Right up to the mid-late 1970s, a minimum 20% down payment on a house was mandatory before a bank would even look at a mortgage application. Less than that and the potential borrower was not deemed to be able to afford the loan. How things have changed! Today in the US, a person can get a mortgage with no down payment whatsoever. If the valuation of the house increases after the purchase, that person can go back to the bank and get a loan for up to 120% of the increased "valuation". After all, house values always go up, right? Wrong! Take a look at the period since 1990 in Japan. House valuations have fallen 65 percent against their peak.

The Atlanta branch of the US Fed recently completed a survey which found that 66% of the falls in "core inflation" (price inflation minus food and energy costs) could be traced to just two items - residential rents and used car prices. Residential rents fell as a consequence of the move to home "ownership" pushed by steadily falling mortgage rates and zero down payment financing. Used car prices dropped as a consequence of years of "zero interest" loans offered by auto manufacturers on new car purchases.

The much ballyhooed "low inflation" in the US (and the "deflation scare" perpetrated by the Fed in 2002-03) have come as a direct result of a combination of low or non-existent interest rates coupled with a complete negation of the concept of "credit worthiness". The result is a gigantic debt structure built on a "foundation" of inflated valuations. When valuations start to fall, the collateral goes negative against the loans built upon it.

Set For A Breakdown:

When the value of a repossessed item is less than the loan standing against it, the LENDER takes the loss. On a national scale, the US Federal Government and the US economy combined requires money from the rest of the world to the tune of $US 1 TRILLION plus annually. This is the most benign total of the combined federal budget deficit and US current account deficit. Inside the US, there is NO collateral in the term of fixed assets nor is there any cash flow which is not fully lent against left. That means that there are NO margins left inside the USA.

A Race Between If - And If:

If the valuation of any part of the US collateral foundation breaks first, or looks close to breaking, count on the US to act to pull-back ever larger amounts of foreign loans and foreign investments to buttress weakening balance sheets and financial situations. That, of course, will pull the proverbial carpet right out from under not only China but also all the other Asian economies. They, in turn, will be faced with a situation in which they may have little choice but to sell part or all of the $US 1 TRILLION plus in US Treasury debt paper they currently hold. That will slam US Treasury yields upwards which will, in turn, force upwards ALL US banking and financial system interest rates.

If the US stock markets break down first, look at it as if the valuations and therefore the collateral of the producing economy is breaking down. As stated by The Privateer, any DOW close below 9900 qualifies as THE signal for such a breakdown. If the market adds a climb of US ten-year Treasury yields to a level above 5.00%, count that as if US Treasury paper has lost its global market value as collateral and expect most of the world's Central Banks to respond by either buying more of their own government's paper, in turn accelerating their internal credit expansions - or actually raising their interest rates.

If the Fed does raise its official rates at the next FOMC meeting (June 29-30), look out for two things. The Fed may act as they have in the past and buy Treasury paper to neutralize the rate rise. The signal for that would be a decrease in wholesale money rates and other market rates as official rates rise. If that happens, count on it, Greenspan is compensating for the effect of an official rate increase. And, finally, the big "if". If US consumers back off in the face of climbing official US rates, it is game over.

Philosophically, the West is approaching one of its great trials. At the root of the crisis is an invalid currency which is FIAT - arbitrarily created by all Western governments out of thin air. Superimposed upon that false foundation is a credit system which has brought about a political state of individual peonage through debts owed. On the best comparative economic history we can muster here on the quarterdeck of The Privateer, the world crisis has to start in two to six months. It had to be so. Wealth is not built on fiat and independence is not built on financial serfdom. Be ready - and be wise.