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The Interregnum Market

Stocks grinded higher this week, ignoring a troubling backdrop that included a power crisis that continues to cripple much of the Northeastern United States and Canada. The Dow Jones Industrial Average gained 1.4% for the week, and the S&P 500 added 1.3%. The Transports were up 1.7%, and the Utilities rose 0.6%. The Morgan Stanley Cyclicals had a strong week, with its 3.2% advance increasing y-t-d gains to 22%. The Morgan Stanley Consumer index added 0.7%. The broader market bounced back sharply after last weeks atypical underperformance. The small cap Russell 2000 advanced 4% and the S&P 400 Midcap index was up 1.3% on the week. The tech-heavy Nasdaq100 gained 3.8% (up 27% y-t-d) and the Morgan Stanley High Tech index added 3.7% (up 33% y-t-d). The Semiconductors were up big, with its 7% rise increasing 2003 gains to 36%. The Street.com Internet index added 4.3% (up 41% y-t-d) and the Nasdaq Telecom index rose 3.6% (up 36% y-t-d). The Biotechs advanced 3% this past week. The financial stocks were mixed. The Broker/Dealers managed to gain 2.3%, while the lagging Banks added less than 1%. With bullion up $7.25, the HUI Gold index gained almost 3%.

It was another wild rollercoaster ride for the unstable Credit market. For the week, 2-year Treasury yields increased 10 basis points to 1.80%. Five-year yields surged 25 basis points to 3.41%, and ten-year Treasury yields jumped 26 basis points to 4.53%. The long-bond saw its yield increase 17 basis points to 5.40%. The spread on Fannie's 4 3/8% 2013 note widened 9 to almost 50, while the spread on Freddie's 4 ½% 2013 note widened 7 to 49. Benchmark Fannie Mae mortgage-back yields jumped 27 basis points, largely reversing last week's 40 point drop that had reversed much of the previous week's 52 point surge. Wow... The 10-year dollar swap spread widened 7.5 to 49.5.

December 2004 3-month Eurodollar yields jumped 23 basis points to 2.79%. The dollar index mustered a small gain for the week, while the CRB index posted a modest decline. Benchmark Mexican bond yields jumped 33 basis points to 6.30%, while Brazilian bond yields dropped 36 basis points to 11.86%. Instability abounds.

Despite the appearance of some troubling signs, the week saw steady issuance. In the investment grade market, General Dynamics issued $1.1 billion, CS First Boston $1 billion, Bristol-Meyers Squibb $1 billion, Panhandle East $550 million, Sovereign Bank $300 million, and Entergy-Koch $200 million. Convert issuance included Cadence Design's $350 million, Apria Healthcare $200 million, QLTI $150 million, GATX $125 million, and Atherogenics $80 million.

Yet, the junk bond market is looking increasingly vulnerable. Junk bond funds suffered outflows of $1.2 billion, following last week's record $2.56 billion outflow. Three-week outflows total $4.8 billion.

August 14 - Dow Jones (Tom Barkley and Nicole Bullock): "Charter Communications Inc. pulled a $1.7 billion of junk bonds offering Thursday... The St. Louis-based cable company also said in a release that it had terminated tender offers to refinance convertible and senior notes, citing unfavorable market conditions. 'The dynamics and fundamentals of the high yield bond market have changed materially since we commenced the offers July 11,' said Charter President and CEO Carl Vogel. 'The combination of a significant increase in the yield of the benchmark 10-year Treasury and mutual fund outflows over the past few weeks made this transaction economically unattractive.'"

For the week, junk issuance included Dex Media West's $1.16 billion, Pilgrim's Pride $300 million, Nevada Power $350 million, Highmark $375 million, William Scotsman $300 million, Alaska Communications $182 million, and Sheridan Group $105 million. Monitronics cut the size of their planned debt offering by $45 million to $155 million, and we will be following developments in the junk bond market carefully for indications of heightened risk aversion and early signs of waning systemic liquidity.

