance Fund is now promising to insure $6.2 trillion in deposits with just $10.4 billion in reserves. Expect to see another "special assessment" cutting a few billion dollars out of bank earnings later this year.

"2. Credit card losses are at a record: 9.95%

"3. 416 banks, or 5% of the nation's banks, are on the 'problem' list.

"4. FDIC-insured banks are sitting on $332 billion in loans more than 90 days past due, up from $290 billion in the first quarter.

"5. Nonperforming loans now make up 2.77% of the entire banking industry's assets. This is up from 1.4% in June 2008 and 0.47% in June 2006. As these loans get 'worked out' in today's credit environment, the market will start to realize how severe net charge-offs will be.

"In this new report, the FDIC published updated figures for the combined noncurrent loans and loan loss allowance at all FDIC-insured institutions. Here is an updated version of the chart we published in the Aug. 14 alert. The new figures - the moves from December 2008 to June 2009 - are highlighted in the dotted lines at the far right of this chart:

"You can see how problem loans are increasing at a much faster rate than the rate at which the banking industry is adding to its loss allowance. This means that published capital ratios are misleadingly high."

Dan's latest short idea for Strategic Short Report is building up its loss allowance at a glacial pace compared with its skyrocketing delinquencies and nonperforming assets. Its management team likes to highlight its strong capital ratios. But when adjusted for the inevitable growth in provision expenses - and the leaner operating income that its shrinking balance sheet will generate - its capital ratios looking ahead to mid-2010 don't look so strong.

Bill Bonner
for The Daily Reckoning Australia

• The FDIC Is in Trouble
• An Insider’s View of the Real Estate Train Wreck, Part II
• In Europe, Banks Borrow Money and Lend it Back to the Government
• FDIC Wants Banks to Make More Loans to their Business Customers
• Banks or BHP?

This week, Ben Bernanke got the nod for another stint as head of the world's most important central bank. Yes, he completely misunderstood the implications of the hugely negative US trade balance, believing that America did the world a favor by spending its "global saving glut." And, yes, he missed the approach of the biggest financial disaster in three generations. Then, when it arrived, he mistook it for a routine recession, until finally, panicked by the collapse of Lehman Bros., he insisted that Congress pass a $750 billion spending bill - or "we may not have an economy on Monday."

But except for things that really matter, he's been a pretty good Fed chief. Besides, he has the right credentials. He was a professor of economics at Princeton and holds a Ph.D. from MIT - just like the most recent Nobel Prize winner in economics, Paul Krugman.

The United States has just averted the Second Great Depression, say the papers. "What saved us?" asks Krugman in a recent New York Times editorial. "Big government," is his answer. Specifically, the big government of Ben Bernanke.

But the ghost of Milton Friedman haunts the central bank. Bernanke borrowed a phrase from Friedman, saying he'd even "drop money from helicopters,' if necessary, to prevent deflation. This led to one of the surest trades of the Bubble Era was the so-called on the 'Bernanke Put.' Investors thought they could count on him. Buy stocks. If they went down, Ben Bernanke would make sure you didn't lose. He'd add liquidity until the market bounced back. But the Bernanke Put trade went bad in '07. The market fell. Ben Bernanke added liquidity. But so far, stocks have yet to regain 50% of what they lost. Meanwhile, consumer prices are falling. And yet, he does not drop money from helicopters. Why not?

Few people would have more authority on the subject than the group gathered at the Beverly Hilton in Los Angeles earlier this year. Michael Milken, the Junk Bond King, gathered them thither and picked up the tab for Gary Becker, Myron Scholes, and Roger Myerson...each of their names is preceded by 'Nobel Prize winner.' With that kind of brainpower on hand, you'd think you could come up with a good explanation. But the best they could do was a simple analogy. Gary Becker (Nobel awarded '92) took the Friedman line; he argued that by putting out the little forest fires, the recessions of the '90s and the early '00s, the feds inadvertently created the conditions for an even greater conflagration. Instead of burning off the underbrush, the tinder built up until a huge blaze was inevitable. And in a speech honoring Friedman, Bernanke accepted Friedman's criticism of the Fed in the '30s. Yes, Bernanke admitted, the Fed made mistakes; but we won't do it again, he said. The burden of today's rumination is that he was wrong; he will do it again.

