Money Sloshing Around The System

Excess liquidity must go somewhere! It is like water following the path of least resistance.

Much of it has sat on bank balance sheets as excess reserves. Some of it has wound its way into commodities and precious metals. A little has tentatively ventured back into the stock market.

Sadly, investors have parked a large portion of their hard earned savings in cash and bonds. That is going to end badly.

For two reasons. First, bonds offer very little in the way of a wealth effect. And as a corollary, there are no obvious asset classes where investors can participate in asset appreciation the way they did with their homes. Second, the asset classes showing the most signs of appreciating (energy, commodities, currencies), are also likely to translate that appreciation into inflation, thereby eroding real incomes and real returns.

Not only that, but in the absence of real structural reforms, we are entering another game of chicken in the markets (or, musical chairs - take your pick). That postponed day of reckoning may be 2, 3, 5 years off. But its out there, and once again, market participants are betting they are able to hit the exit button when the time comes. History would indicate otherwise.

Slicing and dicing the consumer

Everyone wants a piece of the consumer. It ain't going to be pretty.

In the future higher taxes will take a bite out of the pocket book (income, state, sales and property - we've got to pay for what we have deferred). Also, higher telecommunications costs (cell phone, data plan, cable), higher energy costs (electricity and gasoline, and cost of climate management), higher water/sewage/trash costs (got to pay for infrastructure investment), higher living expenses (food), higher retirement costs (increased savings bought on by greater financial insecurity).

Any way you look at it, there is less and less disposable income available for discretionary items (did I mention inflation robbing real income). Welcome to the future! Welcome to a more comfortable life with higher living standards (although reduced relative to our faster growing third world brethren), offset by less discretion and less financial flexibility.

Attention Shoppers - Standard of Living Adjustment in Progress

It seems reasonable to believe that the US (and a number of other developed countries) will be undergoing a standard of living adjustment over the next 10-20 years. The adjustment will probably be effected through a combination of stagnant real incomes and faster relative growth outside the country. And, the impetus for change comes from the need to get the consumer's economic house in order and the general indebtedness of the economy. The deleveraging of the economy will manifest itself in many ways and in many areas, but there is a good chance that the USD will play a very pivotal role.

Stagnant to falling real incomes will be underpinned by relatively high unemployment and high underemployment, as it relates to productive overcapacity. It will also be interesting to see how quickly the private sector rightsizes itself to these realities. American management is ruthless, so this transition may happen more quickly than thought. The government is going in the opposite direction, and so will serve as a counterweight to the private sector's improvements.