Larry Kudlow says don’t panic

Posted: August 10, 2011
8:19 pm Eastern

© 2011 WND

People are losing their retirements, their savings, their nest egg. Investors are now starting to realize that the U.S. is built on a deck of debt cards and they are starting to fall.

The United States has a current debt-to-GDP ratio of 100 percent just like the other Third World nations out there. It also has future liabilities in excess of $110 trillion (an amount that no other country can even fathom).

All the while, the U.S. dollar is losing strength and the cost of living and feeding a family continues to go up.

But Larry Kudlow says don’t worry.

See his article here:

While Kudlow points out that lower commodity prices should spur economic development, he misses out on several key factors that are needed to properly evaluate the market.

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First, this isn’t a short-term pullback, this is a market correction. When the Dow Jones Industrial Average (Dow) went down to 6547.05 on March 9, 2009, we were supposed to retrace the low to roughly 50 percent. What this means is that our stock market should have faced some major resistance to move beyond the 9750 mark on the Dow. Instead by 2010 we had blown by it, and with the slight exception of the May 2010 flash crash, we never looked back. 

Make no mistake, speculation fueled the market. Case in point, look where we are now. When QE2 (Quantitative Easing 2) was implemented by the Fed last December, the Dow was hovering around 11,000. During April the Dow surged to 12,928. Everything seemed great.

Except it wasn’t.

With continual Federal Reserve (Fed) stimulus (low interest rates, and QE2), traders, black box traders in particular, were given cart-blanche to trade financial markets knowing that they would be flush with cheap Fed cash.

Since the cash was always there, traders didn’t care what the economic news was for the day. They were concerned with liquidity and how they could exploit liquidity to make a profit.

That’s why things such as a high debt to GDP ratio, poor housing numbers, and high deficit spending didn’t seem to register on Wall Street’s radar.

However, once the Fed pulled out their cash and ended QE2, traders started to run for the hills. They began to start dumping stocks. In fact, even sophisticated hedge fund managers such as Carl Icahn and George Soros proclaimed that they were disbanding their hedge funds, returning money to investors, and leaving the market at professional managers.

That should tell you something.

Between the top money guys leaving and the Fed pulling out cash, the fix was in. We were all fed the line that once we did the debt deal that financial markets would rally. And they did … for about an hour.

But that’s when reality hit.

Since then financial markets are starting to realize that the United States has no real end in sight to its flagrant spending ways, and astronomical long-term debt. Without Fed easy money to spur buying, investors are treating the U.S. economy for what it currently is … a sell.

Second, Kudlow points to rising corporate profits as being an indicator that the U.S. economy is still healthy. What Kudlow fails to recognize is that corporate profit guidance is being lowered for the second half of this year. Even Goldman Sachs lowered their guidance for the second half of this year.

Large corporations will see that margins are going down and that after enduring a major stock market correction, consumers are not running around the store waving their credit cards dying to spend. Consumers will not consume as much.

Savings rates are going up. The most recent data from the St. Louis Fed shows the U.S. personal savings rate is at 5.4 percent. Compare that with our April 2005 rate of 1 percent, and you can see that Americans are worried that the economy will fall and they will need their money.

That translates to economic slowdown. When individuals do not spend and start to save more, that slows down production and consumption, which in turn slows down the entire economy.

Third, Kudlow believes that there is a big overreaction going on to the problems in Europe. Keep in mind, Kudlow, along with fellow CNBCer Jim Cramer, thought Lehman Brothers was a good buy before it went bankrupt and wiped out investors.

The easiest way to understand the Europe problem is to think of economies of scale. Greece, which in relative terms is very small country, cost over $1 trillion to bail out.

One small country took all of the financial might and muscle of Europe’s top banks and governments to bail out.

Now think of Italy, the newest country on the brink. Italy’s debt crisis is 10 times the size of Greece. I’ll put it to you this way, the European Union cannot afford $10 trillion.

The entire GDP of the European Union is $16 trillion, so $10 trillion is too big to bail out. An additional problem with Italy is that a huge chunk of its debt is due within the next two years. So this isn’t a problem that can be shoved under the rug.

Combine this with a sluggish Euro and a European Union that is dealing with a global economic slowdown and the recipe is not good. With all of the weakness in Europe, the EU’s stronger countries (Germany and France) should start to see some of their strength erode as they are continually forced to bail out smaller players. By the EU charter, the EU guarantees all of the debt of its member nations. Hence, Germany and France will end up paying the bill for Greece, Italy, Spain, and all of the other countries who have overspent and are nearing bankruptcy.

Finally, Kudlow fails to point out several key ticking time bombs in the United States. First is the real estate market. With shadow inventories and foreclosures, home inventories should skyrocket to all-time high levels in the United States.

Second, student debt in America is at an all-time high. Fueled by government loans, universities have been charging students higher rates every year, regardless of what the stock market or the economy is doing. Current student debt in this country is estimated at $1 trillion. Just so you know, that was the amount of money that was needed to bail out our banks.

Third, municipal debt is a major issue. If cities and states start to go bankrupt, all hell could break loose. Remember, less than a year ago, California (the world’s 9th largest economy) could have gone under. The effects of a default of that size would cripple the domestic and global financial economy.

So Mr. Kudlow, in times like these, while panic may not be the right feeling, all is not well. Investors should be very concerned. They should be safeguarding their assets against a major stock market drop and planning for the future.

But then again, maybe that message isn’t one that the talking heads want to hear or give.

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