"Inflation is always and everywhere a monetary phenomenon," said Friedman. But deflation doesn't seem to be a monetary phenomenon at all. Despite huge inputs of new money from the Fed, prices are still going down. The Fed's balance sheet more than doubled in the last 18 months. It will probably double again - to $4 trillion - before Bernanke's next term is over.

Friedman won a Nobel Prize for his work. And he drew around him a community of scholars that won so many Nobel Prizes they ran out of room in the University of Chicago trophy cabinet. But it only makes you wonder about the Nobel committee. Friedman's acolytes won their prizes for elaborating a series of mathematical proofs for things that were either self-evident or self-evidently absurd. Most of them were later shown to be wrong, irrelevant or misleading. Modern Portfolio Theory, Black-Scholes Option Pricing Model, Dynamic Hedging - the farther afield the scholars went, the more they lost touch with home. The more scientific their work became, the more it resembled alchemy or phrenology.

Friedman's work itself was flawed in the same way. The general principle was correct - that the government that governs the markets least governs best. But when he got into the mechanics of 'monetarism,' he got lost. He believed that if the Fed kept its eye on the money supply; the free market would take care of everything else. But the free market didn't take of everything, at least not as people hoped. Economist Murray Rothbard explained why in 1971. You cannot expect the free market to function perfectly if you leave in the hands of the government the power to control money. Either markets are free or they aren't, was Rothbard's point. If they're not free, you can't blame freedom when they fail.

But free market economists are now blamed for everything. The free- market Chicago boys are out. The MIT crowd is in. And investors are buying the Bernanke Put again, confident that the Fed chief will keep pushing money into the system and stocks will continue rising. But Ben Bernanke, for all his bluster, is a victim of the trade. Everyone knows what he is up to. They can't help but look ahead and see where it leads.

As soon as Bernanke starts his helicopter engines, bond buyers get out their missiles; the Chinese - the biggest single customer for US debt - have warned that they will shoot him down. What can Bernanke do? He is damned if he doesn't. But even more damned if he does. He can't guarantee increases in either CPI or stocks. All he guarantees is that Big Government will play a larger role in the economy...and that Milton Friedman's history of the Great Depression will turn out to be prophecy:

"The Fed was largely responsible for converting what might have been a garden-variety recession... into a major catastrophe..."

Ultimately, Bernanke does what his predecessors at the Fed did in the '30s...and what the Japanese did in the '90s. He hesitates. He makes mistakes.

And he wonders why he took the damned job in the first place.

Until next time,

Bill Bonner
for The Daily Reckoning Australia

• Ben Bernanke Pays Homage to Milton Friedman’s Theory
• Barack Obama and His Nobel Peace Prize
• Krugman Warns That the Run-up in Stocks Can’t Be Justified By the Fundamentals
• Everyone is Getting Tough on Bankers
• Keynesians Believe Governments Have to Manage Economy in Macro-Economic Way

A recent example from the British press: One of the first lottery millionaires punched a plumber and ended up in court, says The Telegraph. Michael Antonucci won 2.8 million pounds in 1995. But he "blew his entire fortune," reported the paper last month. Now he's reduced to stiffing tradesmen. The amount in dispute was just 400 pounds, what he was billed for a "gigantic ceiling mirror fitted above a whirlpool Jacuzzi." He had the mirror installed when he was still flush. Now that he's broke, he can't pay...hence the altercation.

The phenomenon is little different when it happens on a national or even imperial scale. Any money that you don't earn is stimulus. Without the sweat of honest toil on it, money seems to play a pernicious role in history. There are no examples - none - where it produced genuine prosperity. Instead, when a nation suddenly runs into some easy cash, it is soon spending more than it can afford...and getting into trouble.

