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Friday, December 31, 2010

11 for ’11!

By Mike Conlon |


A worst-case scenario.

2010 is about to end after experiencing an economic ride that did not lack drama. Euro debt crises, various rounds of US quantitative easing, a political upheaval in Washington DC, extremely high unemployment, and declining housing prices were but a few of the major drivers of economic activity last year.

So what do we have to look forward to in 2011?

Well, I think if we get a repeat of the type of events we saw in 2010—then we’re in for some volatility! However, I’m not sure if the global economy can handle another set of events like this again. My hope is that as things start to “normalize” we get back to more stable ground and leave behind the “economic bubble” mentality.

Do I expect that to happen?

Absolutely Not!

With politicians, banksters, competing economic interests, and everyone trying to get to the top—something’s gotta give. So I’ve put together a list of “predictions” or things we need to look out for in 2011. If all of these predictions come true—then we might be in serious trouble! With that said, these predictions represent a combination of things that could potentially be good or bad for the global economy. I’ll let you decide which is which!

1. Commodity inflation increases and causes social unrest. As we end 2010, oil prices are around $91.25 and gold is around $1400 thanks to Bernanke and QE2. While CPI data (which strips out food and energy) is likely to be engineered lower by the powers that be, the US consumer is not going to believe it this time. In fact in China, inflation is already out of control and government attempts to curb it will likely not work. So expect tensions to flare as prices for necessities pick up and the middle class gets squeezed yet again.

2. Just because the US government says there is no inflation, doesn’t make it so. In fact, intelligent investors around the globe not only recognize this, they position themselves accordingly. In addition to inflationary forces at work, government deficits around the globe are being scrutinized. Bond investors seeing this toxic combination will demand more interest for lending governments money—the US included. These investors known as “bond vigilantes” are going to push interest rates higher, if Central banks won’t do it themselves.

3. As interest rates rise, housing prices will continue to fall. This is a general rule of thumb that was all but forgotten over the last 5 years of the housing bubble. In addition, as the amount of foreclosure properties currently on the bank’s books (in addition to a potential new crop if rates go higher and even more people are under-water) increases, this could send housing prices lower by another 15%.

4. Don’t think for a second that the EU is going to escape unharmed as the market’s attention is on the problems in the US for the first half of the year. Spain, the Euro zone’s 4th largest economy will likely be the target of the bond vigilantes and would be a crowning achievement if they can force yields in Spain higher and cause them to access the emergency facility before any meaningful reform is enacted. Germany will most likely try to sacrifice Portugal, which may be given up if Spain can’t be toppled. Either way, this will put tremendous pressure on the Euro and could revive the “end of the Euro” talk again. The Euro won’t totally collapse, as it likely to start a run lower from a higher starting off point due to US Dollar weakness to start the year. I expect this to happen around mid-year.

5. China is going to allow the Yuan to appreciate—for real this time! Tired of the games being played by the US, China decides that the only way to keep its economy under their own control is too allow their currency to strengthen. China has built up such an enormous economic surplus that it could likely subsidize any losses incurred to exports due to a higher Yuan value. At this point, there is no other country prepared to take China’s place in exporting, and the new found “currency wealth” that Chinese citizens would experience will help buoy an already rising domestic demand.

6. With real estate prices dropping, US municipalities find it harder to find revenue even if they were wise enough to attempt to rein in spending. For those who haven’t cut costs, the potential for default on liabilities will have increased. First it starts in the towns, then small cities, then big cities, and then to actual states. Of course the federal government will just attempt to paper this over, but it may not be possible given the new make-up of Congress.

7. As both a cause and result of all of this economic malaise, unemployment remains high. Even in the face of the Bush tax cut extensions, business are still loathe to expand quickly despite the tax cuts for the rich. President Obama was forced to admit that indeed tax cuts stimulate the economy much to his party’s chagrin—however because of the temporary nature of the extension, he won’t see a meaningful benefit until either A) there is a major overhaul of the tax code; or B) much of his agenda is defeated or reversed (Obamacare) and it appears likely that he will be a one-term President.

8. GDP growth in the US slows to 1.5%. With high unemployment, declining asset prices, higher commodity inflation and the removal of government stimulus, growth in the US is modest at best. There will be times throughout the year where the “dreaded double-dip recession” talk heats up, and we will narrowly avoid this fate. Consumer spending is some 70% of GDP and higher energy and food prices coupled with housing price losses will send the consumer back to the sidelines.

9. US stocks trade higher despite the economic conditions and rising interest rates. Corporate profits will be maintained as cost-cutting measures and lack of spending allow businesses to maintain reasonable profitability. With no other place to put capital to work, investors turn to the stock market despite earnings multiples which become inflated. However, this house of cards is likely to tumble near the end of the year, even after navigating year-long volatility.

10. A new “BRIC” currency emerges, as these countries decide to move away from the Dollar and provide an alternative as a reserve currency and medium of exchange. Already, these countries are forming bi-lateral agreements amongst themselves so it is only a matter of time before this happens.

11. Bernanke and the Fed launch QE3/4 in response to the housing and municipality crisis, as well as to ward off the potential sell-off in the financial markets. The “audit the Fed” talk heats up and this becomes Bernanke’s last stand. However, the economy is saved by the thought that it “needs to get worse before it gets better” and that the “extend and pretend” policies of 2010/early 2011 are finished.

Happy 2011 to all!

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