The Most Boneheaded Miscalculation Of All Time

The Most Boneheaded Miscalculation Of All Time

Bill Bonner – Wed 25 Jun, 2008

Americans are on the losing end of the “biggest transfer of wealth in history,”

“Terrorism will be reduced…weapons of mass murder will be limited, people will be safer around the world, human rights and democracy will be unleashed in the Middle East, and the fragile outlook for world prosperity will be improved… The uncertainty tax on world growth will be lowered too, as will the energy tax from temporarily spiking oil prices.”

This was Larry Kudlow writing in March, 2003.

The spike in oil prices he described took place on March 12th, 2003, pushing the price of a barrel of crude all the way up to $37.83 and the price of a gallon of gasoline to $1.72. Yesterday, oil closed at $137 and gas sells for $4.06.

But Kudlow was hardly alone in his hallucinations. Laurence Lindsey, then George Bush’s senior economic advisor, looked into his own crystal ball and saw nothing he didn’t like.

“Under every plausible scenario, the negative effect will be quite small relative to the economic benefits… The key issue is oil, and a regime change in Iraq would facilitate an increase in world oil,” thereby driving down oil prices.

Paul Wolfowitz, then Deputy Secretary of Defense, went on to reassure the nation that Iraqi oil revenues would pay all the costs of reconstructing the country.

Today, we are talking about one of the most boneheaded miscalculations of all time. Almost with a single maladroit stroke, a relatively small group of world-improvers undermined the progress of 9 generations. Five years later, Americans are on the losing end of the “biggest transfer of wealth in history,” as T. Boone Pickens described the oil market of 2008. George W. Bush has the highest disapproval ratings of any US president in history. America’s most profitable industry – finance – has collapsed…its currency has lost a third of its value…and European, Chinese and Indian economists are wagging their fingers saying “I told you so.”

But here at the Daily Reckoning we always look on the bright side. And the sunny side of this story is that the US needed to be humbled. After the Soviet Union fell to its knees in 1990, America had a monopoly on worldwide military force. Nature abhors a monopoly; she needed to take the US down a peg. Who better to do the job than this group of neo-cons? They knew no history; nor did they understand economics. They were the perfect people to lead the nation to disgrace and bankruptcy.

Mr. Kudlow continued his miscalculation by referring to a survey, in which 69% of respondents said they would gladly pay $300 for the war.

So far this year alone, the price of crude has risen 40%. It’s now $100 higher than when the neo-cons took America into the Iraq War. Each American uses 25 barrels of oil per year. This is equivalent to a tax of $2,500 in additional energy expense per person…or $10,000 for a family of four, annually. In addition, the war itself is estimated to cost between $1 trillion and $2 trillion. Divide that by the number of US families and you get a figure of $10,000 or more.


But the numbers are just the beginning. High energy prices are undermining the American way of life itself, such as it is. As colleague Byron King explains, below, we’ve spent the last 100 years building the wrong kind of world. Now, many Americans are doomed to live in the ruins of a civilization that no longer works.

“Rethinking the country life,” begins an article in the New York Times. “Suddenly the economics of American suburban life are under assault,” it continues. Then, it gets down to business.

When Larry Kudlow, Laurence Lindsey and Paul Wolfowitz were explaining how nice it would be to rough up the towelheads, the average suburban American household spent $1,422 on gasoline. Now, according to the Bureau of Labor Statistics, the sum has risen to $3,196. Another estimate puts the increase in energy costs to the typical family at $50 per month. Any way you look at it, it’s a lot of money for people who don’t have much money. And the figure goes up the further you get out in the boonies.

“Life on the edges of suburbia is beginning to feel untenable,” says the Times. Like it or not, Americans are being forced to park their cars. This spring, they cut back on their driving at a sharper pace than anytime since 1942. But it’s hard to stop driving when you live far from work and far from shops.

Meanwhile, we got the latest figures on the US housing market. According to the Case/Shiller survey, prices fell at their fastest rate ever in April, down 15.3% over the year before. This no doubt contributed to an enveloping funk in consumer confidence, which hit a 16-year low.

The confidence level of suburbanites falls with their house prices. We have no proof, but our guess is that no houses are falling more than those built most recently, most far out. That’s where homeowner equity is likely to be lowest…and where the increased price of commuting hits hardest. That is where house prices ought to be most vulnerable. Potential buyers will simply add up the costs of commuting – in time and money – and subtract it from what they are willing to pay for the house. The longer the commute, the lower the price.

“Prices in outer suburbs will get clobbered,” concludes economist Mark Zandi.

