Sunday, November 22, 2009


We have always found the mass media view of “the economy” useless for predicting the risks and opportunities in our world. So we came up with a personal viewpoint and forecast for the global economic downturn and we have found it useful and comforting to have a view that makes sense to us and points us to where we will have the best opportunities in the future.

Our assessment of the current economic situation is colored by our experiences of the past and our view of the current situation. The 1930’s Great Depression was caused by massive speculation in stocks. Money was borrowed to buy stocks that were consistently increasing in value turning investments in the stock market into a quick way to “easy street” - a magical place of wealth and no work. When the massive speculation based economy fell apart it brought extreme deflation due to the assets that the banks had lent money on being priced far under the value of the loans. Banks could not return depositors money which caused most of them to go bankrupt. The abrupt loss of the American banking system’s assets resulted in widespread loss of jobs and wide spread poverty, where the majority of American workers had a hard time making enough money to pay for food and rent. It was not until 30 years later, in 1962, that the stocks of surviving Depression Era companies like General Electric recovered their 1929 values.

The current economic crisis looks a lot like the Great Depression scenario to us except that residential housing was the currency of speculation rather than stocks. As the bank loans for housing mortgages have come to exceed the value of the houses, the banks’ assets have fallen far below the amount of money they owe their depositors resulting in banks across the US (124 so far this year) and the world going bankrupt.

During the roaring 2000’s, the amount of global “mortgage currency” created is estimated to be about $40 Trillion. The Federal Reserve has been electronically creating an unprecedented amount of US dollars (currently between $750 Billion to $1.5 Trillion and growing) and pouring these new dollars into the banking system and global economy to reduce deflation and keep money flowing due to the head of the Federal Reserve, Bernanke, being a student of the Great Depression and working diligently to minimize the severe cash shortage and banking collapse that was so destructive in the Great Depression. Assuming real estate losses are at 50% of their value, the sudden global currency that has gone missing is about $20 Trillion, or ten times the current cash infusion by the Federal Reserve. Though the huge infusion is small compared to the global losses and has not stopped rapid deflation of things such as real estate, the response by the Fed will result in this economic contraction being different than the Great Depression.

Here is our take on the situation:
1) The huge amount of dollars being created by the Fed and the US’s massive deficit spending will continue to strongly devalue the US dollar against most other world currencies.

2) The absence of personal credit in the US due to tightened credit standards and the low rate of employment will be highly deflationary as American workers will no longer have money to buy things, even on credit.

3) The low dollar value will raise the cost of imported goods and restrict Americans access to raw materials that are in high demand by other nations.

So in summary, we are entering a deflationary period for non-exportable assets with rapidly rising prices for imported items such as computers, electronics, cars and exportable raw materials like lumber, corn, cement, oil, and steel. The strange situation unfolding is a rapidly devaluing dollar combined with fierce local deflation which will likely continue for several years. At the same time that raw materials become globally more expensive, American raw materials will have great price advantage internationally. Deflation is new to us after 50 years of inflation and it will take some time to grasp the full extent of how it will change things in Hawaii and it is further complicated by the simultaneous occurrence of international inflation.

So we ask ourselves continually, what is our smart move in a deflationary, devaluing economy with rapidly rising international raw materials prices? In our next blog we will describe our plan.


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