THE MARKET BOUNCE

With billions of dollars being pumped into markets by central bankers and government treasuries, it is no surprise that a bounce is starting to happen in capital goods, energy and basic materials. The business cycle wheels appear to be turning backwards just a bit. This big old train can back up a little bit but abundant supplies of labor and raw materials will not let this "reflation trade" gather much momentum. Materials such as coal, phosphates and platinum are starting to be stockpiled.


The dramatic move in short rates, the Fed Funds went from 5.25% to 1% in a hurry, is the kind of move that turns housing markets. When rates were this low in 2002, the housing boom gathered momentum. After the 1991 and several other prior recessions, short rates did not get this low. Housing sales are levered to interest rates. The housing market turns like a battleship but sales rose last month and will continue to recover as credit spreads narrow. The cost of money is greater than the cost of lumber, bricks or any other component of a home. The home affordability index has already spiked upward. Drop mortgage rates to about 5.7%, 1.5% above the long bond rate, and this index will go out the roof. The index is now up around 140%. The average house is affordable to the average person when the index is at 100%.



Keep in mind that in the general election, Obama promised only modest tax increases. His moderated proposals have been heard by all. To make bigger changes, Obama will need to work out deals with republican senate leaders and with blue dog democrats. His proposed increases in business costs would not good for the US over the long term but the US is very strong, our country can take a hit and still come charging out of this recession like a bucking bronco bull.


McCain would have to tread a tiny needle to win, don't count on it. Still, the US is already winning. The US dollar has been strong because our free enterprise system continues to get rid of dead wood, while Europeans continue to do even more than than we to subsidize the fallen. Despite the bailout pushed by Paulson and passed by congress, 17 banks and many other businesses in America have fallen prey to the gales of creative destruction. It remains to be seen if the owners of Chrysler can talk the government into a bailout. One possibility is that GMAC will gain status as a bank holding company in order to allow GM to get hold of the 5 billion needed to bailout Chrysler. Schumpter is spinning in his grave. America is strong because failure is not generally rewarded, on the business or the individual level. Again, Obama will take us in the wrong direction, but he will only slow the economic train down, he will not kill it.