This week's generally positive economic data included stronger-than-expected retail sales (up 6.4% y-o-y). The S&P Retailer Composite index is now up 31% y-t-d, closing today at the highest level since May 22, 2002.

The June Trade Deficit was reported at a better-than-expected $39.5 billion. This was up 11%. Year-over-year, Goods Imports were up 6%, while Goods Exports were up 2%. Crude imports were up 25.9% y-o-y, pharmaceuticals 15.1%, Automotive 6.5%, and Food & Beverage 8.3%. By country, y-t-d imports have increased 7.2% from Canada , 2.8% from Mexico , 24.9% from China , down 0.6% from Japan, and up 16.1% from Germany.

Broad money supply (M3) surged $49.9 billion last week. This increased 16-week money expansion to $389 billion, or 14.7% annualized. Since early last October (43 weeks), money supply has inflated $642 billion, or 9.3% annualized. By category, Demand and Checkable Deposits jumped $21.9 billion. Savings Deposits added $18 billion (up $213.3 billion over 15 weeks, or 25% annualized), while Small Denominated Deposits dipped $3.4 billion. Retail Money Fund deposits declined $2.3 billion. Institutional Money Fund deposits dropped $6.4 billion, while Large Denominated Deposits added $6.4 billion. Repurchase Agreements expanded $9.9 billion and Eurodollars added $5.5 billion.

Total Bank Assets increased $15.0 billion, with three-week gains of $91.2 billion. Securities positions dropped $19.9 billion, while Loans and Leases jumped $27.6 billion. Real Estate loans surged $37.4 billion, with two-week gains of $57.3 billion. Commercial and Industrial loans declined $4.9 billion, and Consumer loans dipped $3.2 billion. Elsewhere, Commercial Paper outstanding declined $1.7 billion. Financial CP added $4.4 billion, while non-financial CP dipped $2.6 billion.

The National Association of Realtors reported second quarter housing price data Wednesday. Nationally, prices rose at an annualized 7.4% ($168,900), accelerating from the first quarter's 6.8% inflation. By region, prices in the Northeast increased at a 13.6% rate ($182,500), 6.0% in the Midwest ($140,800), 5.9% in the South ($157,400), and 8.6% in the West ($233,200). Leading gainers included San Bernardino (23.5%), Providence (23.2%), Los Angeles Area (20.6%), Topeka (20.2%), Sacramento (20.1%), Knoxville (18.7%), Nassau/Suffolk, NY (18.4%), Atlantic City, NJ (18.3%), Melbourne, FL (16.5%), Daytona Beach, FL (16.4%), Baltimore (16.1%), and New York/New Jersey/Connecticut (15.5%). Others worth noting include Orange County, CA (14.7%), Washington, DC (14.4%), San Diego (12.5%) and Las Vegas (12.4%).

August 12, 2003 - Businesswire: "AmeriDream, Inc., the nation's leading non-profit provider of down payment gifts, announced it has been named a Calyx(R) Preferred Point Partner(R), and that mortgage professionals can now process down payment gift applications with the click of a button using AmeriDream's Downpayment Gift Program...the most widely used software (Calyx Point) by mortgage brokers nationwide, allows the organization to reach out to more than 20,000 mortgage companies nationwide... The application can then be processed and funds transferred within 24 hours. 'AmeriDream provides down payment and closing cost gifts to more than 3,500 people each month, so this means less paperwork for mortgage brokers...,' said (the)... president of AmeriDream. 'By providing brokers with a simplified process to help the buyer, we can facilitate even more home purchases for low- and moderate-income individuals.'"

For those seeking additional confirmation regarding the dimensions of the Credit Bubble, I will provide excerpts from The Bond Market Association's Research Quarterly, August 2003:

"New issue activity surged in the U.S. bond market during the first half of the year and is on pace to break the record set last year. Issuance totaled $3.6 trillion, up 43.3 percent from the $2.5 trillion issued during the same period in 2002."