The Roman Empire is in some measure a stimulus story. It conquered. It grew. Each conquest brought more booty...gold, silver, land and slaves. And each led to more conquests, which brought forth more booty. But the stimulus of this booty stimulated only the need for more stimulus. It did not stimulate real prosperity. Instead, it undermined it. First, slaves bought by rich landowners destroyed the free labor market and ruined small farmers. And then, imported wheat from the provinces - paid as tribute - put the large-scale farmers out of business too. Italy was then dependent on foreigners for its food.

In the first century AD, Roman conquests reached the point of diminishing returns; the stimulus came to an end. But borders still had to be protected. And Roman mobs, made up of displaced small landowners and out-of-work laborers, needed bread and circuses which drained the Treasury.

The first financial crisis of the imperial period came early. Caesar Augustus tried to solve it...with more stimulus. Neither paper money nor the printing press had yet been invented. So, Augustus increased the money supply in the only way he could; he ordered slaves in the silver mines in Spain and France to work around the clock! This extra money did not bring prosperity; it caused price inflation. In a period of about three decades, Rome's consumer price index almost doubled. Then, when output from the mines could be increased no further, Augustus's great nephew, Nero, found a new source of stimulus; he reduced the silver content of the coins. This source of stimulus proved ineffective, but enduring. By the time barbarians took over, the silver denarius contained almost no silver at all. Of course, Rome itself was played out too.

Another early and dramatic example of stimulus-in-action came in Spain in the 16th century. The conquistadors increased their supply of money in the time-honored fashion - by stealing it. Galleons brought treasure from the Americas; increasing the Spanish money supply substantially and fatally. The Spaniards had so much stimulus that they laid down their tools. Why should they work? They could buy things.

The discovery of a whole mountain of silver - Potosi - in the middle of the 16th century insured a supply of stimulus that would last for nearly a century. Results? Predictable. Inflation. In the "price revolution" from 1540 to 1640 the cost of living went up throughout Europe. In England, for which we have the most reliable data, prices went up 700%. And Spain, though it covered 40% of its state budget with this easy cash, still defaulted on its debts about once every 15-20 years, from 1557 for the next 10 decades. Spain, like Rome, welcomed stimulus; it never recovered from it.

Now we turn to the biggest misadventure in stimulus ever - the period after the United States 'closed the gold window' in 1971. In the 150 years before then, nations could stimulate their own economies with cash and credit, but only to a point. They could overspend; but they had to settle up in gold. After 1971, on the other hand, the sky was the limit - especially in the United States of America. The US could settle its bills in paper, which was then used by foreign central banks as monetary reserves. Since foreign banks were eager to add to their supplies of reserves, there was no effective limit on the amount of stimulus available. The Fed's adjusted monetary base grew 900% since 1985, and more than doubled this year alone. Total US debt tripled - as percent of GDP.

As it did with Rome and Spain, more and more stimulus stimulated spending and speculation, but not real output. During the 2001-2007 period, for example, credit in the United States increased by $22 trillion. The nation's GDP increased only by $4 trillion. For every extra dollar of output, Americans took on $5.50 of debt.

But now the bubble has blown up; the feds are on the case. What do they offer? More stimulus! Cometh a report this week that $23 trillion has already been put at risk in the various bailouts and credit guarantees. As for the US public debt, it is expected to increase until the country goes broke.

Future economic historians will look at these staggering efforts with awe and wonder; they will wonder what the Hell we were thinking.

Until next time,

Bill Bonner
for The Daily Reckoning Australia

• No Modern Government Policy is So Stupid that the Romans Didn’t Think of it First
• I Love Coming to Rome
• The Major Difference Between Rome and the U.S. – Electronic Transfers
• The Lint Age
• U.S. Fed Leaves Rates Unchanged, Morons

"The US is not alone in facing a deficit crisis," reports the U.K.'s Telegraph. "Governments worldwide have to raise some $6 trillion in debt this year, with huge demands in Japan and Europe. Kyle Bass from the US fund Hayman Advisors said the markets were 'choking on debt'".

