This week's letter is going to be a little shorter than normal, for which some of you are probably grateful. We are moving our offices back into the Ballpark in Arlington overlooking right center field (see more below). With the normal list of things to do, plus packing plus moving decisions, time is just short.

We almost have to start with the events in Spain. There are economic implications that are less than subtle. When coupled with other stories from the US they reveal a deep-seated rift, indeed a level of mistrust which may be the harbinger of problems to come.

But to set the table for the analysis, let's first look at what the Spanish election reveals about the mindset in Europe. It underscores the recent Pew polls which show a sharp division between Europe and at least the 50% of the US which supports the Bush administration.

I read the political speeches of the Spanish left blaming the government's involvement in Iraq as the cause for the bombing and then saw the voting results. My first thought was the same as many other commentators I read was, "Peace in our time." That was the infamous line from Neville Chamberlain, uttered after signing a peace accord with Hitler. Churchill's quote also comes to mind: "An appeaser is one who feeds a crocodile--hoping it will eat him last."

The Spanish people have every right to elect whoever they want, and to throw whatever rascals out of office for whatever reason. However, I find the political speeches by the left after the bombings very instructive. Rather than assert my own views, let me take those of one writer in the Spanish Press. It was very clear the leftist opposition was blaming Aznar and his government, rather than the terrorists, for the bombing. Ramon Peerez-Maura, an assistant editor of the Spanish Daily ABC, wrote on Wednesday:

"The Socialist Party took a free ride on that atrocity and placed blame for the deaths on the governing Popular Party for having aligned itself with the US and British governments on Iraq. Mr. Zapatero's message to Spain's electorate on the eve of then election was as simple and powerful as it was invidious: We have been attacked for siding with the US in Iraq. More ire was directed at America than at those who slaughtered innocent Spaniards.

"If the Socialist Party were to win, voters were told, Spanish troops would be withdrawn from Iraq and any further Islamist terrorists attacks avoided. The ethical implications of such a stand didn't make much of an impact on voters. The fact that al Qaeda may have killed 200 people in Madrid and a contender for power reacted by promising retreat and not retaliation was seen - in the terrible shadow of the event - as a good option by a majority of the electorate. But the message to al Qaeda from our Spanish "Neville Chamberlain" was: If you manage to strike at us, we will run away."

Zapatero was not the only politician to make such a connection between Bush and the al Qaeda bombing. "Former Democratic presidential candidate Howard Dean said Tuesday that President Bush's decision to send troops to Iraq appears to have contributed to the bombing deaths of 201 in Spain."(The New Hampshire Union Leader)

Stratfor, my favorite source for geo-political intelligence, had these very powerful thoughts on the election (www.stratfor.com): "The majority of Spaniards opposed the U.S. intervention in Iraq and Spain's participation in the war. Nevertheless, the Popular Party government that chose to support the war was, according to polls a week before the March 14 election, going to win. The peculiarity of a government following an unpopular foreign policy yet remaining likely to win is easy to explain: There were many other issues on the table, and the voters were not being driven to their decisions by Iraq. Issues such as Franco-German domination of the European Union were more important than the Iraq war.

"The attack on the Madrid train stations changed that. Perfectly timed to be absorbed into the Spanish electorate's psyche, it was designed to demonstrate the price that Spain would be forced to pay for its Iraq policy. What was a less-than-decisive issue for voters March 10 became the defining issue by March 12. The electorate, unhappy with the war in Iraq anyway, now saw themselves paying a price for the war that was simply too high. They voted the Popular Party out and the Socialists in. The Socialists pledged to withdraw Spain's troops from Iraq by June 30.

"From a strategic perspective, this is a massive al Qaeda victory. With one blow, it knocked a major U.S. ally out of the Iraq campaign and raised serious questions as to how far Spain will go to support the United States elsewhere. There can be no question but that al Qaeda understood what it was doing. It struck on the eve of the election in a manner that was clearly intended to cause maximum casualties. When viewed from the standpoint of total casualties (as opposed to total dead), the Madrid attack was almost half as devastating as Sept. 11. But in this case, rather than increasing Spain's aggressiveness as Sept. 11 did with the United States, it caused Spain to draw back.

"The attack has enormous political implications. There are a number of countries that supported the United States in Iraq in the face of majority popular opposition to the war. These countries have political dynamics similar to Spain's. They include Italy, the Netherlands, Portugal, Poland, Hungary, Australia and Japan. Their governments managed the politics of the war in ways similar to Spain. Each of these governments is highly vulnerable to the kind of attack carried out in Madrid."

