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THE BILL BONNER LETTER

THE GREAT AMERICAN


CREDIT COLLAPSE
PART TWO
SPECIAL REPORT 2015

The Great American Credit Collapse


Part Two

Today, we have bad news and good its not going to increase auto sales to its lowest levels in history.
news. or boost incomes except for the Third, the developed economies
The good news is that there will be undertakers. have been zombified. The U.S., for
no 25-year recession. Nor will there be Second, most large economies example, is way down at No. 46 on the
a depression that will last the rest of are deeply in debt. The increase in World Banks list of places where it is
our lifetimes. debt levels began after World War II easiest to start a new business. And
The bad news: It will be much and sped up after the money system only one G8 country Canada even
worse than that. changed in 1968-71. makes the top 10.
A long depression has been By 2007, US consumers reached Paperwork. Expenses. Regulation.
much discussed in the financial press. what was probably peak debt. That High taxes. High labor rates.
Several economists are predicting is, they couldnt continue to borrow Entrenched competition with aging,
many years of sluggish or negative and spend as they had for the previous loyal customers. All are endemic from
growth. It is the obvious consequence half a century. Most of their debt Boston to Berlin to Beijing.
of several overlapping trends and was mortgage debt, and the price of Leading industries heavily
existing conditions. housing was falling. controlled and regulated, including
First, people are getting older. The feds reacted, as they always defense, education, health, and
Especially in Europe and Japan, but do inappropriately. They tried to finance are practically arms of
also in China, Russia and the US. cure a debt problem with more debt. the government. All are protected
As weve described many times, as But consumers were both unwilling with high barriers to entry and
people get older, they change. They and unable to borrow. Their incomes low expectations. Competition
stop producing and begin consuming. and their collateral were going down. is barely tolerated. Innovation is
They are no longer the dynamic This left corporations and government discouraged. Mistakes are forgiven
innovators and eager early adopters of to aim only for their own toes. and reimbursed.
their youth; they become the old dogs Central banks created more money Meanwhile, the masses are
who wont learn new tricks. and credit trillions of dollars of encouraged to become zombies too,
Nor are they the green and growing it. But since the household sector with generous rewards for those who
timber of a healthy economy; instead, wasnt borrowing, the money went 1) do nothing, 2) pretend to work, or
they become deadwood. into financial assets and zombie 3) prevent other people from doing
Theres nothing wrong with government spending. Neither anything. After all the zombies,
growing old. Theres nothing wrong provided any significant support for cronies and connivers get their money,
with dying either, at least from a wages or output. So, the real economy there is little left for the productive
philosophical point of view. But went soft, even as the cost of credit fell economy.
The Bill Bonner Letter

The Solution Begins The Beginning of the debt has been contracted above and
When Markets Crack End beyond the traditional ratio to income
in America alone. And growth rates
Typically, these problems too In early May 2015, our proprietary have fallen in half.
much debt, too many zombies, and short-term stock market indicator Thats because dollars that would
too many old people lead to financial has turned starkly negative, as shown otherwise support current spending
crises. Then, they are solved by below: are instead used to pay for past
either inflation or depression. And the
solution begins when markets crack.
Markets never go up forever.
SHORT-TERM MARKET FORECAST
May 6, 2015
Instead, they go up, down and even
sideways. They breathe in and out.
And after sucking in air for the last 30
years, US financial assets are ready to
exhale. Legendary asset manager Bill +3%
Gross comments:
When does our credit-based
financial system sputter/break down?
-6.2% -3% +9%
When investable assets pose too
much risk for too little return.
Not immediately, but at the
margin, credit and stocks begin to
be exchanged for figurative and -8% +14%
sometimes literal money in a mattress.
When that happens, problems
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begin to take care of themselves, in
one of two ways
A quick, sharp depression wipes out The near-term outlook is clearly spending. Our old debts have to be
the value of credit claims. Borrowers darkening. Based on simple regression- retired with current income.
go broke. Bonds expire worthless. to-the-mean logic, our model now The money doesnt disappear,
Companies declare bankruptcy. The suggests that the most likely course of course. Some goes to creditors
whole capital structure tends to get for U.S. stocks through the end of the who spend it. Some comes back as
marked down as debts are written off summer is a loss of more than 6%. capital investment, which is a form
and financial assets of all kinds lose As to the long-term outlook of spending. But as credit shrinks,
their value. The bad news is much worse. generally, so does the economy.
Or, under pressure, the feds print The logic of the long depression And that brings us to the impossible
money. Debts are diminished as the is simple: aging populations, debt, situation were in now.
currency loses its value. The zombies zombification all of which slow In order to get back to a healthy
still get money, but it is worth less. growth. ratio say approximately $1.50 worth
Inflation adjustments cannot keep up How many old people and zombies of debt for every $1 in income youd
with high rates of inflation. Pensions, do you need before an economy comes need to erase all that excess that has
prices and promises fade. to a halt? already been contracted. In other
Either way, the slate is wiped clean Nobody knows. But the drag from words, youd have to take $1 trillion
and a new cycle can begin. debt is observable and calculable. out of the consumer economy every
But what rag will clean the slate Over the last three decades, year for the next 33 years.
now? approximately $33 trillion in excess It would be the longest and deepest

