Generational Dynamics: Forecasting America's Destiny Generational
 Forecasting America's Destiny ... and the World's


Generational Dynamics Web Log for 30-Jul-07
Nouriel Roubini brags that he predicted a housing recession a year ago. Whoo hoo.

Web Log - July, 2007

Nouriel Roubini brags that he predicted a housing recession a year ago. Whoo hoo.

As people scramble to cover their asses, the Principle of Maximum Ruin tightens its grip.

Nouriel Roubini is a professor of economics and international business at the Stern School of Business, New York University. He's a Very Important Person not only because he's a professor, but also because he's been economics adviser to Presidents and other government officials, and because he's sought after as a TV "expert" pundit.

In fact, he's such an Important Person that when he posts articles on his weblog, he usually justs posts a couple of paragraph, and then charges money to read the rest of the article. So unfortunately I usually don't check his weblog too often.

But I did check in recently, and was bemused to see him bragging about predictions he made a year ago -- well, last August, actually. He writes, "I predicted a year ago this will be the worst US housing recession in the last five decades and that real home prices will sharply fall for three years: all indicators on housing - including the latest new and existing home sales -- suggest that the housing recession is extremely severe as sharply worsening."

Well, what took him so long?

A lot of people were talking about a housing bubble in 2004. In July, 2004, I wrote an article entitled, "Real estate is in an overpriced bubble all over the world":

"Residential properties in countries around the world, including America, Australia, the United Kingdom, China, South Korea, Spain, the Netherlands, and South Africa, are overpriced by 50% or more. ...

Since 2002, we've been pointing out that Generational Dynamics predicts that we're entering a new 1930s style Great Depression, and that stock prices will fall by 50% in the next few years. The Fed's low interest policy has postponed the effects of the Nasdaq crash of 2000, but has not eliminated them.

So it's good that Prof. Roubini finally began to catch on last August. He obviously knew in 2004 that housing prices were increasing, because everyone knew that, but he didn't know until a year ago that it would have major repercussions -- a "housing recession," as he calls it.

How come I knew that it was important, and he didn't?

It's the way that Generational Dynamics forecasting works. You start with long-range forecasting techniques that I've explained many times -- exponential growth forecasting, mean reversion as applied to price/earnings ratios, and generational theory as developed in my article on "System Dynamics and the failure of Macroeconomics theory."

This is what makes the difference. Since I know where we're going, I can tell right away which short term trends will last and which ones won't. Thus, when a housing bubble developed in 2004, I could see immediately that it fit into the long-range trend, and therefore would be very important.

Roubini and other mainstream economists don't have that advantage. All they can do is look at short term trends and try to guess -- and they're almost always guesses -- which ones will last. Since they don't like to be wrong, they wait as long as possible to take a guess, so that they won't be fooled.

And even then they have to be cautious. Roubini could only predict a "recession." Maybe he would have liked to predict a larger crisis, but could not because he can't be sure. He has no sense of long-range forecasting, and so anything he says is just a guess.

As I look back over the last few years, I try to think of the various people I've quoted or written about, wondering which of them had any idea what was going on.

I'd have to include "analyst Adam Barth of Hoboken, N.J., based Barth Research," who wrote a 2005 article for Barrons that I quoted in my 2005 article on long-range forecasting mentioned above. Out of curiosity, I just googled "Adam Barth 'Barth Research'," and nothing comes up except my own article and the Barron's article. Did Adam Barth really exist, or was it someone else not wanting his real name used? I don't know, but he wrote a good article.

Then there's Stephen Roach, chief economist at international investment firm Morgan Stanley. I've followed much of what he's written, and quoted him. For a long time I thought that he understood long-term forecasting, especially because of his reasoning when he predicted "economic Armegeddon" in 2004.

But then he wrote a truly bizarre essay in May of last year, saying that he was "optimistic on the world economy" for the first time in ages. The reasoning that he gave for this turnaround was so specious, that I no longer believe that he has any concept of long-range forecasting, although he may be especially astute at short-range forecasting.

Current Fed chairman Ben Bernanke has been a special disappointment. Of all the major figures in finance today, this man understands the least, as I documented in my 2005 essay, "Ben S. Bernanke: The man without agony." He understands nothing about what's going on in world macroeconomics. He doesn't believe in bubbles; he believes that the 1930s Great Depression could have been avoided if the Fed had simply lowered interest rates; he believes that America's credit imbalance is caused because other nations have a "savings glut." And a couple of weeks ago he gave an unbelievably bizarre speech on inflation. Every time I read or hear something from him, I just have to shake my head in incredulity.

In that same 2005 essay, I also documented former Fed chairman Alan Greenspan's attitudes.

Up until early 2004, Greenspan believed that, thanks to Fed policy, the country had avoided the major consequences of the 1990s dot-com bubble. Up to this time, he was in agreement with Ben Bernanke -- they had lowered interest to near-zero, and thus avoided a new Great Depression.

But during 2004, Greenspan's statements and speeches became increasingly agonized, as the housing bubble grew and the credit bubble grew and the trade deficit grew. By January, 2005, Greenspan had totally repudiated his previous reasoning "because yields and risk spreads have narrowed globally." It was at this time that he used the word "conundrum" over his puzzlement that international long-term interest rates were much lower than mainstream macroeconomics could predict or explain.