"Gross coupon issuance in the U.S. Treasury market totaled $328.4 billion in the first half of 2003, up 40.9 percent from the $233.1 billion issued in the same period of 2002... "Total marketable Treasury debt outstanding, including bills and coupons, increased to $3.38 trillion as of June 20, 2003, an 11.3 percent increase from the $3.04 trillion outstanding at the end of the second quarter of 2002... Daily trading volume by primary dealers averaged $416.1 billion during the first half of 2003, up 19.9 percent from the daily average of $346.9 billion in the same period of 2002." Average daily trading volume jumped 15% from the first quarter to $446.9 billion.

"Long-term debt issuance by federal agencies grew significantly during the first half of 2003, totaling $683.6 billion, up 50.7% from the $453.7 billion issued during the same period in 2002."

"Municipal bond issuance reached a record $236.8 billion in the first half of 2003, exceeding the previous half-year record of $197.6 billion set in the first half of 2002. Issuance in the second quarter totaled a record $144.3 billion..." (Up 14% from the previous high set during Q4 2002). "Average daily trading volume of municipal securities totaled $12.4 billion in the first two quarters of 2003, up (22%) from $10.2 billion in the same period of 2002."

"New issue volume in the corporate bond market rose modestly during the first half of 2003. The total new issue dollar volume increased by 4.0 percent, to $417.0 billion... The high-yield sector accounted for the growth in corporate issuance during the second quarter. Non-convertible high-yield issuance increased 62.7%, to $62.6 billion in the first half of the year... Issuance of convertible bonds - including investment-grade and high-yield issues - totaled $50.3 billion in the first two quarters of 2003, more than twice the issuance volume during the same period last year... The average daily corporate bond trading volume" was up 2.8 percent to $21.8 billion during the second quarter.

"Issuance in the asset-backed securities (ABS) market is on pace to break the record of $485.4 billion set last year. New issue activity totaled $297.6 billion in the first half of the year, up 23.6 percent from the $240.8 billion issued during the same period last year...Issuance was driven by record activity volume in the home equity sector, which accounted for over 40 percent overall ABS issuance... Home equity issuance totaled $120.3 billion in the first half of the year, up 74.5 percent from the $69 billion issued during the same period one year ago and 33.6 percent higher than the first quarter of 2003... Issuance in the credit card sector was virtually unchanged at $40.2 billion... New issue activity in the student loan sector continued to increase in the first half of the year... Issuance increased to $21.4 billion...up 21 percent from the $17.7 billion issued during the same period last year. Auto issuance decreased 10.9 percent, to $39.9 billion..."

"Mortgage-related securities issuance, which includes agency and non-agency pass-throughs and CMOs, is on pace to surpass last year's record issuance volumes. New issue activity totaled $1.66 trillion in the first half of the year, up 64.6 percent from the $1.01 trillion issued during the same period in 2002... Conforming agency mortgage-backed securities (MBS) issuance increased to $1.08 trillion in the first half of the year, up 68.7 percent... Issuance in the agency collateralized mortgage obligation (CMO) market also posted a dramatic increase, to $360.3 billion in the first two quarters of the year, up 49.5 percent... Low interest rates and housing price appreciation have led to origination growth in the non-conforming jumbo mortgage market. New issuance of non-agency MBS increased 72.4 percent, to $220.9 billion..."

"The average volume of total outstanding repurchase (repo) and reverse repo agreement contracts totaled $3.87 trillion for the first half of 2003, an increase of 12.2 percent from the average volume of $3.45 trillion during the same period of 2002... In the first half of 2003, over $122.2 trillion in repo trades were submitted by Government Securities Division ("the SEC registered clearing agency") participants, with an average daily volume of approximately $985 billion."

August 14th - EMTA (Emerging Markets Traders Association): "Emerging Markets debt trading volume reached its highest quarterly level in five years, standing at US$1.086 trillion in the second quarter of 2003... The quarterly trading figure was the highest since participants reported trading $1.391 trillion in the second quarter of 1998, prior to the August 1998 Russian crisis... Volume levels increased 29% from the US$839 billion in the first quarter of 2003 and by nearly the same percentage from the $841 billion in the second quarter of 2002.... Leading the pack for the eleventh consecutive quarter was trading in Mexican debt instruments, at US$331 billion, up 24% from US$266 billion in the first quarter... Trading in Brazilian debt, the second most frequently traded asset, rose 58% to US$269 billion... Aggregate Eurobond trading surged 60% to US$443 billion..."

