Posts Tagged ‘Wayne Lochore’
Wednesday, June 9th, 2010
I don’t think I can recall a month since I started in the Equity game 41 years ago that contained such a myriad of happenings.
Every day, and certainly every weekend, brought a new near-tumultuous event that by itself changed the Geopolitical/Economic framework. From oil spills, to volcanoes, to US bank legislation, to a massive Euro self-bailout attempt, a 25% sell-off in the Chinese stockmarket, a sharp correction in Global markets and market confidence, a nasty scrap between the Koreas, and finally an attack on a Palestinian aid flotilla by the Israelis.
(And that ignores a few budgets, a new UK coalition government, an Australian minerals super-tax and Simon Cowell leaving American Idol.)
Wow – any of these in isolation would be notable, but together they have changed the landscape vastly, and the consequences of each are only to be speculated about at this stage as suitable solutions are struggling to appear.
It’s all been a bit too much for me I must confess, and given I have been warning about Europe and the dangerous state of the global markets for months I decided to shut up for a while and do some longer and more demanding reading. Because everyone has an opinion on these day-to-day topics, but few have something significantly different to offer.
Thankfully, I discovered a few articles over the weeks that demand to be read carefully, so full are they of comprehension and authority; and together they have provided a distinct sharpening of my own awareness of how things happened and are continuing to happen.
Oil spill: Clearly people everywhere are now understanding just how significant this BP well blow-out really is and how damaging this could be long-term to the US coastline. No attempted solution has worked and Matt Simmons (a well-respected oilman) suggests an even bigger fissure has occurred about 5-7 km away from the present well-head that is releasing an even larger quantity of oil into the Gulf. He is of the view that a small thermo-nuclear device may be needed to shatter the undersea rock and stem the flow.
Whatever does happen here it has certainly raised the cost and danger of undersea drilling and has made BP a dirty word in the US.
Nevertheless, there will be a day to buy BP coming along quite soon I suspect.
Volcanoes: Again, the fear is a second and larger Icelandic volcano is threatening to blow – absolutely nothing that can be done here, but it does show how relatively impotent man is against the awesome power of nature and I guess that’s a worthwhile lesson to absorb.
Europe certainly didn’t need the disruption with everything else going on there.
US banking legislation: I did my best to keep up with the machinations of US law creation (and failed) until I read an extremely provocative and extensively researched piece in Rolling Stone by Matt Tiabbi. It’s called “Wall Street’s War, And Some New Perspectives On The Fed’s Goblin-In-Chief”, and goes in detail through the clause by clause manipulations of the Dodd bill.
Tiabbi suggests there has been as many as 2,000 paid lobbyists working for the banks in Washington during the creation of the bill and his story explains the way it all happens. Truly a mind-blowing article and educational regardless of your political perspective. Just a warning – he does use naughty words from time to time.
Europe’s self-bailout: This process has been going on all year, and it’s very hard to define whether or not any real improvements have been made with the ‘Trillion dollar deal’.
What the markets have said is that they don’t really believe in a bail-out funded largely by countries that themselves would actually prefer to be on the other side of the counter. The only money not coming from the Euro-block itself is coming from the IMF, which is itself funded by countries also under sovereign stress.
As I’ve stated again and again, the global debt question is rapidly getting out of hand and won’t be coming back under control whilst the attempted solutions involve creating more of the toxic stuff. It therefore remains largely about confidence, as once you start to play around with the reality of the economic numbers gloom descends as rapidly as a winter evening. (If one follows the thoughts of Kondratiev that will be because we are in an economic winter, that follows inevitably behind the other economic seasons.) Regardless, we are left with a tangled struggle between various European and other interests that will continue to play out over the coming months, and most likely, years.
Probably the most enlightening read on the European subject was a historical/geopolitical analysis I read from Bruce Anderson from the UK Independent (repeated in the NZ Herald) called “Is the Euro entering its final phase?”