There can be no doubting the fact that the message al Qaeda received was very clear. The polls throughout much of Europe show the Spanish feelings are not in isolation. Al Qaeda now knows that if it pulls off some spectacular bit of terrorism prior to an election, it is possible to topple a government which actively opposes it.

But it goes even deeper than that. Extremists will now wonder if they can create movement on the part of electorates on any number of issues, from head scarves to support for repressive Islamic regimes and opposition to any cooperation, including trade, with the US. Europe is a fertile ground for recruiting terrorists. Let me hasten to say I am quite aware that terrorism is not just a problem of Islamic extremists. Think Ireland or Chechnya, Peru and Columbia, Serbians or any number of Asian and/or African groups. The first suspects in the Madrid bombing were Basque terrorists (please do not refer to murderers of children as mere separatists). The Islamic extremists are simply the subject of this discussion, and are also far more global in their scope.

My friend Gary Halbert writes this week: "A recent report by the French counter-intelligence underscores this fact. It says that al Qaeda is in the process of recruiting tens of thousands of European Muslims and organizing them into military-type units. They reportedly meet regularly under the auspices of innocent social organizations to train for terrorism and the use of weapons and explosives."

"According to European sources, between 35,000 and 45,000 individuals have been recruited in France alone. In Germany, al Qaeda is estimated to have added another 25,000 to 30,000 men, and another 10,000 have joined in Britain. Numbers of enlistees in Belgium, Switzerland, Holland, Sweden and Norway are unknown, but are thought to be significant.

"One alleged twist on this new recruiting push is that up to 25% of the new recruits are so-called 'white' Muslims, meaning native Europeans who have just recently converted to Islam. Al Qaeda already knows that their typical recruiting grounds in mosques, Islamic culture centers and Muslim neighborhoods are being closely watched, so they have reportedly shifted their focus to a new demographic group (recent converts to Islam) who will be very hard for anti-terrorism intelligence to identify. These recruits not only don't fit the typical terrorist "racial profile," but also do not have their names on known terrorist lists."

I have written on the coming demographic changes facing the world on several occasions. There are several European nations which face the real prospect of having Muslim majorities by the middle of the century. Now, there is nothing wrong with Muslim majority countries. But there are real problems with distinct and extreme minorities within Islam who believe they can achieve their goals or address their anguish by random acts of terrorism.

Think Spain is now safe from terrorism? Al Qaida literature has paid tribute to the Basque group ETA's "heroic struggle" for Basque independence. Ayman Al Zawahiri, the Al Qaida second-in-command who may have been caught today, has spoken of his dream of "liberating Andalusia," the part of Spain once ruled by Muslims, presumably letting ETA rule its own neck of the woods in the Basque country. Islamist extremists moan the loss of Spain many centuries ago, and openly call for a return of an Islamic control. Whether or not such a thing is even reasonable or would be tolerated by the vast majority of Muslims in Spain, it only takes a few dedicated extremists to create havoc in their "cause." The clear majority of Basques oppose the terrorists there, but it does not keep them from causing death at every opportunity. Majorities and reason are not things with which to fight terrorism.

Al Qaeda and its allies are the enemies of democracy and tolerance. The freedom they want is the freedom to control the world to suit their views of what God personally reveals to them.

They have seared their souls of all reason, having been weaned on hatred and envy. They randomly kill their own people, encourage their daughters to commit mass murders and suicide. They hope for chaos and capitulation, in which vacuum they can assume power. They enslave their own people. They see all who disagree with them as the enemy, whether Christian or Muslim or Jew or Hindu. They believe only they know the will of Allah and thus they have the right, even the religious duty, to kill all who oppose them. There is no compromise with such as these. They are evil.

Growing up in west Texas, when a copperhead snake appeared, you took out the hoe and chopped its head off. You did not ignore it and let it wander into your neighbor's yard in the hope it would leave you alone.

I would highly recommend to you a small and compelling book written by Robert Kagan called "Of Paradise and Power." (you can find it at Amazon.com) He compares the real difference between the general attitudes of Europe and the US with respect to power and its use. There are fundamental differences and reasons for those differences. Both make sense in the context of their respective experiences.

Finally, I give you this last bit of analysis from Stratfor (www.stratfor.com):

"Clearly Madrid means the war is not going to end as neatly as the United States had hoped. Indeed, the political success of the attack in Spain will encourage al Qaeda. In a sense, this increases the pressure to find bin Laden, in the hope of disorganizing any impending campaign. We suspect that that campaign does not need further organizing -- it is good to go with or without bin Laden. What we are going to see now is an intense effort in Pakistan to get bin Laden, plus -- and this is our guess -- an intensifying effort by al Qaeda to counter by destabilizing the U.S. alliance.