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The Bill Bonner Letter

depression in US history. cause an acceptable or desirable level over 10 years can happen in a number
of consumer price inflation. As a result, of different ways. Little by little. Or in
A Credit Crisis, the economy will be stuck with low one savage blow.
inflation, low (sometimes negative) A foreshadow of the long depression
Complete with growth and low bond yields. crossed the planet like a total eclipse of
Howling, Whining, But what about deflation? If the sun twice in the last 100 years.
inflation wont reduce debt, why not let The first time was Americas Great
Finger-Pointing deflation do the job? Depression. You know that story. Stocks
Take a trillion out of the U.S. crashed. Businesses went broke. People
economy and you have a 4% decline in
Deflation Works! lost their jobs. Banks failed. Events were
GDP. Then, as the economy declines, following the typical depression script,
the remaining debt burden becomes Weve been exploring how the which probably would have bottomed
even heavier. credit bubble resolves itself. Inflation? out and recovered within a couple of
Try to pay down debt and it becomes Deflation? Are we locked in to a long, years as happened in the depression
harder and harder to pay down. You long period of stagnation, slump and of 1921.
stop buying in order to save money. economic sclerosis? But then, the federal government
Your local merchants lose sales. Then First, we give you our long-term stepped in. It froze prices, including the
they try to cut expenses, and you lose forecast. price of labor. It cut off trade. It blocked
your job.
In other words, no steady state
LONG-TERM MARKET FORECAST
slump is possible. May 7, 2015
When the credit cycle turns, it will
not be a gentle slope, but a catastrophic
cliff a credit crisis, complete with
howling, whining, finger-pointing
and more clumsy rescue efforts from
the feds.
+2%
As we said yesterday, there are two
solutions to a debt crisis. Inflation or -4% +8%
deflation. -9.8%
Central banks can cause asset price
inflation. But it is not always as easy
as it looks. Consumer price inflation
requires the willing cooperation of
-10% +12%
households.
With little borrowing and spending www.bonnerandpartners.com
from the household sector, credit
remains in the banks and the financial
sector. Asset prices soar. Consumer This is the most negative ever, says liquidations. It arrested the progress of
prices barely move. our chief number cruncher Stephen the correction.
U.S. consumer price inflation over Jones. It shows a loss of 9.8% every Murray Rothbard analyzed the
the last 12 months, for example, was year for the next 10 years. In other policies of the Hoover and Roosevelt
approximately zero. words, our mean-regressing, debt/ administrations in his 1963 classic,
The assumption behind the long demography-adapted model seems to Americas Great Depression. He showed
depression hypothesis is that central be pointing to a long depression. how government, trying to stop the
banks cannot or will not be able to But an average loss of 9.8% per year Depression, actually prevented it from