"There isn't enough capital in the world to buy the new sovereign issuance required to finance the giant fiscal deficits that countries are so intent on running. There is simply not enough money out there," he said. "If the US loses control of long rates, they will not be able to arrest asset price declines. If they print too much money, they will debase the dollar and cause stagflation."

We'd also suggest that financial asset price declines will be accompanied by real asset price increases. Currency debasement has a way of leading to higher prices. As Mark Gilbert reports in Bloomberg, currency debasement as a way of dealing with huge debt is now a global phenomenon.

"All currencies are being debased dramatically by their central banks at extraordinary speeds and so in relative terms it appears there is no currency problem," Lee Quaintance and Paul Brodsky of QB Asset Management said in a research note earlier this month. "In reality, however, paper money is highly vulnerable to a public catalyst that serves to acknowledge it is all merely vapour money."

We would argue that one "public catalyst" which acknowledges that paper money is "vapour money" is the price of tangible assets. And that brings us to the other world to which Australia belongs. True, the country is following in the debt and debtor footsteps of the U.S. and the U.K. with its fiscal policy. But the private sector and the resource economy belong to the world of long-term structural demand growth from China and India. That world is a much better place to be, especially for investors.

A research report from Goldman Sachs JBWere says the "worst is over" for raw materials demand. It says investors should increase exposure to major resource companies. "We are becoming increasingly confident that the period of weakest demand for raw materials is behind us," wrote Malcolm Southwood. "We have also seen the bottom of the price cycle for base metals, and particularly for copper, which remains the most supply-constrained, and therefore our preferred commodity for investment exposure."

After the giddy heights of 2008, we take these pronouncements about commodities demand with a block of salt. After all, a cynic might think that brokerages were talking up the demand recovery story in Asia because their in-house trading desks are short the U.S. dollar and long oil, copper, and gold. However, if were we choosing which long-term investment was most appealing for Australian investors, we'd choose the China "V-shaped recovery" story. It will be nice if it's true.

But the question remains whether or not the resurgence in demand is just resource stockpiling or something more. And if it's something more, can growth in China's economy be sustained even as Europe, Japan, and the U.S. stutter, splutter, and splatter their way through the rest of the year?

And just to complicate matters, let's not forget that U.S. house prices fell by 19% in the last year, according to the latest Case-Shiller data. There is also serious erosion in the performance of "prime" mortgages, a $3.5 trillion market. It's entirely possible-we think it's likely-that there is another $1.5 to $2 trillion in losses coming, related to U.S. residential housing. The banks are not in the clear yet, nor are investors who own mortgage backed bonds or CDOs.

And we haven't even mentioned the commercial mortgage market. Did you read that Suncorp took a third-quarter impairment charge of $136 million because of falling Australian commercial property values? "Suncorp said its impaired assets increased by $255 million to $1.24 billion during the three months to March 31 after the Australian banking sector continued to be impacted by the deteriorating economy and declining property values," reports Dow Jones newswires.

That is the Anglo-Saxon world if debt-financed property inflation that Australia has one foot in. On the other foot, Newcrest's Ian Smith says the global economy may have "turned the corner." Bloomberg reports that Smith told a conference that fundamental demand in emerging markets is solid.

Advantage, developing world.

It's hard to know what to believe, then, isn't it? It's obvious the world's financial system is still broken. Specifically, the fiscal imbalances in the world's largest economies are economically unsustainable. But the political consequences of falling house and stock prices are unthinkable.

When political necessity meets economy reality, reality yields, if only for a short while. The result is currency destroying policies of quantitative easing and debt monetisation. And what does that mean? The long-term bear market in sovereign bonds has begun and tangible assets are rising, even though there is huge uncertainty over the prospects for the global economy.

Perhaps the best we can hope for is a reluctant compromise. The world's economy is not strong. But in some of the broken places, it is getting stronger.

Call it investment insight from Ernest Hemingway. "The world breaks everyone and afterward many are strong in the broken places," Hemingway wrote in A Farewell to Arms. "But those that will not break it kills. It kills the very good and the very gentle and the very brave impartially. If you are none of these you can be sure it will kill you too but there will be no special hurry."