Highlights from the Federal Home Loan Bank System's (FHLB) Q2 2003 Combined Financial Report: "Total assets grew to $809 billion at June 20, 2003, a 12.1 percent increase compared with $721 billion at June 30, 2002. Advances were $506 billion at June 30, 2003, a 7.6 percent increase compared with $470 billion at June 30, 2002. Member mortgage assets more than doubled to $90 billion, from $38 billion at June 30, 2002." FHLB Total Assets are up 118% since June 1998, while quarterly Net Income advanced 7%.

The Mortgage Bankers Association Refi Application index sank 20% to the lowest level since July of 2002. The refi index has now collapsed from a record reading of about 10,000 posted during the final week of May to last week's 3,238. It is worth noting, however, that the refi index did not surpass 3,000 between mid-October 1998 and mid-September 2001. Interestingly, Purchase Applications dropped 10% to the lowest reading since May. Yet Purchase Applications were up 16.8% y-o-y, with dollar volume up a notable 27%.

Countrywide Financial reported an exceptional July: "Loan fundings for the month reached an all-time high of $52 billion... This record performance is up 7 percent over the benchmark set in June and up 203 percent over the prior year. Year-to-date, loan fundings have surpassed $284 billion, over $30 billion more than the total fundings produced for all of calendar 2002. Monthly purchase fundings continued to increase, reaching $13.4 billion, up 63 percent over the amount funding in July 2002... Average daily application volume remained strong at $2.5 billion, a gain of 85 percent over last year..." Year-over-year, Non-purchase (refi) fundings were up 330%, Subprime 137%, and Home Equity 69%. "Total assets at Countrywide Bank...rose to $14 billion, an increase of 8 percent from last month and 281 percent greater than July 2002."

From Fannie's July Monthly Summary: "Total business volume (mortgage purchases) rose to $144.1 billion, the highest on record... Purchases for the mortgage portfolio rose to a record $72.4 billion, up 76 percent from last year." Fannie's Book of Business expanded at a 22.6% annualized rate to $2.085 Trillion. "Mortgage commitments increased to $77.7 billion in July from $75.5 billion in June, as extreme movements in interest rates resulted in favorable mortgage-to-debt spreads and increased selling of existing mortgage products. The company expects July's retained commitments, coupled with the continued high level of commitments outstanding, to have a substantial positive impact on portfolio growth during the next several months."

In other words, Fannie has resumed its vital role as "Buyer of First and Last Resort," absorbing marketplace liquidations from chastened investors and speculators. It will be fascinating to watch the company balloon its balance sheet over the coming months. Never before has the company been so closely scrutinized. The company expanded its retained portfolio by $23.6 billion during July, a 41% annualized rate. Yet the attentive marketplace was most captivated by the news that Fannie's Duration Gap (the relative match between the duration of its assets and liabilities) moved from June's negative one month to July's positive six months. From here on out, Fannie has an extremely challenging hedging job ahead of it.

My favorite "analytical nemesis" Paul McCulley made an interesting observation Wednesday to Bloomberg News: "We're kind of in a period between a bull market and a bear market for bonds. Someday I need to come up with a word for it. It's really an interregnum period." Well, there's a very good explanation for why there's no "word for it." Nonetheless, I was compelled to consult my American Heritage Dictionary (I'm a product of the public school system!), and was provided with three definitions for "interregnum." 1). "The interval of time between the end of a sovereign's reign and the accession of a successor." 2). "A period of temporary suspension of the usual functions of government or control." 3). "A gap in continuity." I could go in a couple different directions with this, but apparently we are to believe that one of the greatest speculative markets in history has been placed in a period of temporary suspension. Despite the reality that years of protracted excess regressed into a (textbook) crazed speculative blow-off, the transformed Interregnum Market will now conveniently keep the Bear at bay. Apparently, we have today the good fortune to simply delay the painful bear market until a more agreeable time arrives in the future. Now that's some wishful thinking. It also defies centuries of market history.

