KRASTING and COBERLY in COMPLETE AGREEMENT Well not exactly.

But I think that Coberly has done a good job of making my case. I will go through some of his latest comments to demonstrate how we agree. But first I have to try to insert into this discussion another of those “facts” that I rely on. This “fact” is outside of Coberly and Webb’s understanding, or if they understand it they fail to see the significance of it. In plain language: If the US bond market becomes unstable all of the lights will go out. Including the lights at SS. Angry Bear readers may not agree with that statement, they may think it another lunatic assertion by me. But this time I am right. If you disagree you are not well read on the issues of the times and you are living in a cave. There are endless academics that would agree with this and there is a very large chunk of the folks at the Federal Reserve and Treasury that would agree with it. Suspend your disbelief for a moment. Assume that this law of nature is in fact correct. What might cause the bond market to become unstable? Many factors. Almost all of them are in place today. Crazy excessive deficits that are projected to exceed $1 trillion a year for the next decade are front and center to the problem. The dollar’s status as a reserve currency is another. Sentiment on this critical issue is very fickle, when it goes, it causes problems. There are a host of other issues including America’s cronic current account deficits. But now there is another factor that is not now being considered, and that is the status of the Social Security Trust Fund. I ask Angry Bear readers to consider the implications of this headline should it ever occur: “CHINA TO STOP BUYING US TREASURY DEBT. WILL SELL THEIR HOLDINGS OF $1 TRILLION OVER THE NEXT DECADE.” We will not see that headline. China is not stupid. They know that if they took action like this it would have a devastating affect on the US capital markets. Interest rates would soar. The bond market would become unstable. Our ability to finance ourselves in an orderly way would be impaired. Interest rates would rise and the economy would suffer. China would suffer as well from their actions. Man Bites Dog. There would be one of two results from this. Either it would precipitate a very rapid collapse or it would result in a slower pace (2-3 years) of collapse. Let me be very clear. The US can’t afford 8% interest rates.

The cost of the deficit would eat us alive. We would not be able to sell new debt at a cost we could afford. These conditions would certainly cause a severe recession (or worse). In my opinion a failure of the bond market would be the mother of all systemic risks. Housing would collapse if mortgage rates went to 10%. Banks would be closing left and right as the economy loses jobs. Unemployment would explode. The number of workers contributing to SS would fall by as much as 20%. The ratios of total income (including the tax on benefits) would collapse. Large annual deficits would be the result to the Fund. They would have to sell back to Treasury their IOU’s to raise the necessary cash. But what would Treasury do? At the time this is happening Treasury will be in a desperate battle to sell the debt that is necessary just to avoid a functional default. The result would be that the checks would not go out as planned. Mr. Webb has said that in a worse case situation like this that is exactly what would happen. SS would wait until it has collect sufficient taxes to make the benefit payments. The implication of that is that we would be in a very dark and deep depression. So if you buy into the consequences of China selling off its Treasury holdings how would you react to this very similar but more significant announcement: SSTF TO STOP BUYING US TREASURY DEBT. WILL SELL THEIR HOLDINGS OF $2.5 TRILLION OVER THE NEXT DECADE. I think we will get that headline. I think we are much closer than people think to getting that headline. I think we will get this news sometime in the next three years. When we get this headline it will make a difference, it will destabilize the bond market. It will be more significant than if China stopped buying (and started selling) our bonds. Mr. Coberly agrees with my assertion that the economics of the Fund have been hit very hard as a result of the 08 and 09 recession. We disagree on what are the implications, and what should be done about it. For example: Coberly: I made a clear enough case that the cost increasing faster than the income was well understood and predicted a long time ago. that is what the trust fund was designed to take care of. it was always intended to "run out of money" to be replaced either by increasing the tax or cutting benefits.

