Militarisation of US economy is sign of burst-bubble desperation

Friday 8th February 2002

Last week I looked at what the global asset-management (GAM) hedge-fund traders had to say about Japan.

In their most recent notes they were not much more complimentary about the US. The US has contracted a terrible sickness. Optimists are saying that even if the American economy recovers this year, the effects are likely to be subdued. It is common wisdom that many US stocks are still overvalued despite the crash and that they have further to fall.

It is a sobering thought that the Bush Administration has declared the US is at war. Against whom, now that they have bombed Afghanistan flat? Superficially, the Americans are pledged to wipe out terrorism. To that end Iran, Iraq and North Korea have been singled out as the enemy.

In reality, the US has swung over into a wartime economy to fix its internal ailments.

The three countries condemned are small potatoes, hardly worth getting out of bed to deal with, let alone mobilising the greatest military machine in history over. They have been there all along, much the same as before. There is nothing new about them to report.

We can add to the list Somalia, currently under American blockade and incapable of offering up material threat to anyone considering its chronic disorder.

Just as Ronald Reagan spent up on the biggest peacetime military expansion, so too will George W Bush try to buy his country out of the mire with armed forces expenditure, allowing his government to bust the budget and run deficits. Only this time around there is no Cold War to fight, only some motley third-world villains unlikely to make any serious difference anywhere.

The US is fighting a phoney war abroad to win the battle against self-induced domestic collapse. Hollywood could scarcely come up with anything more fake.

The militarisation of the US economy is a sign of desperation. The asset bubble the country has experienced threatens to replicate the collapse of Japan. Deflation looms, perhaps exported from Japan, or possibly generated from within the US itself. The New Economy has resulted in commoditisation of information technology and in the process pricked the balloon of the supposed value-addedness of high tech.

The shock of the implosion of the great white hope for US technological supremacy has yet to sink in.

The US surprised by turning out 0.2% growth for the December quarter when consensus was that it would shrink over that time by 1%. All very exciting until we recognise that retail sales were stimulated by aggressive cost-cutting and favourable credit terms to liquidate surplus stock, particularly automobiles.

The suspicion remains that Americans have already spent this year's discretionary income on last year's late spending spree.

The GAM managers are unimpressed. Natwar Gupta, investment manager for UK and international hedge funds states: "The US share of global GDP is about 25% but the weighting in the MSCI is about 56%. There is a premium attached to the US corporate sector and this needs to be reduced for the market to be reasonable."

Developing further the theme of overvaluation, John Bennett, investment director for European hedge funds says: "I have long believed that two things will have to fall in the US, the dollar and the US consumer. The US consumer is beginning to slide but the dollar still appears to remain the default buy. The biggest excesses have gone on in the US and that sits at odds with an enduring strong currency.

The US has 25% of global GDP but has been consuming two-thirds of the world's cash flow. That points to a problem with the currency ... There has been no financial collapse in history without a bank collapsing, as they are heavily leveraged and are effectively operating as hedge funds. I am beginning to worry about them."

In summary, if the GAM commentators are right, expect the US dollar and sharemarket to fall, bonds to rise, and interest rates to stay flat. It is in the lap of the gods as to whether US deflation lurks within this prescription.

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