I have been writing on Futurework List for about six years now and it has been my virtual workbench as I have learned -- or tried to learn -- the craft of economics. Since starting this list of my own I don't have as much time to write on FW List but occasionally something takes my interest. My latest FW posting, which doesn't bear directly on the main thesis of my book but which is important nevertheless, was prompted by an article by Eric Fry (copied below). I'm not sure where Fry's article first appeared -- the Wall Street Journal, I guess -- but here is my response to it, followed by the article itself.

<<<<

Is America fried?

Eric Fry is spot on in pretty well everything he writes below. My take on this is that America is indeed fried. Or not far off anyway. And the rest of us will be, too, as a consequence.

The problem is that America has been living far above its means for the past 10-15 years and has acquired an enormous trade deficit which will have to correct itself sooner or later. It has only been able to maintain this deficit by virtue of large dollar holdings by Japan, China, Germany and the UK. If America doesn't pick up soon (and I think it won't) then the stock market will collapse and the other countries will start pulling out of their bonds and investments, and the dollar will dive and then there'll be a race to the bottom with all currencies being involved.

In any sane world, trade deficits should never get out of kilter so badly. They should automatically adjust in fairly gently fashion, the movement being taken up by equally gentle changes in the standard of living of each countries' inhabitants. This has not been happening because all countries have their own individual (governmental) currencies which are maintained, for reasons of pride or short-term economic policies, by artificial methods. In short, we have all been subsidising America even while it has been prosperous enough to recruit some of the best brains in the world. "To those that hath shall be given . . . " But this can't persist. All countries (and most economists) have forgotten for the past 100 years or so that any self-respecting currency should have intrinsic value and then its effects can be respected and not ignored or over-ridden.

I think we are due for a most almighty crash. My hope is that the six or seven major economic powers will then very quickly convene a monetary conference of even greater importance than Bretton Woods. They should then agree that all national currencies should be valued at specific values and fully redeemable in any practical way at any bank. Or, even better, we should have a world currency. (It doesn't have to be imposed as a world currency. If it's agreed between the six or seven then the rest, if they have any sense, will quickly follow suit.) We will then have self-correcting trade deficits between countries and self-correcting interest rates within them.

Oh, and get rid of Central Banks, too of course. Until a year or two ago only the Japanese central bank was confused. Now, *all* the central banks are utterly and totally confused and are afraid of both inflation and deflation at the same time. Greenspan in particular is in a flat spin and says conflicting things from one weekend to the next. There never has been such a ridiculous situation since money was invented. Don't blame anybody but governments which have attempted to control things which are too big for them.

<<<<

Eric Fry in New York...

A tech wreck on Wall Street yesterday caused serious injury to the major stock averages. Stocks fell for a third straight day, as IBM, Nokia and a bevy of other technology companies reported disappointing earnings. The tech-heavy Nasdaq dropped nearly 3% to 1,698 and the Dow dipped 44 points to 9,051.

Meanwhile, the bond market resumed its skid after a one-day reprieve. A batch of mildly favorable economic reports, while failing to inspire the stock buyers, seemed to inspire the bond sellers. The 10-year Treasury note slipped 10/32, as its yield inched up towards the 4% level at 3.96%. Gold for August delivery climbed by $1.10 to close at $344.30 an ounce.

The Philly Fed business activity index climbed to 8.3 in July from 4.0 in June - the index's best showing since January. Maybe business activity is picking up in Philadelphia, but it is still pretty sluggish up in Armonk,

New York, the home of IBM headquarters. Big Blue's chief financial officer, John Joyce, cautioned investors that business is "good, but not robust," and that many of its customers are delaying major technology purchases. Outside the tech sector, General Motors reported a bittersweet quarter. The sweet part was that the company handily beat the consensus earnings estimate. Unfortunately, however, General Motors can't seem to make a buck selling cars anymore.

The automaker posted a second-quarter profit that topped expectations, but only because its booming finance unit produced a record result. For the quarter, GM reported overall earnings of $901 million, as the profits from its worldwide automotive operations collapsed by nearly $1 billion to a mere $140 million. By contrast, profit from the finance division almost doubled to $834 million. Astonishingly, therefore, GM's finance arm generated nearly all of the company's entire net profit for the quarter.

"How much money did GM's mortgage operations kick down to the bottom line?" your New York editor asked Apogee Research's Robert Tracy.

"You're not gonna believe it," Tracy replied. "GM's mortgage operations produced a breathtaking $415 million in net profits, or about three times more than the profit from the company's vast, worldwide auto operations. Another way of looking at it," Tracy explained, "is that mortgage financing produced nearly half of GM's entire net profit."

"So what happens to this so-called car company," your New York editor inquired, "when interest rates rise and the mortgage refinance market dries up?"

"The so-called car company makes a lot less money," Tracy replied, "unless it can start making money selling cars again."

So if the New Economy companies are seeing little sign of economic growth and the old economy companies are changing themselves into banks-in-disguise in order to make a dollar, what hope is there for a stock market that is selling for more than 30 times earnings? What new financial phenomenon will emerge to carry share prices to the next new plateau of ever-more-ridiculous valuations?

Or, to phrase the question differently, what financial phenomenon could prevent the stock market from succumbing to the forces of economic gravity? Surely the bulls could provide a hopeful answer. We cannot.

Based on its dividend yield, the stock market is at least two times overvalued. Currently, stocks yield about 1.6%. By contrast, at the market top in 1966, the dividend yield averaged 3.39%. And stocks were about two and a half times higher than the last bear market bottom in 1974, when it averaged about 4.5%.

The Dow Jones Industrial Average must decline below 3,000 to get its dividend yield back to the levels of 1974 and 1982. But that could never happen... right?

>>>>