"The attack has enormous political implications. There are a number of countries that supported the United States in Iraq in the face of majority popular opposition to the war. These countries have political dynamics similar to Spain's. They include Italy, the Netherlands, Portugal, Poland, Hungary, Australia and Japan. Their governments managed the politics of the war in ways similar to Spain. Each of these governments is highly vulnerable to the kind of attack carried out in Madrid.

"If al Qaeda could generate a process in which non-Islamic U.S. allies were to peel away from the United States, two things would happen. First, the position of the United States in the Islamic world might start to deteriorate. One of the strengths in the U.S. position has been deep divisions in Europe, which left Islamic states isolated from alternative centers of support. If Europe shifted en masse to the Franco-German position, the Islamic sense of isolation and lack of alternatives also would shift. It could -- emphasize could -- undermine the U.S. position in the region.

"Second, a massive defection from the United States by allied governments would hurt the Bush administration. One of the charges critics have made against President George W. Bush is that he has followed a unilateralist policy that has isolated him from allies. That criticism has never been true -- most of Europe's governments supported the U.S. policy in Iraq -- but if it becomes true, if reality catches up with perception, then Bush's domestic position would weaken enormously.

"Al Qaeda would love to see Bush defeated, particularly if his defeat could be perceived -- particularly in the Islamic world -- as a consequence of the network's actions. That means U.S. allies are not the only possible targets. Al Qaeda has shown itself to be politically sophisticated. If it has operatives in the United States, then those operatives have friends who can advise the group on U.S. politics. Any attack will give Bush an immediate boost. It is a given in U.S. policy that the president's support increases during a crisis. It is also true that over time that support bleeds off, particularly if the president is not seen as moving toward solving the problem effectively. It follows that al Qaeda will not attack on the eve of the U.S. election, but months before, giving the American public time to come to the conclusion that Bush is unable to cope with the threat."

The Economic Implications of the Spanish Vote

To see the implications of the Spanish vote, let's start with something closer to home. This week, the Senate passed a bill which would prohibit the federal government from awarding contracts to companies that outsource part of the work overseas or from the states doing business with the same companies if they are using federal dollars. There is other legislation introduced by Daschle and Kennedy which would require US companies to jump through all sorts of expensive hoops before they can lay off workers if there is outsourcing involved. The Wall Street Journal points out this would make the US even more restrictive than either France or Germany.

US labor unions are seeking sanctions against China, charging that Chinese repression of worker's rights has produced an unfair competitive advantage that has resulted in as many as 700,000 US workers losing their jobs. By filing this complaint, it forces the US administration to deal with the issue. "Under US trade laws, the administration now has 45 days to accept the petition and launch what could be a diplomatically awkward investigation of Chinese labor practice, or to reject it entirely and give Mr. By filing this complaint, it forces the US administration to deal with the issue. Under US trade laws, the administration now has 45 days to accept the petition and launch what could be a diplomatically awkward investigation of Chinese labor practice, or to reject it entirely and give Senator Kerry new ammunition to argue that President George W. Bush is indifferent to US job losses." (Financial Times)

As they noted elsewhere, the motivation for this rather unusual filing is clearly political. This intent is underscored by the fact the petition was sent to the Kerry campaign offices prior to being filed with the US trade office, to give the campaign time to craft their response.

Senators and Congressmen from both parties are calling for sanctions against China. Europe is applying selective tariffs against the US because our tax laws are too favorable to corporations and that is "unfair." (Yes, I know it is more complicated than that, but that is the essential base of it.) Several of the prominent Democratic presidential candidates were essentially calling for one form of protectionism or another. Pat Buchanan on the right would have us retreat into a new isolationism.

There are any number of stories out this week, even on National Public Radio, that demonstrate that outsourcing is a net producer of jobs for the US. Foreign companies create and employ more US workers in both the manufacturing sector and the service sector than we outsource overseas by a wide margin. Open and free trade has been good for the US. There are 6,000,000 jobs that are a result of foreign investment. One-third of our workers depends upon foreign trade.

But if we start passing bills to protect our workers, will not other governments feel free to move against us? Especially other governments who feel their constituencies will approve? Our politicians (including 25 Republican senators) voted for the bill mentioned above so that they could appear to be doing something to "protect" American jobs because they are pandering to voters. They know that such a policy would be to our great detriment if enacted by the rest of the world. Would European politicians be reluctant to reciprocate the favor? Given the socialist climate in Europe, I see little reason to think they would show restraint on the side of free trade with the US.

