SERIOUS MONEY:The US is in its deepest recession since the 1930s – can Obama solve the crisis,? asks Charlie Fell

IN HIS inaugural address 28 years ago, the 40th US president said that the “United States are confronted with an economic affliction of great proportions” and continued with his opinion that “the economic ills we suffer have come upon us over several decades . . . and . . .will not go away in days, weeks, or months, but they will go away”.

Those words of the late Ronald Reagan seem so appropriate for 44th president, Barack Obama – with one exception.

Where Reagan famously declared back in 1980 that “government is the problem”, Obama must recognise that government is the only credible solution to the economic malaise.

Obama takes power at a time when America is in the throes of recession just as his predecessor did back in 1980, but the problems today are very different and far more challenging.

The economy that Reagan inherited was one of too much regulation, unionisation and Keynesian economic principles that were seen as responsible for runaway inflation. The yearning for free, unregulated markets was born even though the defeat of inflation was already under way under the restrictive monetary policy implemented by Paul Volcker at the Federal Reserve.

Deregulation continued apace and the uncompromising cigar-chomping Volcker was replaced in 1987 for political reasons stemming from his refusal to play the Washington game. His replacement was the all-too political Alan Greenspan.

He earned his stripes on Black Monday when, just two months after his appointment as Federal Reserve chairman, he managed to stabilise stock prices after the largest one-day fall in history. The celebrity central banker was born and his passion for the writings of Ayn Rand didn’t seem to matter.

Unfortunately, his philosophies did matter and his unsound economic theories have helped to produce the serious dilemmas the world now faces.

Obama has been sworn into office as his country is in the throes of the longest and deepest economic downturn since the 1930s. Indeed, the economy could easily decline in nominal terms this year for the first time since 1933. There are many commentators who will believe this to be scaremongering but the facts speak for themselves.

The fourth quarter of 2008 was undeniably savage, with a decline of 5 – 6 per cent at an annualised rate in real terms almost certain.

It is already known that the unemployment rate jumped to more than 7 per cent in December, or roughly 13 per cent when those who have recently given up looking for work plus those who have been forced to take part-time jobs when they want to work full-time.

Meanwhile, capacity utilisation has dropped by almost eight percentage points from its cyclical peak to below 74 per cent for all industries and 10 percentage points to just 70 per cent for manufacturers. Furthermore, industrial production is no higher today than eight years ago when George Bush took office and the inventory-to-sales ratio has jumped to its highest level in five years.

The income statements of both households and businesses paint an awful picture, but a thorough health check is incomplete without a forensic analysis of balance sheets. Unfortunately, the prognosis is not good, despite the view that corporate America is in excellent shape.

The non-financial corporate sector looks good when compared to the last 10 years. As of the third quarter of last year, Federal Reserve data show outstanding debt of 44 per cent versus the market value of equity as compared with 51 per cent in 2001.

However, adjustments for market movements combined with deficits arising from defined-benefit pension schemes and promised healthcare benefits lifts the ratio to 50 per cent.

In any case, the fact that more than one-in-two US corporate issuers is deemed as junk and just six US companies are rated triple-A says it all.

The Obama team gets the problem, but the amount of money that needs to be spent is beyond comprehension. Can Obama return US consumers to full employment and prevent deleveraging? I doubt it but they will keep trying, which means currency debasement.

Most of the bull market diversification strategies proved empty and none included gold. There is every reason to cherish the yellow metal.

www.sequoia.ie