The marketplace hopes that the "continuity" of Fed ultra-easy monetary policy will subvert market forces. The bull may have ended its sovereign reign but, as the thinking goes, Fed prerogative assures that the bear remains locked up in the dungeon. Yet, we're just not so convinced that even unprecedented central bank accommodation will suffice this time around. Simply stated, things got out of hand. Truly gross excesses went way too far, creating enormous speculative positions and structural distortions that will take years to unwind. Take your pick: junk bonds, convertibles, emerging market debt, muni debt, equities and, of course, unprecedented excesses throughout mortgage finance. The ravenous bear is on the loose, and we sense it is a matter of how long he can be held back by shouts and swinging sticks. That's the nature of markets, and the greater the boom-time excesses...

As students of markets, we have been afforded extraordinary opportunities. Just over three years ago we witnessed the piercing of the NASDAQ/technology Bubble, quashing one of history's great episodes of financial folly. Interestingly, there was even initially some general recognition that the process of deflating a speculative stock market Bubble had commenced. However, few appreciated the true dimensions or ramifications of the Great Speculative Bull Succumbing to the Bear. The Worldcom and telecom debt collapses would come later, as would economic downturn. In fact, the consensus view remained stubbornly sanguine, convinced that exceptional industry fundamentals would underpin equity prices. Earnings were growing rapidly, and there was no questioning the validity of the New Economy thesis. On the surface (outside of some tech sector stock market excess), underpinnings looked exceptional, as they always do at the top of Bubbles. Foreshadowing today, it was not appreciated that the piercing of the financial Bubble set in motion overpowering processes that would pull the rug out from under perceived strong fundamentals. Back in 2000, there was a huge gap between perceptions and reality for prospects throughout the technology and capital goods sectors of the real economy. Today, there is a similar chasm regarding housing and consumer fundamentals.

Looking back to 2000, the Greenspan Fed had already concocted their plan to mitigate unavoidable dislocation. Claiming that it was impossible to recognize a Bubble until after the fact, they nonetheless were poised to collapse interest rates when it burst. Aggressive central bank accommodation would sustain marketplace liquidity and stimulate the general economy. If asset prices were too high, the Fed could always inflate the economy and general price level. This option was certainly much more appealing than the pain and uncertainties associated with bursting asset Bubbles and the resulting risk of debt deflation. Besides, a tested Fed had already successfully instigated such "reliquefications," first to recapitalize the impaired banking system in the early nineties and later to "reliquefy" the markets post-Russia/LTCM debacle. Regrettably, New Age central banking was based on flawed "theory." The outcome was even greater Bubbles in the bond market and throughout mortgage finance. Yet, amazingly, the Fed could seemingly not have been more pleased by the effectiveness of its operations.

I would imagine that even Alan Greenspan was surprised by the Fed's incredible success in rescuing the financial sector and economy back in the early nineties, as well as by its capacity to incite truly miraculous financial recovery after LTCM. Perhaps, to this day, he fails to recognize the instrumental roles played by the GSEs, the securitization markets, and mushrooming leveraged speculating community (but I doubt it). And, importantly, the Fed had earned strong crisis-fighting credentials from the financial markets. The Fed had mastered the art of transforming the risk of systemic crisis to the notion of speculative profit opportunity. And while the Fed's reputation has been somewhat tarnished of late, the markets nonetheless do believe Mr. Greenspan will protect the U.S. Credit system from harm's way. Is this faith justified? Can the Fed again subvert market forces and in the process successfully anoint The Interregnum Market?

First of all, the Fed has played a very dangerous game for too long. Recalling the Russian fiasco, confidence by market participants (certainly including the leveraged speculating community) that Western governments and central bankers would never allow a collapse played an instrumental role in inciting the type of excesses that virtually ensured eventual melt-down. Similar drama has unfolded throughout the U.S. Credit system, with faith in the Fed and U.S. Treasury taking one final giant leap this past autumn courtesy of Team Greenspan/Bernanke. But can the Fed persist in playing Almighty?