I am disturbed by the seeming rise of protectionism. It is the one force which moves me from being rather optimistic to overtly pessimistic about the economy. Like real wars, trade wars often start with little things and escalate.

Is there anything which is on the horizon which I can point my finger to and say "That's the straw that will break the back of the trade camel?" No, there is not. But a year or three ago, the case for free trade seemed so clear. Now there is a climate which discourages advance in trade. The current World Trade Organization conference rounds are dead meat. Does anyone really think Europe will give in to anything now when they believe Kerry will win and will ask them for fewer concessions?

What if there is a real problem in the future such as a US recession? Or a worldwide global slowdown? It is not unreasonable to suggest the US will sooner or later have a recession which will affect the world at large. In today's global political climate, it is not clear, to me at least, what the response of the world would be.

Parabolic Trading

What could trigger a problem? The breaking of many unsustainable trends that are in place today, of which I have written about many times. Let look at just one. Dennis Gartman wrote the following, which I pass along to you, as it illustrates the complexity of the US and our global trade situation. It also sets us up for a lesson in trading and markets, as Dennis writes one of the premier trading letters anywhere, and clearly illustrates for us the mindset of traders and the hedge fund world.

"THE PARABOLA CONTINUES... FOR NOW: The one economic constant of the past decade has been this: the amount of Treasury securities held by the Fed on behalf of its 'clients' (primarily foreign governments) has been high and has been rising. In 1995 let's consider that the sum of these securities held in the Fed's custody was on the order of $800-900 billion. From a swift visual perusal of the data, we can reasonably say that the average for that year was $850 billion, and we'll not be far off. By '98 that had risen to $1.1 trillion (and it actually had leveled off there in mid-'97 and remained there through early '99.... the last time it was stable for any concerted period). By '01, it began to rise a bit more aggressively, making the beginning of what we shall consider the 'parabolic' move higher, averaging something on the order of $1.25 trillion. By '02 it was $1.35 trillion; by '03 $1.6 trillion and now it stands at a stunning, almost mind-numbing $1.8 trillion. The trend is up, and it is up at a steadily increasing rate.

"We can recall reading of those back in '97 who said that the custody account then at $1.1 trillion) was 'unsustainable,' and that the foreign government's that had purchased such large sums of US government debt would have no choice but to disgorge themselves of it, and when they did that disgorging would send US interest rates skyrocketing higher.

We had our suspicions then of that analysis, and we have our suspicions now. Eventually and inevitably this buying will end and a period shall come when the foreign governments will allow their securities to mature and not renew them. There may even come a time when they move to aggressively sell their securities before maturity. All we know for certain is that those who guessed nearly a decade ago that this process cannot continue and that the US government bond market would collapse were wrong - decidedly and very clearly wrong. If a trend in place shall tend to remain in place (usually for far longer than even the most confirmed adherent to that trend shall believe it possible), then $1.8 trillion will become $2.0-2.1 trillion by this time next year and perhaps $2.5-2.7 trillion the year after that. We know only that the trend will end when it ends and not a moment before. To speculate upon that ending is a waste of trading time and intellect. It is reasonable only to forecast that the trend shall continue a while longer; that those who've bet against it are wrong and shall continue to be wrong... but that we must be prepared to turn on a moment's notice when the trend has clearly been broken. As we are want to say, 'A problem is not a problem until it is a problem....then it's a problem. ' For now, the parabolic rise in the Fed's custody account continues. That is all we know for certain."

Think about this for a moment. If you hold a private conversation with Gartman, he will allow that this is a worrisome trend from a macro-economic perspective. He has his eye on it, because he knows that it cannot continue. He knows that when it stops it will have huge ramifications on the bond and stock markets, currency and commodity markets that he trades. He just doesn't know when it will stop. Therefore, you trade the trend in place today, and be ready to change your mind and trade at a moment's notice. He is accepting of the fact that when the trend stops he is going to lose money (some of the profits he is making now). It matters not one whit to him. I do not know his personal record, but I will bet you a side dollar that he will be a very happy man if even 50% of his trend-following trades in a year are successful, as are most trend-followers. They cut their losing trades very quickly and let their winners ride. It is a risk management discipline that few ever learn, but those that do can do quite well for themselves and their clients.

And that is the way it is in the real world of traders. Just like Dennis, they pay attention to the macro issues, but they trade the trend. The fact that rising interest rates or falling dollars might hurt consumers and employment does not enter into the equation. They are trading a trend, and when big trends change, they can change rapidly. The dollar has fallen against the euro. Oil, gold, copper have all risen. They will continue to rise until the fundamentals force the traders to change. Then they will fall. Gold was in a down-trend for 20 years. It may rise another two years or ten or twenty. But it will eventually reach a fevered peak and fall. The question traders ask is how high will it rise before that time. They will rise the trend until it stops.