I’ve read an awful lot about Europe in the past few months and this is perhaps the most intelligent precis of the historical situation that I have found. Nevertheless, the Eurozone question isn’t going away for a long time – holding together in the present form looks impossible, but pulling apart will have its own problems, and this article is a ‘keeper’ if it interests you to comprehend the chaos called Europe.
An April posting I printed out from the Market Oracle site authored by Michael Hudson called “Latvia’s Cruel Neoliberal Economic Experiment” is one I want to bring to people’s notice because it is another side of the European debate that is rarely considered.
Latvia makes a good proxy for the area and when read alongside the Bruce Anderson article it totally explains what went on in the fringes of Europe, (and why), following the collapse of the Russian Federation.
Michael Hudson writes very authoritatively on the Eastern Europe question as he was an Economics professor at a major Latvian University for a period, has worked inside Wall Street and is now a research professor at Missouri University. His articles are always enlightening with a strong historical bias and I read everything I can find that he writes. This one is found as follows: http://www.marketoracle.co.uk/Article18606.html
Anyone who reads these two alongside the Tiabbi piece will gain a compelling insight into exactly what is going on in the geopolitical world presently, and see the proof (if they ever needed it) that the situations erupting into the news are all about power and influence and little about the opportunities and rights of global citizens.
Throughout these articles we see the paw-print of the IMF and the way countries are systemically put to the sword once they adopt the IMF austerity measures as they trade their national soul for working liquidity.
Ireland is already well advanced in discovering that the problem with austerity is that it destroys the revenue side of the equation as well as the cost side, and given all the countries being forced to act so are by definition suffering excess debt, then what happens is a rapid downwards spiral into
a country-wide depression scenario.
GDP collapses, cuts are made to education, health and social welfare, policing and other services previously deemed necessary in an equitable society and all available funds are sent off to pay the interest bill with the taxpayers being the fall-guys. This has happened everywhere the IMF unleases its ‘assistance programmes’ and a more clinical economic vulture doesn’t exist.
But mainly I see the same problem I wrote about in regards to markets (where when all parties want to take the same action simultaneously markets fail for a period) – every economic plan I see from governments everywhere has the same growth strategy based on an improvement in export receipts without ever explaining how this is even possible in a world being gradually driven to austerity by the levels of debt. Even China is facing the reality of a stressed global balance sheet and now when competing with a disappearing Euro is finding that their paper-thin margins have become negative.
When from a NZ perspective we look outwards to our former major trading partners there isn’t a single one that looks likely to avoid the global troubles entirely and that our ‘terms of trade’ are as good as they are presently is something to be thankful for.
So I guess I’ll just be happy my forbears first paddled ashore in 1839. I certainly wouldn’t want to be anywhere else.
Thursday, May 20th, 2010
A blog posting today from Zero Hedge sent me to an essay called “The Truth about Tytler” by Loren Collins, (http://www.lorencollins.net/tytler.html), where I found the following:
“A democracy cannot exist as a permanent form of government. It can only exist until the voters discover that they can vote themselves largess from the public treasury. From that moment on, the majority always votes for the candidates promising the most benefits from the public treasury with the result that a democracy always collapses over loose fiscal policy, always followed by a dictatorship and then a Monarchy” (This has often been attributed to Prof. Alexander Fraser Tytler (later Lord Woodhouselee) a Scottish historian from Edinburgh University who lived from 1747 to 1813. Loren Collins details her study of the attribution at the above site.)
“Great nations rise and fall. The people go from bondage to spiritual truth, to great courage, from courage to liberty, from liberty to abundance, from abundance to selfishness, from selfishness to complacency, from complacency to apathy, from apathy to dependence, from dependence back again to bondage.”
(From a speech by Henning Webb Prentis, Jr., President of the Armstrong Cork Company in a speech to National Conference Board on March 18, 1943.)