It is today worth reminding ourselves that the Fed has cut rates to 1%. Real returns are negative and, for all practical purposes, the prolonged rate-cutting game is over. The power of aggressive policy ease has been spent. Perceptions of Fed omnipotence have solidified over many years, although it is today in many aspects a new ballgame.

Orchestrating the banking system bailout back in the fall of 1990, the Fed had the luxury of 8.0% fed funds to ratchet down. The impaired banking system was encouraged to purchase loads of U.S. Treasuries. Rates were then cut aggressively, with the Fed inflating the value of bank securities holdings. Voila, the miracle of recapitalization! When Russia collapsed and LTCM began to falter back in August of 1998, fed funds were at 5.50%. A few cuts resuscitated zealous financial leveraging and speculation, throwing gas on the tech/NASDAQ fire. When the Bubble economy succumbed in late 2000, the Fed enjoyed the luxury of 650 basis points of potential rate manipulation. Burgeoning bond market and mortgage finance Bubbles were easily incited into extreme excess. And then a year ago - when the corporate bond market began to dislocate (with a vulnerable consumer debt Bubble about to succumb) - the Fed was still working from fed funds at 3.50%. Historic rate cuts pushed the Great Credit Bubble to parabolic excess, buttressed by fanciful marketplace notions of significant deflation risk and a moribund U.S. and global economy.

It is today fair to suggest that the days of easily inciting financial leveraging through the inflation of bond prices have been concluded. Supporting this view is the mess of things the Fed made with its (too clever) attempt to manipulate bond prices by invoking the potential for "unconventional measures." It played its "ace in the hole" unskillfully and much too early, and it backfired. Nowadays, the Fed's tool kit is left with a little paper note inscribed, "Wall Street we solemnly swear not to raise rates for a long, long time (and we'll stick to the script and not say anything silly)." Perhaps these words and intimations do bestow longevity to The Interregnum Market, but I wouldn't want to bank on it.

Although the Fed has exhausted its capacity to inflate prices of Credit market instruments, it is today banking on The Power of the Perpetually Steep Yield Curve. Having lost the capacity to guarantee capital gains (higher bond prices), it is absolutely determined to garner enticing spread profits to anyone with a hankering to speculate (and there are plenty!). They see no alternative. Admittedly, this remains quite an inducement to a marketplace that thrives/subsists on "financial arbitrage." And in "normal times," we would actually expect that the promise of a perpetually steep yield curve would go a long way toward sustaining financial leveraging and speculative excess. But these times are anything but normal.

And this returns us to the great mortgage finance Bubble. Yes, the Fed maintains the capacity to entice leveraged speculation. And the Credit system is for now firing on more than sufficient cylinders to sustain system liquidity. Underlying fundamentals look relatively solid, just as they did for technology back in early 2000. But the structures of today's financial system and economy dictate that Credit creation will continue to be overwhelmingly of the mortgage debt variety. Bubble dynamics (financial and in the real economy) ensure as much. And the mortgage finance Bubble is so long in the tooth.

We face these days a fundamental problem: our Credit system is already extremely unstable, owing to unprecedented mortgage debt growth. Destabilizing consequences include the explosion in mortgage-related securities, financial leveraging and (trend-reinforcing) derivative hedging. Furthermore, housing inflation has been excessive for years, with boom-time conditions only sustained by massive Credit growth. And, finally, it is simply difficult to envision how manic buyers' enthusiasm can be sustained for too long in this post-bond Bubble rate environment.

I would strongly argue that The Interregnum Bond Market only extends the precarious blow-off stage of the Great Mortgage Finance Bubble. The consequences of Interregnum Market ensure only more dangerous GSE and derivative Bubbles, not to mention a banking system that is currently ballooning risky mortgage exposure at this precarious late stage of an enormous Bubble. Interregnum Bubble definitely throws gas on a precarious California housing Bubble.