But what this means is that this global imbalance that I write and worry about, and tell you will be a big problem, will only become manifest when the trend ends, and then as Dennis notes, it will be a real problem. It will probably be a real problem much faster than we will be comfortable with.

If the rest of the world stopped buying our debt, interest rates might rise precipitously. That, of course, would not be good for the economy. The Fed, in speeches, has made it clear they would step in and try to smooth over any real breaks in the finance system, as watching a recession develop and doing nothing is against the central banking rules. But that means finding the key to the printing press room. Or, the US could become a nation of savers. Of course, that would mean the consumer based economy might suffer. That might mean a number of proposed solutions which would be worse than the disease. There is a reality to the old line that for every problem government solves, it creates two more problems. It becomes very complex.

But given the current increasingly difficult global political climate, as demonstrated by Spain, would there be the will for a strong coordinated response to limit the economic damage, or would the seeming antipathy by a majority of the populations of various developed nations inhibit cooperation? This is not just a European issue. A large number of Americans are willing to listen to politicians who tell them our problem is outside of our borders.

The Spanish election revealed a major fault line. We will now see if al Qaeda can exploit it to the further destabilization of the Arab world.

Dancing and Weaving

Bill Bonner, the author of the New York Times #1 best-seller, Financial Reckoning Day, has these very kind words to say about my new book, Bull's Eye Investing .

"Mauldin dances and weaves through a mountain of fascinating research, taking us on a well-argued tour of the past and giving us a spellbinding preview of the future. He then lays out in clearly documented detail where the investment opportunities and pitfalls of the next decade will be. In a world where the right investment information is the key to success, Bull's Eye Investing is one book that should be close to every investor's desk."

The book should be in the stores in the latter part of April. Many of you will want to buy the book online. I will let you know when you can order. I got a lot of response from readers last week who want to help me arrange for interviews with press and media. We will get to you, I promise. This week has been hectic, and my "inbox" is backed up.

Daddy's Home

One of my favorite movie scenes is from My Fellow Americans where James Garner, playing a former president, walks back into his private room on Air Force One, pats the walls and says, "Hello baby. Daddy's home."

I feel somewhat the same, as I am moving back into my old offices in right center field in the Ballpark in Arlington, where the Texas Rangers play. Yes, they built offices with balconies over-looking the field when they constructed the park 10 years ago, and I was lucky enough to get one of them. Circumstances required me to move over 3 years ago, but as luck would have it, I have been able to get back in.

While it is fun watching the games with friends and family, I find the real value of the office to me is the creative atmosphere. There is something about looking at a baseball field that I find peaceful and stimulating. Late at night, when no one is in the park, going out and looking at the twinkling security lights in the stadium, is truly a field of dreams for me. I have written some of my best material in that stadium, and look forward to seeing if the old juices will return. I look forward to hearing that crack of a wooden bat during early afternoon batting practice, when the stadium is quiet and empty. It simply brings a certain thrill and sense of contentment that is hard to explain.

I will be in New York on Wednesday and will visit with Ron Insana on CNBC on his show which starts at 2 pm EST. I do not know the exact time or the topic, but it is always interesting to be with Ron, as he asks very challenging questions.

The controversy surrounding the market timing of mutual funds has created an uncertain environment for managers who have relied on these vehicles for their active investment strategies. I'm speaking in March 29-30 at MAR's First Annual Conference on Dynamic Asset Allocation in San Diego, which will address a variety of issues confronting the dynamic asset allocation investment community...featured speakers include Oscar Olmedo, California attorney general Bill Lockyer, stats guru Dick Oberuc, and commentator Mark Hulbert. Should be a good show, and the price is VERY reasonable for an MAR event! More information, including the registration form, at: http://www.marhedge.com/conferences/dynamic/dynamic.htm

Finally, I will be in Las Vegas speaking at The Money Show from May 11-13. This is a massive event. They expect over 10,000 attendees, and you can register for free at http://www.moneyshow.com/main/main.asp?site=lvms04i&cid=default&sCode=002868.

They are literally coming to take my computer away, which I guess means it is time to hit the send button.

Your really looking forward to spring analyst,

John Mauldin

P.S. If you like my letters, you'll love reading Over My Shoulder with serious economic analysis from my global network, at a surprisingly affordable price. Click here to learn more.

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