And further from the Prentis speech where the above is embedded:
“Paradoxically enough, the release of initiative and enterprise made possible by popular self-government ultimately generates disintegrating forces from within. Again and again after freedom has brought opportunity and some degree of plenty, the competent become selfish, luxury-loving and complacent, the incompetent and the unfortunate grow envious and covetous, and all three groups turn aside from the hard road of freedom to worship the Golden Calf of economic security. The historical cycle seems to be: From bondage to spiritual faith; from spiritual faith to courage; from courage to liberty; from liberty to abundance; from abundance to selfishness; from selfishness to apathy; from apathy to dependency; and from dependency back to bondage once more.
At the stage between apathy and dependency, men always turn in fear to economic and political panaceas. New conditions, it is claimed, require new remedies. Under such circumstances, the competent citizen is certainly not a fool if he insists upon using the compass of history when forced to sail uncharted seas. Usually so-called new remedies are not new at all. Compulsory planned economy, for example, was tried by the Chinese some three millenniums ago, and by the Romans in the early centuries of the Christian era. It was applied in Germany, Italy and Russia long before the present war broke out. Yet it is being seriously advocated today as a solution of our economic problems in the United States. Its proponents confidently assert that government can successfully plan and control all major business activity
in the nation, and still not interfere with our political freedom and our hard-won civil and religious liberties. The lessons of history all point in exactly the reverse direction.” - Henning W. Prentis, Industrial Management in a Republic, p. 22
While there is clearly some dispute about who first coined the words above, there is little doubt of their appeal – as Ms. Collins has said: “the authors of each half were most likely not famous persons or respected scholars, but rather just private political thinkers who got their words in print, and whose words then happened to strike a chord in others……..The passage of time merely encouraged quoters to attach an author’s name that strengthened the authority behind the words.”
They have thus been attributed to various historical figures such as Benjamin Disraeli, Arnold Toynbee, Lord Thomas Macaulay, Alexis de Tocqueville, and Ronald Reagan to name a few.
Another fellow had a few words to say on the subject as well:
“Owners of capital will stimulate the working class to buy more and more of expensive goods, houses and technology, pushing them to take more and more expensive credits, until their debt becomes unbearable. The unpaid debt will lead to bankruptcy of banks, which will have to be nationalised, and the State will have to take the road which will eventually lead to communism.” Karl Marx – “Das Kapital”
And from someone contemporary: “The crisis came from debt and you don’t escape it with more debt. We’re in a situation where we had a patient who we discovered had cancer a year and a half ago and all we’ve been giving the patient is painkillers. The tumour is getting worse because we are transforming private debt into public debt and public debt is not manageable.” Nassim Taleb.
And a pithy few from perhaps the greatest of American 20th century essayists H.L. Mencken:
Every decent man is ashamed of the government he lives under.
The men the American public admire most extravagantly are the most daring liars; the men they detest most violently are those who try to tell them the truth.
Under democracy one party always devotes its chief energies to trying to prove that the other party is unfit to rule – and both commonly succeed, and are right.
The whole aim of practical politics is to keep the populace alarmed (and hence clamorous to be led to safety) by menacing it with an endless series of hobgoblins, all of them imaginary.
Oh well, there goes my political career!
Friday, May 14th, 2010
I have to give the ‘headline of the week’ prize to James Howard Kunstler for his extremely clever take on the European bailout – “And Chicks for Free?”
For those of you too young to know it was from a 1985 song by Dire Straits which went “Money for nothing, and chicks for free.” I used to croon along with Mark Knopfler myself – he was as ugly as sin and if he hadn’t been such a good guitarist and singer he wouldn’t have had chicks for free – not in the early part of the evening anyway.
Two weeks ago in a posting (“Think Global – The ‘end game’ shows up!”) I suggested that if we didn’t see a major political response to the pressure being placed on the PIIGS of Europe by CDS traders then we could well see the collapse of the European financial system, and soon. So is €750 Billion of Loan Guarantees and unlimited Quantitative Easing big enough for you? Well it was certainly big enough for the shorts in European equities to get a smacking – in France the CAC rose about 10% on Monday, and there was a serious move up in European Bonds and for about half an hour the Euro as well.