This is a very dangerous game the Fed is playing. Importantly, it is not even remotely similar to the process of having banks buy Treasuries that were about to be inflated in value. Back in 1990, the Fed was successful in orchestrating financial stability through inflation. Today, the Fed's out of control inflation experiment breeds only greater economic instability and financial fragility. There's no way out.

Shifting gears a bit, it is worth reiterating that the Credit Bubble analytical framework rests on twin pillars. On one side, there is the financial focus, emphasizing diligent observation of financial instruments, structures, institutions and, importantly, their evolution. Credit excess imparts deleterious effects on debt structures and financial stability (inspired foremost by Minsky). Speculative excess, leveraging, and asset/liability mismatches engender escalating degrees of financial fragility. As for the second pillar, Credit Bubble analysis fixates on financial effects to the nature of demand and spending, emphasizing distortions to the structure of the real economy (inspired foremost by Mises). Credit and other financial effects on the real economy are as well evolutionary and cumulative.

With the preceding paragraph in mind, I will conclude with a few comments regarding yesterday's massive power breakdown. If I only had a dollar for every time I have written the word "maladjusted." And despite the fact that it rests at the very heart of Credit Bubble analysis, I have too often felt that the general use of "economic distortions and maladjustments" was simply too nebulous. Well, the largest electricity blackout in our history should help clarify this most important issue. We have "invested" in too many office buildings, hotels, restaurants, casinos, sports venues, etc. The speculative markets have been too anxious to cheaply over-finance spending on communication infrastructure and media properties. We have financed and constructed too many oversized (energy-guzzling) homes. We have manufactured and imported too many oversized (energy-guzzling) vehicles. We have allowed an uncontrolled boom to run wild without committing the necessary resources to secure a sufficient and reliable power system. We have witnessed an historic misallocation of resources and endemic malinvestment.

New Mexico Governor and former Energy Secretary Bill Richardson last evening made the comment, "We're a superpower with a third-world power grid." Well said, but how the heck did it happen? It is past time to admit that our nation's energy policy has been an unmitigated disaster. We are hopelessly dependent on imported oil, are at increasing risk of a dangerous shortage of natural gas, and have an antiquated system for transmitting electricity. Moreover, this quagmire follows a major energy sector borrowing and spending boom. This should bring clarity to the issue of financial distortions inciting malinvestment.

So our Washington politicians will now become as conversant regarding the intricacies of the power grid as they are in media ownership issues. The FCC and the scores of lobbyists will hopefully take a backseat to the Department of Energy, despite there being much more money slushing around the media business than electricity transmission. As always, it takes a crisis to get the focus away from the "money interests" to that of the public interest and our nation's problems. And, as usual, there will be lots of finger pointing. More importantly, politicians of all stripes will jump on the bandwagon promoting sharply increased spending on energy infrastructure. The energy building boom, joining the military and security spending booms, will provide further economic stimulus. This will be well-received by Washington politicians and the Federal Reserve.

The most frustrating aspect of this whole process is that neither the Greenspan Fed nor the dysfunctional U.S. financial sector will be held in anyway accountable for the state of the power grid or the unfolding energy crisis. The Federal Reserve and Wall Street similarly evade responsibility for the California and state & local government fiscal crisis, the evolving systemic pension crisis, endemic trade deficits and our ballooning foreign debts, the gutting of our manufacturing base, or the highly unbalanced jobless "recovery." Somehow, myriad related deep structural distortions go unexplained.

It is again this week worth repeating that the market pricing mechanism breaks down in an environment of endemic Credit and speculative excess. The system is broken and, like our power grid, we seemingly only endeavor to push it harder. Consequences will include major accidents, in spite of the general disregard for what is clearly a highly risky ("Post-Boom Boom") financial and economic landscape. And, most unfortunately, open disregard for the true forces at work ensures fiascos like yesterdays will only be repeated again and again. They are, after all, the natural consequences of a highly maladjusted economy, of which the Fed is increasingly impotent, at best. After all, The Interregnum Market only guarantees greater distortions and maladjustments. You can bank on it.

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