The country will be turned inside out by higher energy prices. The suburbs are becoming less and less desirable…compared to concentrated, close-in developments near city centers. For the first time since the 1920s, the inner cities are “in.” The suburbs, meanwhile, are ‘out.’ And the further out you go…the further ‘out’ they are. Over time, many of these out-lying suburbs are likely to become slums…or may simply be abandoned, left to become ghost towns, with tumbleweeds blowing through the empty split-levels and burned-out neo-colonials.

In the fashionable inner cities, meanwhile, the middle classes will adapt and probably be better off for it. They’ll walk to restaurants, to school, and to shops. In the far out suburbs, consumers will regret every trip to the shopping mall…and rue the day they listened to Larry Kudlow.

We’ll let our Pittsburgh colleague Byron King pick up this point:

“The returns are coming in from the distant precincts of the oil patch, and the winner is……… Oil!

The price for oil has barely budged based on the Saudi Summit. There has been no summer sell-off, and I’d be surprised to see a significant pull-back as the summer driving season kicks into gear. (Followed by hurricane season, and then the buildup for winter heating stocks, followed by winter.)

What’s going on? Well, what the Saudis give — in proposed, future increased production… the Nigerians take away — with ongoing oil patch carnage that forces the likes of Shell & Chevron to close vast pipeline systems. Apparently the present trumps the future, even in the futures markets. Everything is connected to everything else, isn’t it?

Here is my take on the exit polls from the Saudi Summit……….

Consumers and their representative governments are desperate for an oil pullback. This $135 oil is draining budgets. The poor & working poor are already marginalized in this cruel world of ours. Now it’s the turn of the middle classes to get kicked into the cellar of the modern age. People are working time-and-a-half just to put food on the table and gas in the car. Retirees and others on more-or-less “fixed” incomes are impoverishing slowly. Unless they are impoverishing fast. Bankruptcy filings among the older and elderly demographics in the US are soaring. The bottom line is that the conventional image of a “decent standard of living” is rapidly receding for many tens of millions of households. The 20th Century is truly over. (I think this has much to do with the meteoric rise of Sen. Obama as well… He offers nothing new — mostly just classic, populist Democratic Party bromides — but he offers it in such a sweet and beguiling, teflon-coated manner…)

And it will get worse before it gets better. To be perfectly blunt, it might not even get better. Over the next year, and into the forseeable future, in the developed world people will go broke buying motor-fuel, heating oil and natural gas. (Wait until next winter… Sweet Jeeeezus!) In the less-developed world, people will go broke buying bread. And then the poorest amongst us will starve. Any way you look at it, it’s bad for business.

Fast-rising energy prices are decapitalizing entire nations. Energy prices are destroying wealth faster than people can re-create it. Entire segments of the world economy have hit the iceberg and are filling with cold seawater. Some industries are becoming obsolete in a matter of months. Much of the airline industry is drowning in red ink before our eyes — almost every flight in the sky is losing money, no matter how much they charge to check your suitcase or how few peanuts they put in the small package.

And down on the ground, most motor transport is just plain uneconomic any more… “Dead Rigs Driving.” Farewell to the “Warehouse on Wheels.” Sic Semper Globalization.

Large swaths of the auto & truck building industry have become capital-wastelands. GM is closing SUV factories and planning to ditch the Hummer brand. This cascades down to firms that make everything that goes into a set of gas-guzzling wheels. You name it: hot-coiled strip, axles and tires, wire bundles, paints & coatings, window glass and seatbelts, and so much more. Billions of dollars worth of past investment is just gone… ‘bye-‘bye, poof! And the good-jobs-at-good-wages? History.

What about those totally cool “Green Jobs” that everyone talks about? Sure, if you are nimble. If you have certain technical skills. If you are willing to relocate. If the winds of fate are blowing your way. Maybe you too can become a rooftop-solar installer, or a windmill repairman. But you ought to keep in mind that many of those “green jobs” will be working in dirty old hard-steel industries like oil drilling and coal mining, but doing it in an environmentally sound manner.

Really, 87% of the US energy supply comes from burning carbon. Nothing big will change in the next four years, or eight years, or twelve or twenty or thirty-two years. Actually, God help us if it does change “big.” We’ll probably be in trouble — big time.

If you sell oil, of course you are a happy camper right about now. Although some are happier than others.

If you are among the Arab nations of the Middle East, you may just be raking it in faster than you can spend it. Or else how to explain the building boom in UAE and Saudi, where the national bird has become the construction crane? Really — why build a 2,300 foot tall skyscraper in Dubai, unless it is the way of Allah to advise that you have too darn much money?

