A Melman Minute By: Leonard Melman   NOTE: In order to complete Mr. Melman's forthcoming book on the essential fundamentals of the developing international financial crisis and its relationship to gold and silver, new "Melman Minutes" will be posted only three times per week, each Monday, Wednesday and Friday. Since the work has been expanded to include potential solutions to the growing list of seemingly insoluble dilemmas, the working title of the book has been revised to 'REVERSING THE WAY IN!"   MELMAN MINUTE - May 25, 2010 - - - - - Where has all the optimism gone?  Just a few days ago, the world seemed to be bubbling over with good tidings.  Stock markets were soaring; government officials were predicting strong recoveries; securities analysts were talking about huge breakouts to the upside; and market observers were delighted with the "powerful new bull market" which had been carrying stocks to higher levels since March, 2009.  Now, suddenly, markets are crashing, basic commodities are plunging and serious problems seem to be springing out of the woodwork on an almost hourly basis.  Here are some of them. SPAIN -  Their stock market is now in full retreat, with the Madrid Stock Index having fallen from a yearly high of 1,273 in early January 2010 to a low this morning near 928 - a loss of 345 points or a drop of twenty-seven percent in little more than four months.  Quite shockingly, that index is now less than 200 points above its crunching low near 750 set in March, 2009.  Spain is being rocked simultaneously by a government financial crisis coupled with an accelerating banking crisis.  Spain's banking system is dominated by "savings banks", many of them controlled by the Catholic Church, and several of those banks are now in jeopardy, thanks to the real estate crash which began in 2007 and which has decimated Spanish realty values.  One of those banks, CajaSur, was seized by Spanish monetary authorities over the weekend and four others were identified as being in some degree of jeopardy.  As the Wall Street Journal put things this morning, "...the seizure of CajaSur comes as authorities grapple with a sector reeling from the collapse of the housing market at the same time the government is hard-pressed to fix its own finances." Even more pressure has now been added to this explosive situation as the International Monetary Fund has demanded that Spain restructure its governmental operations by reducing starting wages, limiting the power of unions, reducing governmental expenditures and raising the general retirement age to 67.  Quite predictably, both the church and the unions have spoken out against such 'harsh' measures and the stage appears to be set for public disturbances such as have rocked Greece in recent weeks. What no one has even addressed is the problem of exactly how Spain is to achieve prosperity if it reduces unemployment and welfare payments to the general population at the same time that asset accounts are being smashed by the sharp declines in their securities markets.  But if it does not reduce such payments, how is the government ever going to manage their economic system? .............. INTEREST RATES - While most governments have been able to maintain short-term rates near 'zero' in markets which they dominate, the free market is beginning to re-assert itself in the form of rising rates in other markets.  In one case, rates are now rising steadily in what can be referred to as the "junk" bond market and in our opinion, this reflects a growing disbelief in the underlying strength of the economy.  Several marginal corporations which have recently attempted to borrow large sums, are finding there are suddenly few takers for such paper.  Yields on junk bonds are now fetching more than 7 percent above the rate for U.S. government treasuries, one of the largest spreads in many months, and the rate of differential is rising, indicating growing uncertainty regarding the economic future. In addition, the "LIBOR" interbank rate which reflects the amount banks charge to lend to each other has suddenly risen to the highest level since last July, yet another indicator to us of a growing feeling of uncertainty regarding the future.  One of the factors noted by market observers as a possible cause of this recent rise in LIBOR is the uncertainty brought about by the scope of new banking regulations being discussed in the United States Congress and which are likely to become law in the near future. Whenever financial fear is on the rise, lenders most often increase the interest rates they demand for accepting risk over time.  In our opinion, both of these developments reflect a growing perception that overall levels of financial risk are on the increase once again. ................. BRITAIN - We have long believed that what happens in America is sometimes forecast by earlier developments in the U.K. and two stories out of the British Isles this morning could be matters of serious concern.  In the fist case, in an address to the London School of Economics, Adam Posen, a member of Britain's "Monetary Policy Committee", noted that Britain was now at risk of a Japanese-style period of deflation.  The chart below illustrates that should this occur, it is no minor matter. As can be readily observed, the Japanese market has stagnated for twenty years now and, to this day, remains a full 75% below its peak.  Posen's argument was that Britain's situation might even be worse than that of Japan before it entered its period of stagnation, giving three reasons.  Britain's debt is held to a great extent by overseas investors who would be quicker to dump that debt than Japan's domestic holders; Britain's manufacturing sector is much smaller than Japan's and Britain's overseas markets are far less developed. In the other case, both the London School of Economics and the Manchester Business School combined to study the cost of government 'red tape' to the British economy.  They found that new regulations which have been added since the advent of the Labor Party's control of Parliament in 1997 now add over eleven billion Pounds per year to the cost of doing business in the U. K.  That is 11 billion pounds removed from the profitability of corporations and eleven billion Pounds less profits from which the government might obtain revenues. Given that the United States is also in the process of passing massive new reams of regulations, perhaps they might pay some slight attention to the deleterious affects such bodies of laws are having across the Atlantic. (As an aside, the Queen is about to address Britain's new parliament later today.  We have used her last such address of this past November as an example of wild government spending and we can only wonder what measures her new speech will contain.  We somehow doubt it will be anywhere near as generous.  If a transcript is available, we will review her comments tomorrow.) In other news - all of which seems geared to reduce forward-looking optimism, home prices fell in America in March, tensions between North and South Korea have risen swiftly and there have been several articles of late describing how the average person in several economically-advanced nations is now beginning to lose faith in the believability of government promises.  All of the above would appear to add to the luster of gold and silver over time, but we must also add that if they combine to lead to a renewed slowdown, the outlook for base metals would be much less sanguine. Speaking of gold, it has comparatively outperformed virtually all other basic commodities in the past few weeks by falling only four percent from its recent high near $1,249 to this morning's peak at $1,201.  Most other metals and petroleum commodity items have fallen by anywhere from 15 to 35% during the same period. As of 9:00 AM PDT this morning, financial markets in Canada and the USA are sharply lower, but have recovered somewhat from their lowest levels  with the Dow Industrials and the TSX Index each down about 170 points.  Gold is trading just under $1,200, up by about $5 on the session, but silver, platinum and palladium are down moderately.  Base metals are selling off more sharply with copper, nickel, aluminum, lead and zinc all off between 3.5 and 6%.  In share trading, higher gold and lower base metals are offsetting each other and mining share indexes remain close to unchanged.  The US dollar is showing renewed strength in currency markets and interest rates continue their recent downward trend.  Crude oil has once again dropped to well under $70 per barrel. - - - - - All quotes US$ unless otherwise indicated. Next Melman Minute scheduled for tomorrow, May 26.             ◄  Previous Minute                                                                                                        Next Minute  ►
		DISCLAIMER The information presented above is based on data which we believe to be from reliable sources, but the accuracy of which cannot be guaranteed.  Any opinions or predictions contained herein are those of the editor and are likewise offered also for information purposes only. Any investment decisions should be made only following consultation with registered investment professionals.