More on death, adaptation, and survival tomorrow.

Dan Denning
for The Daily Reckoning Australia

• U.S. Treasury Auctioning Off $81 Billion in New Debt
• Price of Gold Communicates U.S. Monetary and Fiscal Policy is Lousy
• A Possible Holocaust in U.S. Bonds
• Chinese Government Expected to Sign Off on Second Stimulus Package
• Fed Willing to Print Money to Buy More Bonds to Keep U.S. Interest Low

We all agree that this is truly breathtaking stuff, and the "knockout blow" is that "the Fed will officially begin buying 'longer-term' U.S. Treasury notes. The FOMC said they'd spend at least $300 billion over the next 6 months" which is known as "sterilization" and I say is a lowlife stinking fraud where the Federal Reserve creates money out of thin air, then uses the money to buy Treasury bonds, agency debt and/or (literally) buying anything that they want, as much as they want, anytime they want, which they are doing because the Federal Reserve has destroyed the economy by creating so damned much excessive money and credit that nobody in their right mind is going to buy any stinking Treasury bonds yielding (in the original Spanish) el squato when inflation will be raging higher than the puny yield, meaning that bond prices will collapse and interest rates will rise, which is the last thing that the Fed or the government wants.

As the comedian Dana Carvey's Church Lady character used to say, "Now isn't that special!"

Of course, there are people in the world who are not as stupid as us Americans, and they look at this and say to themselves, "Holy crap! The American central bank, with what appears to be cowardly compliance from their federal government, has committed the ultimate economic sin, and we had better get our money out of that stupid currency before it loses all of its purchasing power!" which resulted in a fall in the dollar on the forex market, or, as The 5 puts it, a "2.7% drop for the dollar index - its worst one-day performance since 1971 when the index began."

Neil Irwin at the Washington Post reported, with that subtle-yet- unmistakable hint of panic, "The Federal Reserve yesterday escalated its massive campaign to stabilize the economy, saying it would flood the financial system with an additional $1.2 trillion."

Aghast, I raise a shaky index finger to direct your attention to Mr. Irwin's appropriate use of the adjectives "massive", "flood" and "additional" to describe the sudden scary appearance of "$1.2 trillion" in promised expansion of the money supply by the Federal Reserve, which is so scary that this is where Mr. Irwin lost valuable Mogambo Stylistic Points (MSP) when he forgot to extend "$1.2 trillion" into a phrase that would reflect the preceding phrases.

So, according to the Mogambo Big Book Of Economic Editorial Style (MBBOES), It should have read (in light of preceding adjectives "massive", "flood" and "additional"), "$1.2 trillion, which is a freaking unbelievable orgy of monumentally irresponsible monetary and fiscal insanity that not only makes you pee in your pants in terror of the inflation in consumer prices that will inevitably follow such enormous expansion of the money supply, but is even more terrifyingly that this same deficit-spending lunacy is forecasted far, far into the future, too, making the total situation of such a horrific magnitude that you can be fully justified in screaming your brains out in horror and outrage, being, as you are, 100 percent sure that it will destroy us completely by the simple expedient of destroying the purchasing power of existing dollars by creating too many new dollars!"

Bill Bonner here at The Daily Reckoning notes, "In response to the Fed's latest move, the yield on 10-year Treasuries fell more than any time since they started keeping records in 1962. From 3.01% it had fallen to 2.48% when last we looked" which seems paradoxical, since normal people would look at this massive creation of money and know that it means higher consumer prices, which means that bond yields would rise! And yet bond investors bought bonds, driving their yield down! Weird!

But this is the kind of stupidity that makes investing in gold, silver and oil so easy and cheap! Whee!

Until next time,

The Mogambo Guru
for The Daily Reckoning Australia

• Federal Government Making Taxpayers Pay Taxes for Nothing
• Federal Reserve to Buy $300 Billion In U.S. Treasury Bonds
• Federal Reserve Boosted Total Fed Credit
• The Destruction of the Dollar by the Federal Reserve
• What is this “Breakeven Point” for Oil?