So what have we really seen in this quite stunning development – clearly the EUR has bet the farm, the floodgates are open, and in doing so the Gnomes of Europe have forgotten one of the critical concepts of safe investing – if in trouble, sooner or later you have to stop digging! What this move signals is that if you’re big enough there is no longer any risk to trading Europe – “How much do you want?” Just like the Americans and the Japanese, Europe has signalled that they will create as much money as the banking system demands – as long as your problems are big ones. Moral Hazard is now government policy is all the major economies of the world.
The truth is with this combination of ‘money for nothing’, and tricks for free, (because this is the ultimate form of prostitution), world governments are now clearly going all out to pimp/pump their way to safety. And it seems as if Angela Merkel was encouraged for her part in the affair by President Obama – “Make it a big one” he said. “It certainly worked for us.”
(But did it? – The April fiscal deficit announced yesterday in the US was the highest April in history at $83 Billion (April 2009 $20.9 Billion), and it’s in the details that the real story shows. Tax receipts down 7.9% YoY, Individual Income Tax down 21.5% YoY, and total spending up 14.2%, National defense up 17%, Medicare up 39.4%, Social Security up 4.2% and General Government up 5.6%. Interest payments were some comfort at down 9.5%.
Reading through the blog strings on this I came to something very interesting about the jump in Medicare – “Free to everyone” Obama said, excepting you can’t park the car, you can’t get in the waiting room, and when you finally do the Doctor had just had his income crushed by 80% and has decided to retire. So it looks like health could well be heading the same way as California’s expenditure on schooling per child, where it has gone from No. 1 to No. 48 in less than a decade.)
But most definitely the markets spoke in reply to the Euro bailout and they said very loudly “Get me some Gold.” Quite simply gold has now reached an all-time high in ALL fiat currencies. Such was the demand from panicking Europeans that their mints are running out of both gold and silver, as larger and larger numbers don’t want to hold any more of a fiat currency than is necessary to keep their daily lives running. It is clear that the hope of the various governments is that they will be able to develop and then control inflation as a solution to the debt mountains they create; or have they actually given up and decided to kick the can as far down the road as one kick could manage in the hope it would become someone else’s problem?
One of the main reasons markets have responded with disbelief rather than excitement is the financial strength of the providers of the €750 Billion of Guarantees – look at this chart from the European Commission:
Principally all the guarantors of the massive bailout were in late 2009 themselves living outside the maximums allowable under their guiding Maastricht Treaty, with the paradoxical exception of Spain’s Debt to GDP figure. And things have only got worse since then so it’s not hard for the market to figure that the guarantee is not the end of the matter. (France, which is absent from this chart, has a present estimated Debt to GDP figure of 76.7% and deficit to GDP of about 8.5%)
I’m sure the EUR members truly believe they know what they’re doing, such it their conceit. Somehow they can’t grasp the futility of creating more debt to deal with the problem of too much of the stuff already; they probably don’t realise how they got into this situation in the first place? (In the US the answer is fairly simple – they were convinced by a banking lobby that spends $US1 million per day). Europe however has been the architects of their own fate as they created a shared currency that guaranteed the weak and profligate would drag down the strong – I don’t see the possibility of any other result, as when a member country starts on the slippery slope towards bad economic numbers they are only left with austerity as their solution.
If being naughty places the entire team at risk then there are two choices – bail them out or kick them out. But it seems to me that there is no increased risk for the badly behaved “Club Med” countries in this latest scenario. They may as well be as naughty as they dare, spend as fast as they can, because the worst thing that can happen is that they default and get kicked out of the Euro. As
the cards lie that would be quite a worthwhile result for a country like Greece – spend the money on themselves now, default on the debt and use their own seriously weakened currency to aid climbing out of the hole when it all falls apart. The alternative austerity process must take them close to civil war, and there aren’t too many politicians in the world that would choose that option when they are first in the bailout queue. Because let’s face it, the people they are meant to be paying are the guarantors and their bankers anyway.
p.s. If anyone is interested in reading a précis of Michael (Liar’s Poker) Lewis’s most recent book – The Big Short: Inside the Doomsday Machine – they could do worse than reading a posting from James Quinn on the www.marketoracle site called “The Big Short – How Wall Street Destroyed Main Street”. It’s a fascinating piece that won’t leave you feeling like a big meal immediately afterwards.