I've never seen any commentary on Greenspan's January 2005 speech, but in my opinion it's one of the major speeches in the history of world finance -- not because it broke any new ground, but because it stated explicitly that everything that he and other economists had said up to that point was completely wrong. The implication was that neither he nor anyone else had any idea what was going on, and that of course is what happened.

His public remarks were at their starkest in his “swan song” Fed speech at the end of August, 2005. In that speech he commented favorably on the economy’s flexibility because it encourages investor risk, but warned about the stock market and housing bubbles, and added:

"To some extent, those higher [stock and housing] values may be reflecting the increased flexibility and resilience of our economy. But what [investors] perceive as newly abundant liquidity can readily disappear. Any onset of increased investor caution elevates risk premiums and, as a consequence, lowers asset values and promotes the liquidation of the debt that supported higher asset prices. This is the reason that history has not dealt kindly with the aftermath of protracted periods of low risk premiums."

Now here we can get back to Roubini. He's bragging that he predicting a "housing recession" a year ago, but Alan Greenspan said as much in August, 2005. Why wasn't Roubini aware of that?

And so I have to conclude that of all the people I've quoted and described on this web site, there's only one person who appears to know what's coming -- Alan Greenspan -- and even he was late, as he only realized in 2004 or 2005 what was going on.

Still, Greenspan's speech made absolutely no impression on anyone, as far as I can tell. His repudiation of his previous reasoning was completely ignored.

Contrast that with a speech that one Roger Babson made on September 5, 1929. Several months ago I quoted a lengthy passage from John Kenneth Galbraith's book, The Great Crash - 1929, in which he stated that Roger Babson's speech was the "immediate cause" or trigger for the crash of 1929. In that speech, Babson said, "Sooner or later a crash is coming, and it may be terrific," and he concluded that "factories will shut down ... men will be thrown out of work ... the vicious circle will get in full swing and the result will be a serious business depression." What's odd is that Babson had previously made similar predictions, but no one paid any attemption. But for some reason, the climate was right on September 5, 1929, for his speech to strike a chord with investors.

The Bear Stearns announcement two weeks ago that its hedge funds are almost worthless is proving to be a significant event, that's weighing on the investor community. It may even turn out to be the same kind of trigger that Roger Babson's speech was, 78 years ago. The sharp drops in stock markets around the world at the end of last week certainly lend support to that idea. It's impossible to predict short-term events, but the events of the last few days are extremely ominous.

The last few weeks have been a very difficult time for me personally, and especially the last few days. I really dread what's coming, and it's hard to sleep. It's a total disaster, and everyone's oblivious. It's getting to the point where just the day's news makes me feel like I'm going to vomit.

I've been talking to some friends and warning what's coming, and they just shrug. I start to explain about CDOs (collateralized debt obligations), but all I get is blank stares. As I wrote a couple of days ago, CDOs are no different than tulip certificates from 1636. I'm starting to imagine the global economic bubble as a huge, monstrous house that's grown larger and larger, thanks to being stuffed with CDOs. In this nightmare, the CDOs are tiny larvae that turn into termites that are eating away at the home. Already several pieces have fallen off -- the Bear Stearns hedge funds, for example, and the quickly rising list of major U.S. vendors that have "imploded" -- now up to 105 since December. Soon the whole house will collapse. And everyone's oblivious.

For example, a week ago I spoke with a guy that I work with, and I told him to sell. I told him what was happening with CDOs, and I told him if he didn't believe me he could just look it up online in the mainstream news. "I'm not making this stuff up, you know. You can read about it in the Wall Street Journal or the New York Times business news." I told him this was going on right now, and that he shouldn't waste any time. He said he would think about it, but of course he did nothing. Then on Friday I spoke to him again, and of course he couldn't sell then because the market has gone down 500 points (Dow). So he has to wait until the market goes up to 14,000 again. Sigh. That might not be until 2022, and he's totally oblivious.

That's the trap that investors are in. It's the Principle of Maximum Ruin that I've discussed before. After the 1929 crash, the stock market kept falling for four years. As the market fell, people with stocks poured more and more of their savings into the market to meet margin calls. Other people were told by "experts" that the worst was over and that it was time to buy, and so they did. In the end, the maximum number of people were ruined to the maximum extent possible. That's the Principle of Maximum Ruin.

Oh, they built the ship Titanic and when they got her true
They said here's a ship that the water won't go through
But the Lord with mighty hand said this ship it will not stand
It was sad when the great ship went down.

It was sad, Lord, sad, it was sad, Lord, sad
It was sad when the great ship went down,
To the bottom, Lordie.
Husbands and wives, itty-bitty children lost their lives
It was sad when the great ship went down.

Oh, they left Eng-ge-land, and they sailed from the shore
But the rich refused to associate with the poor
So they sent them down below where they'd be the first to go
It was sad when the great ship went down.

It was sad, Lord, sad, it was sad, Lord, sad, etc.
(30-Jul-07) Permanent Link
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