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The Bill Bonner Letter

doing its work. The blame for the long-ness of the began. And this is happening against
The short, quick deflationary shock depression can be placed squarely a backdrop of falling labor supply; the
which should have slashed bad debt, on the government. To this day, it labor pool is expected to shrink by 20%
bad businesses, and bad investments continues to meddle in the economy over the next 25 years. The main goal
turned into a long, agonizing slump. essentially forestalling a genuine of the stimulus program was to raise
The Depression, which should have cleanup of bad debt. Japans inflation rate. But you could
been over by 1933, continued until the Instead of allowing the bad debt to be multiply the last 12 months of price
1940s and was only ended then by the written off and reduced, policymakers increases by nine and still not reach the
biggest public works spending program have added more and more debt over governments 2% target.
in history World War II. the entire 25-year period so that In the U.S., too, inflation has been
This, by the way, did not actually today, Japans government is the most disappearing as fast as good manners.
make people better off economically, indebted in the world. In the last 12-month period, consumer
but it put people to work and largely And now Japan is running out of prices were approximately flat. And that
disguised the drop in living standards time and money. Its aging population is despite a 400% increase in the Feds
which that war and the Depression had is no longer saving for retirement; now assets the nations money foundation
caused. retirees expect to spend those savings. over the last six years.
The second long depression was in This means that the government can no If that kind of money printing
Japan, following the crash of its stock longer count on financing from Japans doesnt cause an increase in the CPI,
market in 1990. It has now been a savers. Now it must return their money. what would? Well come back to that
quarter of a century since that crash. But how? It has no money to give question in a minute.
Japanese GDP has scarcely advanced, them. Like the U.S., it has been running
as you can see in the following chart: budget deficits for years.
Cheap Credit Keeps the
Real GDP Growth: 1991-2013 (1991=100) Wheels Turning
220
If inflation cant be counted on to
reduce the worlds debts, what about
200
deflation?
Australia
The feds fear it, loathe it and try
180 to prevent it every way they can. But
USA deflation works. It knocks down sales,
160 prices, and employment, forcing
borrowers into bankruptcy. Then, their
140
debts are worthless.
Alas, in a zero-rate world, the banana
Japan peels disappear from the sidewalks. It is
120
almost impossible to go broke, default,
or fall on your face.
100
Grants Interest Rate Observer told
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the story of one company: Radio Shack.


www.bonnerandpartners.com Source: Calculations based on OECD database The company lost the plot back in 2007,
says Grant's. The Onion satirized its
And the Japanese stock market? Japans economy is in a crisis. chief executive, Julian Day, putting the
From a high of nearly 40,000 in 1990, Its been two years since the Shinzo following words in his mouth:
the Nikkei index now trades at around Abe government began its stimulus There must be some business
20,000. Its taken 25 years to claw itself program. But wages are actually model that enables this company to
back to a 50% loss! lower today than they were when it make money, but Ill be damned if I

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The Bill Bonner Letter

know what it is. depositors to pay for storing money. so that tomorrows generations can
But Radio Shack stayed in business And beginning this week, JPMorgan take over. And thats why governments
borrowing ever more money as its credit Chase began charging depositors a essential role is to look into the future
rating declined from BB- to D (or junk) utilization fee to hold their money. and prevent it from happening.
over the following eight years. Finally, it Meanwhile, economists are This is just another way of saying
bit the dust in February of this year. advocating taxing cash or even, like that governments will always try to
Theres nothing like unlimited Harvard economics professor Ken stop depressions, because depressions
cheap credit to keep the wheels Rogoff, making it illegal. France has are creative destruction in action.
turning slowly. In 2009, a grim year already made it illegal to pay bills of Capitalism chops down todays trees
for American business, 60,837 firms more than 1,000 euros with cash. And so that tomorrows saplings can get
declared bankruptcy. In 2014, there the U.S. requires financial industry some air and light.
were 26,983 bankruptcies. workers such as bank tellers to rat But trying to stop creative
What is surprising is not that out customers by filing suspicious destruction does not stop the future. It
there were so few, but that there were activity reports on anyone who just changes it. Instead of a dynamic,
so many. When you can borrow for comes in with what they consider an honest and growing economy, we
nothing or close to nothing why inappropriately large amount of cash. get stagnation, economic gangrene
does anyone ever default? Why the war on cash? and financial rigor mortis. Long
Of course, not all firms have equal Partly to control you. And partly to depressions, in other words.
access to the free money. The little control the economy. If they can create
guys go broke. The big guys stay in a NIRP world with negative nominal
Dont Expect the Fed to
business. The economy stays alive, but interest rates they may be able to
on life support. keep the credit flowing to cronies and Sit Tight
The big limitation of this system is zombies, maintaining the economy in a As we have seen, Japan has already
that as the slump worsens, prices fall coma for many years. had a 25-year slump. The U.S. is now in
and real interest rates actually go up. Businesses that should go broke will Year 8 of its slump, with fragile growth
That is, the feds may lend at zero, but have access to credit. Speculators will at only half the rate of the last century.
if prices are falling, the effective, real still make money. Governments will They could get better or worse.
borrowing rate may rise. continue to print money and borrow Negative rates could keep the
The authorities would be zero it from themselves. The zombies will cronies in business. The slump itself
bound, unable to take nominal rates throw rocks and bottles every once in combined with peak debt and 500
below zero and unable to keep the real a while, but they will still get their cash million Chinese laborers could keep
price of money at nothing. and the system will survive. inflation in check.
Until recently, it had been presumed Long, drawn-out depressions are But the point comes when investors
that rates could not sink below zero. caused by governments. see that the risk of loss (because
People would not pay for the privilege The politicians respond to something can always go wrong) is
of holding cash in a bank or a bond; they todays capital interests, not greater than the hope of gain. That
would just take the cash and hoard it. tomorrows. Todays retirees vote. moment must be approaching in the
But all over the world, central Todays stockholders give campaign U.S. stock market. Prices are near
governments have begun a war on contributions. Todays cronies control record highs, even as the economy flirts
cash designed to force people to the power and money of todays society. with recession.
use credit, rather than cash. The feds And all of them fear one thing more One day, perhaps soon, we will see
can monitor, tax, and control credit. than any other: the future. stocks falling as much as 1,000 points
They can even force you to pay for the They all know they will die, and that in 24 hours.
privilege of having it. the process of capitalism is creative Jacking up the stock market has been
The European Central Bank and the destruction todays wealth owners must the Feds singular success. Activism has
Swiss National Bank already require be stripped of their money and power been its creed. Interventionism is its