Monday, May 10th, 2010
Every week seems to bring far more action than the week before – in fact last week it was every day brings far more action than the week before! Thursday the 6th of May in the US markets was a case in point, where there was sufficient action in the half hour around 2.30pm to 3pm to effectively bring down the US equity markets.
Initially it was suggested the ‘flash crash’ resulted from the ‘fat finger’ problem of putting a ‘b’ where an ‘m’ should be, with a sell order of a billion ‘somethings’ when the order should have been for only a million. (This never seemed likely to me, although I have witnessed this once in the late 80’s where a keyboard operator sold 8760 Bond Futures @ 1 when they should have sold 1 @ 8760, and that really caused a rapid-fire market collapse.) On both occasions the craziest of the trades were cancelled, but many were not. Thursday showed conclusively that the market platforms can’t handle the speed of the computer firepower when the stops go off in such an unbalanced market.
I think we’re going to find that the Dow fell so precipitously not because of any human error but as a result of something I pointed out a couple of weeks ago – it’s easy to fill the majority of orders when the markets are balanced and steady, and impossible when everyone is on the same side of the trade. I’ve read all I can on this over the weekend because clearly such a massive dislocation in the largest equity market on the planet is an extremely worrying situation.
However it’s also necessary to understand what was actually happening as at least four significant external events were occurring simultaneously forcing many exposed traders to act – the live rioting in Greece was emptying the buy side of the market; the Senate debate on the Kaufman-Brown amendment to break up the big US banks was in full flow (later defeated by 33 – 61 votes); the British were getting ready to hang Parliament; and the unwinding of Yen/Euro ‘carry-trade’ contracts helped to spike the Yen. Any one of those events could have impacted a market already down by 3-4% whereas all four together would shake every trader in the market.
When I read criticism of HFT trading it generally comes from traders ‘stepped over’ by the algorithms by tiny margins so they can’t get their orders filled – for example their bid at 20.15 is overstepped by a HFT bid at 20.16 etc. and with a large number of competing HFT’s trading the same way we often see a ‘cascading’ advance or fall on almost zero volume. Such a low-volume ‘melt-up’ has been has been happening most afternoons for over a year in the Dow, as pointed out by sites such as Zero Hedge. One of the secondary impacts of this is of course is to reduce the real liquidity in the market, and when the HFT programs were turned off as it appears many were on Thursday this leaves the market short of liquidity and thus vulnerable to a near instantaneous collapse.
This almost certainly happened on Thursday – the antiquated NYSE system which handles around 25% of the market simply couldn’t keep up to the sell volume in a market already down by around 400 points and the NYSE ‘specialists’ took a 90 second halt to ascertain suitable clearing price levels. Computers then automatically re-routed trading onto electronic exchanges where the over-offering became so competitive it took out all the bids in a violent collapse in nearly 300 stocks. In other words the 30 or so electronic platforms didn’t have the buy volume to cope with the selling rush. In many cases the showing bid became zero, (which presumably couldn’t be filled); the HFT algorithms over-stepped by .01 cent, and the selling computer filled them. For instance Accenture traded $42 at about 14:40. A few minutes later it traded $32. Seven seconds later it traded .01.
Not all stocks totally emptied out but where they did this is the scenario. How far they sold down depended on the buy-side loadings and on NASDAQ anyway only the trades with a fall of greater than 60% were cancelled. How about that as a way of destroying confidence in a market place? Imagine taking a 50% loss in 7 seconds in a major stock where generally a 1-2% intraday move would be notable.