And as no less an authority than Allah can tell you, too much money can be a curse as well as a blessing. (“Give daily alms to the poor” is one of His commandments.) How bad is it? In the UAE as of late, there are severe shortages of cement. The contents in the holds of the cement-carrying cargo ships are spoken for long before the anchor drops or the vessel ties up at Jebel Ali. Trucks wait at the piers to haul the precious cement cargo direct to the construction sites. No warehouses or storage bins for the gray gold. Just drive to the point of use, add water, and mix with gravel… if you can get gravel.

This just illustrates the inefficiencies that come with having too much cash, and not enough good projects on which to spend it. Hey, does anyone want to buy the Chrysler Building in New York? Well, every time you buy gas at $4.25 per gallon, you are helping someone else do exactly that.

And the high rates of spending are breeding grounds for capital cost inflation. Too much money is chasing not-enough steel and machinery and skilled labor. So whatever you build is costing 50% to 100% more than you planned. Ain’t no way to run a railroad. Or a petrochemical refinery. Or an aluminum smelter complex.

And what of the far-seeing eyes in Riyadh? — And believe me there are eyes in that mysterious and secretive desert-kingdom land that rival the optics of the Hubble Telescope. They are not blind to the potential for high energy prices — especially in the context of a rapid price run-up — to shock and weaken the economies of their far-distant customer base. What good is current income from oil sales if the purchasing economies are cast into recession or depression, and the currencies of denomination are wrecked by economic collapse? And what good is it to jettison the “special relationship” with the US that dates to World War II, and under which the Saudi royal family has prospered and multiplied? Is there someone in the wings who can offer a better deal? The Saudis are many things, but they are no fools.

If you are among another rank of oil-exporters, you are very happy with high prices, and you only wish that the prices were higher. You want all the cash you can raise to fund your elaborate social welfare schemes (Venezuela), so as to keep the natives un-restless. Or perhaps your ambitions are more in the realm of particle physics, and you need oil revenues to fund your nuclear ambitions (Iran). Or maybe you have pretensions of returning to great power status (Russia), and you need funds to buy weapons that your industry can manufacture but your government has not been able to afford. Ah! For these nations, the feel of jingle in the national pocket is incomparable. It’s hard to understand unless, perhaps, you ever enjoyed the feeling of whizzing down the street at the wheel of a stolen bicycle when you were young.

In that case, heck, if the price of oil drops, you are in trouble. So you like the high prices, and wish that the prices would continue to climb. Indeed, if the price of oil falls you probably have enough money to go out and engage your own bunch of personal traders to bid the price back up for your own account. Really, why be a price taker if you can be a price maker? It’s like what Mark Twain once said about his early job as a newspaper reporter in San Francisco… “My job was to cover fires. If there were no fires, I was supposed to go out and set some.”

Is there room for optimism here? Yes, in the sense that high prices are concentrating many minds on energy. “Energy” is the most important issue of our time, bar none. That is, people are finally beginning to understand the centrality of energy to our collective existence. Take away the cheap energy, and it becomes clear that mankind has spent the past century building the wrong kind of world.

Another way of saying it is that we’ve collectively built “tomorrow’s ruins” today. And I don’t mean just the physical structures, the bad architecture and stranded infrastructure that is worthless when energy is expensive. Think as well about the social structures that are beyond worthless when energy gets expensive. Tell me when you start to get worried…..

Much of what happens in our time only happens because energy is relatively cheap and abundant. So when energy gets expensive, a lot of what happens is going to stop happening.

I leave the rest to your imagination.

~ by searching4alpha on June 27, 2008.

One Response to “The Most Boneheaded Miscalculation Of All Time”

  1. an aside to begin, but this grey on black scheme almost sent me away — what’s wrong with black on white that we can SEE?

    Then this post ran all over the place, tediously long, so after I got whatever the gist was, seemed time to comment.

    All we need to do is remain aware that our dollar is collapsing. That is why the PRICE of oil and everything else keeps rising. It doesn’t take 9 pages to say that, I just did it in one paragraph.

Leave a Reply

Fill in your details below or click an icon to log in: Logo

You are commenting using your account. Log Out / Change )

Twitter picture

You are commenting using your Twitter account. Log Out / Change )

Facebook photo

You are commenting using your Facebook account. Log Out / Change )

Google+ photo

You are commenting using your Google+ account. Log Out / Change )

Connecting to %s

%d bloggers like this: