May 6, 2010 European Union

Mayor McKae’s Blog
May 6, 2010
“May you live in interesting times”?

There is supposedly an old Chinese Curse, “may you live in interesting times”. I would say that certainly appears to be the case today. The motherland of democracy, Greece, has protestors against the democratic process in the streets; the Communist Party of Greece has taken over the Parthenon. Greece may be the first Sovereign Nation of Euro land to default on its debt. Portugal, Ireland, Italy, Spain and possibly the UK are looking like they are next to the “chopping block”. Gold has broken $1200 an ounce and forecasters are saying, “$5000 is the target”. Glass Steagal Act is being brought back from the dead as the political parties now bite the hand that has fed them for years, Wall Street (if we get a return to Glass Steagal watch financials drop 25%). To make that all confusing the rate of interest on U.S. Government debt has dropped! All forecasts for rates were that they were to rise. Yours truly was making that forecast too!

OK, what’s going on? First I must admit that it appears we are getting a return back to post Euro. This means that world banks had prior to the Euro; Gold, the U.S. Dollar and their local currencies were used as bank reserves. When the ECB and IMF came about, the reserves of Gold were jettisoned and the Euro Sovereign Debt was replaced along side the reserves in U.S. Government Debt. The mix I hear is 65% US Debt + 25% Euro Sovereign Debt + 10% Other Sovereign Currency Debt) That all sounds wonderful, but if one nation can keep on printing debt without any backing other than the “full faith” of the Euro or the US Dollar, is that a reserve worth?

Let me digress on this subject and take you back to the days of Teddy Roosevelt. Not really TR but his predecessor, McKinley. The US $ back then was 100% backed by gold. When Teddy went up San Juan Hill and the US became a nation to be noticed, Governments of the world were astonished that this pipsqueak country, the United States of America, financed the $50 million Spanish-American war with its own reserves. We were a nation of savers. Today we go hat in hand to those same Barbary Pirates, who the Marines made humble, “on the shores of Tripoli”, and borrow so we can live!

Enough digression, the change you are witnessing is not changing but a return back to the original status quo. The world banks are returning back to the old reserve system. Gold is back as a reserve. You saw it not too long ago when India bought the full IMF offering. You see it today as Gold vaults over $1200. U.S. Treasury bonds have rallied in price and dropped in yield. This is a great opportunity for the FED to unload their inventory of bonds. The FED has already stated that it does not need to unload all the $1 Trillion plus in debt. The FED says only half need to be sold in an orderly fashion and the balance will mature or be redeemed through re-financing. To my pleasure, my forecast for higher rates is now put off.

Europe will go into a recession; if austerity is in vogue in Spain, Italy, Ireland, Greece and Portugal; who is buying and with what? I lost track on the amount Greece gets in loans, but I do know it has an interest rate attached and the payment of the rate of interest will be paid before a pension is paid, a hospital is built, a tank is bought, a building is built and increased taxes will create a burden on businesses. Greece needs to re-invent itself. It needs to create an environment for investment and an industry to attract investments. Listen, I was a successful broker in Hawaii. I loved the view of Waikiki while I worked the market. The Aegean is a beautiful blue body of water. Reinvention, money to help transition, some sacrifice of the socialistic society and return to economic health without the chaos of the Euro being terminated.

That takes Europe out of the world trade equation for a while. What about the rest of the world? Who or what country or countries or geographic area will pick up the slack? China, the Asian Tigers, Latin America, Africa or maybe a new orientation of countries; may be it will be just a singular country. Maybe it will be a country that is known for safety, security and is the most trusted world currency. Could that be the US?

I wrote in the past that this recession and bubble burst is no different that the 1974 recession. Look to the past to predict the future. I will expect the reserves of world banks to return to US$, Gold and Sovereign debt. Frankly, I doubt if I were a Banker I would own Greek Sovereign Debt, rather, I would replace it with German Sovereign Euro debt, US Treasuries and Gold.

Investing in the US will become the new vogue. Hard Currencies will be in vogue and assets on the books will be hard assets first and debt last. Hard Assets like Gold, Real Estate, local business loans and government debt. I can tell you, I would prefer to have a loan from a local business on my books than a foreign government who uses repo’s and other sham transactions to hide its debt.

We will go back to the old fashion way of making money, “Earning it”, “Saving it”, “Investing it” and “making it productive”. China has jumped the game. China has begun to diversify its broad portfolio of trade balances. The Euro’s and US Dollars and other currencies are being circulated into the system as China buys companies and hard assets like Gold.

I don’t think that the Euro will end. It is logistically too difficult to terminate the Euro. There is no mechanism to force a country out of the Euro. The solution may be the most unpalatable of decisions, default. Default will not ruin the Euro. Greece borrowed using the Euro as a crutch and hid their finances with sham transactions. Look here, we had New York City in default in the 70’s and it did not collapse the $US. New York City came out of it, there was something called the Municipal Assistance Corporation to help NYC regain and solve their problems. All it took was money. Generated by debt, guaranteed by the US Government. We bailed out Europe once before, it was called THE MARSHALL PLAN, and IT WORKED! We did it with more debt historically than ever as a result of financing from WWII. We survived and so will Europe and the US!

If you want to see a real crisis in the World try and figure out how to untangle the complex transactions in Euros. I can imagine mountains of debt left with countries unable to service them. The results could be legal wrangling, mass personal bankruptcies and creditor losses. Then there is what to do the European Central Bank? Not an acceptable solution! All it is going to take is MONEY, LOTS OF MONEY!

Let me give you another sickening feeling in your stomach, while money is being thrown as the solution. If you’re upset about the spending to help banks and Wall Street and the new health care bill, or the great bonus to traders; get ready for the IMF bail out of Greece. The US owns 49% of the IMF and will put in some $39 billion. Yes, Mr. and Mrs. American Taxpayer you will now bailout Greece. How do you feel about that? Oh, wait on your timing using Maalox; soon it will be Portugal, Ireland, Italy and Spain. Don’t drink the full bottle all at once. The kid with the Big Ears in Washington needs some too! But wait, you may not need that full bottle. The contagion may end with Greece. If Greece is allowed to default and re-structure and survive, the rest of Europe can sit back and have a sigh of relief. Better yet, if the money allows Greece time to re-invent itself and re-structure, so much the better and the same sigh of relief. The line is in the sand and we must wait out the outcome. I think of a TV series of the 50’s, “Life with Riley”, his favorite saying was, “what a revolting development”.

With all this chaos what is happening here in our real estate market? To tell you the truth, it is GREAT! I have listings, I have buyers, the sellers are now realistic and the buyers know that the days of stealing a property are over. One of our Keller Williams agents has been rumored to have had closed $150 million in real estate transaction so far this year. Yours truly has over $21 million in deal pending. That does not look like a dead real estate market to me.

Keep looking for my tweets and short emails on daily events.

Good Buy!

Gary McKae
May 7, 2010