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The Bill Bonner Letter

modus operandi. It will not sit tight as growing with the stock market near We Need Another
the market falls apart and the economy record highs. Yet, one out of every five
goes into recession. households in America has not a single Mellon
Instead, it will announce QE 4. It wage-earner. Among inner-city black Today, a central banker or Treasury
will try to enforce negative interest men, ages 20-24, only 4 out of 10 have secretary who let deflation purge the
rates. And it will move as will jobs. Half the households in the U.S. rottenness from the system would be
the Japanese to direct monetary count on government money to make dismissed before sundown. Too much
funding of government deficits. That ends meet. And 50 million get food wealth, too many reputations, too
is, it will dispense with the fiction of stamps. What would happen to the cities much power and status depend on the
borrowing from its own central bank. and the suburbs in a real depression? continuation of the credit expansion.
It will simply print the money it needs. What would Janet Yellen do? Would Instead of a Mellon, we will have a
The U.S. Fed of 1930 was not nearly she repeat the words of Andrew Mellon Greenspan, a Bernanke, or a Yellen. And we
as ambitious and assertive as the Fed in 1929 to liquidate labor, liquidate will soon find out whether Mr. Bernanke
of 2015. In the 30s, it watched as the stocks, liquidate farmers, liquidate real spoke the truth in 2002 when he said:
economy chilled into a Great Depression. estate... it will purge the rottenness We conclude that, under a
As Ben Bernanke told Milton Friedman, out of the system. High costs of living paper-money system, a determined
We wont do that again. and high living will come down. government can always generate
It couldnt if it wanted to. Back in People will work harder, live a more higher spending and hence positive
the 30s, consumer debt had barely moral life. Values will be adjusted, and inflation.
been invented. Most people still lived enterprising people will pick up from Threatened with deflation, the
on or near farms, where they could take less competent people. authorities will want to turn the tide
care of themselves even if the economy Mellon was just suggesting that in the worst possible way. Whats the
was in a depression. Few people had creative destruction be allowed to do its worst way to stop deflation? With
credit. Instead, they had savings. There job. He was the last Treasury secretary hyperinflation.
were no food stamps. No disability. No to make such a forthright and honest Yes, we may suffer a year or two
rent assistance. No zombie industries. comment. Thenceforth, Treasury more of sluggish growth or even
No student debt. No auto debt. No secretaries and central bank governors deflation. Stocks will crash and people
cash-back mortgages. And cash was could no longer accept the tough love will be desperate for paper dollars. But
real money, backed by gold. of a free enterprise economy. They sooner or later, the feds will find their
Today, a long depression in the had to offer bogus rehab and claptrap feet and lose their heads.
U.S. would be unbearable. The public therapy. They had to stop creative Most likely, the credit-drenched
couldnt stand it. Six out of ten destruction. They had to tell it like it world of 2015 will end not in a
households live paycheck to paycheck. wasnt because thats the way people whimper of deflation, but in a bang.
Can you imagine what would happen if wanted it. They had to pretend to make Hyperinflation will bring the long
those paychecks ceased? a better world by improving the market depression to a dramatic close long
Supposedly, the U.S. economy is still economy. before a quarter of a century has passed.

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