The Beginning of the End for the Credit Bubble?

Today, we were going to talk about stop losses. But we need to look first at what is going on in the markets.

In short: Things are starting to happen!

The Dow rose 191 points, or 1.1%, on Friday. Gold topped off a 5% rise for the week.

You probably thought we were exaggerating the connection between the Paris terrorist killings and the credit bubble, right?

We almost thought so ourselves. But then a report in the French newspaper Libération told us about Amedy Coulibaly, the terrorist who took hostages at a kosher supermarket and killed four of them.

With no job and no income, how did he finance his life? How did he buy his weapons?

He borrowed €6,000 ($6,964) from a consumer credit company, Cofidis, which offers online loans. His attack was financed on credit!

And not just his. He also helped finance the brothers who attacked Charlie Hebdo. Coulibaly:

I helped him (one of the Kouachi brothers) by giving him a few thousand euro so he could finish buying what he needed.’

So, now we see that both sides in the war on terror are financed on credit.

But wait. How are those terrorists going to pay back these loans? The local radical imam had a conversation with Coulibaly. Don’t worry about your debts, he told the terrorists, ‘Allah will take charge of them.’

No kidding.

And he’s right, of course. The gods will take care of it.

Deflationary debt

Getting back to last week’s events, two things happened last week that could signal the beginning of the end of the credit bubble.

First, the price of oil dropped further than almost anyone ever thought possible. Second, the Swiss central bank was the first to give up the fight against the market gods.

Why are these important?

Debt is always deflationary. The more people owe, the more of their future earnings they have to set aside to pay it off.

After a credit expansion — like a headache after a wild party — comes a credit contraction. You can try to hold it off by raising a glass or two more. But what has to happen will happen sometime — usually at the worst time.

After credit inflation, real prices go down; the gods insist on it.

And yet, the strategy of almost every central bank in the developed world has been to keep the bar open as long as possible, hoping the problem will go away.

Debt deflation is not permitted. The Fed, for example, has expanded its balance sheet — and the US monetary base — by $3.6 trillion to try to prevent it.

Despite all these free drinks, the party came to an end for oil six months ago. Then commentators — chiefly in the US — were all over the story, telling us what a boon this would be to the US economy.

For example, TV’s Larry Kudlow called it ‘a gigantic tax cut for the American economy’.

The story was simple: A lower price at the gas pumps would leave consumers with more money in their pockets and thereby boost consumer spending in the US.

Sounds logical. But in the economic world there is always ‘more to the story’.

Subprime Ammo

 The markets started to tell that story when the December ‘core retail sales’ numbers — which excludes automobiles, gasoline, building materials and food services — were reported last week.

Instead of going up, as expected, this measure of spending went down 0.4% for the month.

And if you look at all the consumer spending gains during the year, you find the biggest increase in auto sales.

‘Ah-ha’, you may say, ‘a lower price of gas is paying off.’ But wait for the rest of the story.

Auto sales rose almost 9% last year — an extra $86 billion.

But what’s this? Auto debt rose $89 billion. It was like the good ol’ days of the subprime mortgage bubble.

Back then, people were ‘taking out equity’ from their houses. Now, they’re taking it out from their cars. They borrow more than the cars actually cost, pocketing the difference.

And delinquencies are already back to 2008 levels, as more and more of total auto debt — expected to reach $1 trillion this year — is subprime.

Guess what will happen then? The repo men will come out…used cars will hit the lots…prices will fall…and the industry’s collateral will give way.

Who will continue making auto payments on underwater autos?




Bill Bonner,
for Markets and Money

Since founding Agora Inc. in 1979, Bill Bonner has found success and garnered camaraderie in numerous communities and industries. A man of many talents, his entrepreneurial savvy, unique writings, philanthropic undertakings, and preservationist activities have all been recognized and awarded by some of America’s most respected authorities. Along with Addison Wiggin, his friend and colleague, Bill has written two New York Times best-selling books, Financial Reckoning Day and Empire of Debt. Both works have been critically acclaimed internationally. With political journalist Lila Rajiva, he wrote his third New York Times best-selling book, Mobs, Messiahs and Markets, which offers concrete advice on how to avoid the public spectacle of modern finance. Since 1999, Bill has been a daily contributor and the driving force behind Markets and Money.

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