BK: Yes Dale the Fund was always intended to run out of money. You are 100% correct. But no one anticipated that the ‘tipping point’ for this to happen would be 2009. We thought it was 2016. The recession of 08 has excellerated the time frame dramatically. That has been my point from the get-go. Coberly: what you are saying here is that the government has to pay back the money it borrowed from Social Security. what is there about paying back money that you borrowed that you don't understand? I understand completely. But what you fail to understand is that to do so in the context of the other pressures on the bond market will result in a systemic problem. These are very big numbers we are talking about. Were it not for the other pressures on us fiscally I would not be so concerned about the SSTF becoming a seller of Bonds versus the traditional buyer. But those other pressures do exist. They are with us today and we can’t shed them. SS is going into deficit at a very inconvenient time. On the critical issue that I have been trying to make re the bond market and the inter-relationship to the SSTF Coberly says: You may be right. the Bond market may have put itself into a stupid position. This does not give you the right to cripple Social Security. What you are proposing is theft. Okay, so finally I am right about something. Coberly is spot on with this observation. Forces far outside of SS have put the bond market (aka the entire economy) in a ‘stupid’ position and this is in no way the fault of the Fund. But unfortunately the Fund will find itself being in the position of contributing to the instability that will follow from their actions. It can’t and won’t be allowed to happen. Coberly: Note that Krasting keeps making the same argument. He hasn't even noticed the argument against him. He keeps arguing that the Trust Fund has gone cash flow negative, and may do so even more in the future. He keeps ignoring that it was designed to do that. It was created as a "rainy day fund." He is complaining because his bond traders have been counting on it never being used. Because he forgot that's what it was created for. Again 100% correct. I have made the case again and again that what was supposed to be happening in a decade or so is happening ‘today’.

The Fund is doing EXACTLY what it was designed to do. But it is happening at a very bad time. Again, not the fault of the Fund, they did not cause the recession that has hurt them so badly. But, if as I assert (and I think that Coberly would agree to) that this tipping point is happening in 2010 and 2011 it is a very significant event for the broader economy and the markets. Coberly the problems of the fixed income market are it's own problems. the purpose of the Social Security Trust Fund is NOT to underwrite the fixed income market. if you have been counting on it to do so, you have been making a mistake. bond buyers often do. This sentence goes right to the heart of this entire discussion. Coberly is 100% correct when he says,” the purpose of the Social Security Trust Fund is NOT to underwrite the fixed income market”. SS was never intended to be the significant factor that is has become in the capital structure of the US. But it has, and that is just a reality. Coberly is equally correct when he says,” if you have been counting on it to do so, you have been making a mistake”. I have not been counting on SS for nearly a year. That is when I first noticed the significant acceleration of the timing for the FUND to go to negative annual cash flow. What I maintain is that this phenomenon that Coberly and I see happening is not priced into the markets. When this reality that we see becomes more broadly understood it will impact markets and the economy. That is all I care about. Coberly views the Fund in a vacuum. He thinks that what goes on in terms of the ‘aging’ of the Fund is irrelevant to markets/the economy in general. He does not see the connection of a weak economy and the Fund’s ability to perform its obligations. I am surprised at that. To me, the 09 results confirmed that the Fund has turned a significant corner and it is doing it 5-6 years earlier than was thought possible just a short while ago. To me, that is very significant. This debate has become tedious. Let’s give it a rest for a while. We need to re-revisit the status of the Fund in six months. By then we will have a new Trustee report, we will also have six months of additional data. I believe that the Report will contain strong language on the need to address the growing imbalances. I believe that the monthly data that will come in will support that conclusion. As far as the Fund is concerned, 2016 has now become 2010. I feel deeply frustrated at my inability to successfully convey my concerns regarding the Fund. I wish I were a more skilled writer. I wish

I had the status of Coberly and Webb who can dismiss what I see and have people therefore ignore my concerns. No, I am not an expert. I am a hack. But this hack sees trouble brewing on the topic of SS and how it fits into the “Big Picture”. I think it will be in the News and in the Markets before this year is over. We shall just have to wait and see if I am right or not about the market/economic implications of what both Coberly and I see happening in front of our eyes. BK