But it is still a $770 increase in the cash money supply, in one month, for everybody in this country that has a private-sector job, with which to make a profit, with which to pay for everything, including remitting taxes.

And in the week when the Federal Reserve increased credit in the banking system by a big ol' $76.8 billion, of which the Fed itself bought up $56 billion dollar's worth of Treasury debt, the Gross National Debt increased by a huge $77 billion, taking the nation's federal indebtedness to a staggering $10.789 trillion, which is so much, and so bad, that it makes you involuntarily scream out loud in your nightmares and then get up the next day and buy as much gold as you can get your hands on, but it is even worse than that, as the damnable Congress has further indebted us, in the last twelve months alone, by almost exactly $1.5 trillion!

In one freaking year! I thought that TheBurningPlatform.com was going to comment on this astonishing fiscal irresponsibility of Congress and the Federal Reserve, but instead they commented on the $787 billion, 1,074 page stimulus bill that was just signed by Obama by noting, "The current 'stimulus' package of $787 billion is more than the entire National Debt in 1978 ($771 billion)."

I shook my head in bewilderment, and I thought, "What in the hell does this have to do with the national debt and how the loathsome Congress is spending us into the poorhouse by turning the purchasing power of the dollar into Pure Unadulterated Crap (PUC) by spending so much and requiring that the Federal Reserve produce, out of thin air, all the money and credit necessary for their despicable, corrupt profligacy, which is a word that always reminds me of whipping, and now that I think about it, I think that a mere whipping is too good for Alan Greenspan, former chairman of the tyrannical Federal Reserve, without whom all the inflationary spending and grotesque entitlement excesses would not have been possible and we would not be where we are today, economically bust-wise, although we would still be as old and decrepit since you stupid Earthlings put your inventive minds to developing weapons and bleeding-heart excuses to enlarge government entitlement spe nding instead of creating a youth serum or a pill to give you "six- pack" abs without dieting or exercise.

But it turns out that they are talking about housing prices, and say that "It is now 2009 and the median value should be $150,000 based on historical precedent. The median value at the end of 2008 was $180,100. Therefore, home prices are still 20% overvalued", which means that "prices need to fall 20%" from here, and maybe more, as "long-term averages are created by periods of overvaluation followed by periods of undervaluation", by which they mean, and I quote, "could fall 30%" from here, which makes you catch your breath in dismay at the prospect.

The catastrophe of such a thing like that happening kind of dazed me with a sort of petrifying fear, and the next thing I knew they were talking about the federal budget deficit, too, and that the deficit for 2009 "is now estimated at between $2 trillion and $3 trillion, give or take a few hundred billion."

They go on, "These figures seem incomprehensible to the average person on the street", and I think to myself, "You said a mouthful there, buddy!" as I am, literally, sitting on the street, having been thrown out of the stupid bar just because I was complaining about how the drinks all cost more these days, and I was blaming the greedy bartender, and he gets right in my face and says the reason that the drinks cost more is that the Federal Reserve creates money and credit, which makes prices go up, which surprised me so much that I blurted out, "This is incomprehensible to me! I always thought you were a stupid moron lowlife ball of garbage who never listened to me, but I see that you are, at least, not stupid about where we get inflation in prices!", which I thought he would take as a compliment...but he did not.

Until next time,

The Mogambo Guru
for The Daily Reckoning Australia

P.S. As I sit here, I realize that, thanks to the drinks being more expensive, I am not as plastered as usual, and with rare clarity, I see the need to get a pizza and some more gold because I am going to be very, very happy with some of each very, very soon!

• Federal Government Making Taxpayers Pay Taxes for Nothing
• Only Thing Rising Faster than Demand for Government Debt is Supply of It
• A World of Financial Freeloaders
• Central Bank Creates Excessive Amounts of Money to Expand Government Spending
• American Family’s Share of Government Debt Now Over Half a Million Dollars