This was all summed up by Robert Reich, Former Secretary of Labor, and now Professor at Berkeley:
“Regardless of why it happened, it’s further evidence that the nation’s and the world’s capital markets have become a vast out-of-control casino in which fortunes can be made or lost
in an instant — which would be fine except for the fact that most of us have put our life savings there. Pension funds, mutual funds, school endowments — the value of all of this depends on a mechanism that can lose a trillion dollars in minutes without anyone having a clear idea why.”
Europe: As I predicted in recent posts the level of violence in Europe is now ramping up, particularly in Greece and I see no easy end to this – the growing ‘cascade’ of global debt cannot be reversed and represents a far more certain danger for the survival of the global financial system.
Try this one from Simon Johnson, the ex chief economist of the IMF: “the continental European banks are a model of ….. ineptness, blind herding, and in transition from being “too big to fail” to “so big that even when you save them, you get an economic catastrophe”?
This is precisely what I have been saying for months. A friend correctly reminded me that blaming the CDS’s traders for harming the European bond markets in my last post was missing the point. Clearly if the levels of bank and sovereign debt were digestible then the CDS traders would have no targets to hit. I was really responding to the thought of all the innocent lives being harmed by the actions in the debt markets that the average soul is neither aware of, nor would understand. My two year old granddaughter doesn’t understand any of this but it won’t stop her having to pay for it!
It’s interesting to note that the Greek problem didn’t just arise in the last month; it has been in the headlights now for all of 2010 after growing for years and we still don’t have a EUR decision that lasts a week. The situation only gets worse and the numbers grow with each passing weekend, so it’s no surprise to read Sunday that the EUR is now contemplating a €600 Billion ‘bailout fund’ to help the 1000 odd European banks that are under stress. This is apparently just for banks that have a need for ‘fast cash’, and the US Fed is also rumoured to be re-opening swap-lines to help them out. This sounds very much like ‘bank-run’ protection to me.
€600 Billion sounds an awfully large amount of money until you understand the size of the problem – in my weekend meanderings I’ve re-discovered a report from Feb 2009 the headline of which says: “European banks may need massive bail-out.
European banks sitting on £16.3 trillion of toxic assets may suffer massive losses, according to a confidential Brussels document”.
This article had disappeared into the ether and while I had the figure tucked away in the corner of my brain I never saw anything about it mentioned again. And note this is the size of bank ‘toxic assets’ – the present sovereign blow-outs are not even included. Whatever is the truth the sum required is going to be enormous, and is likely to only provide short-term respite because the debt lumps are only digestible in the long term, if at all.
Two other thoughts – with regards to the US$ and Treasuries – why do people run into a burning building at the first sign of smoke? And a headline from Zero Hedge this morning – “Civil and Criminal Probes Launched against JP Morgan for Silver Market Manipulation”. Wow – two of the ‘really big boys’ in trouble with the authorities in two weeks – Hmmm, as suggested in an earlier post, this is certainly blame-shifting time, but maybe it’s also down-sizing time as well.
But the last word should come from someone who has been there: “The last duty of a central banker is to tell the public the truth.” – Alan Blinder, former Vice Chairman of the Federal Reserve.
No mention of what the first duty is, but I’d be surprised to find it’s anything to do with the taxpayer. No wonder the authorities consider those searching for the truth to be subversive. Blinder eh – what an appropriate name!
Thursday, April 29th, 2010
As I have watched the contagion aspect of the European debt pickle develop it has become obvious that the Euro-bloc debt markets are effectively in a state of war. Goldman Sachs (and others) have now called on its clients to short the struggling fringe countries of Europe through the use of CDS’s, or Credit Default Swaps.
The recent surge in CDS’s forced the situation in Greece, pushing the gap between the Bund and Greek bonds over 600 basis points and preventing Greece from being able to borrow from either the market or banks, ensuring they needed to call upon the IMF and the Euro-bloc for a €45 Billion bailout. (Clearly the action from Tuesday 27th April following a rating downgrade to “junk” from the S&P rating agency and a move out to 17% in yields in the 2 yr Greek bond kills any immediate chance of a bailout too – so we are maybe now looking at a haircut for all Greek creditors, which basically means the European banks.)
From Zero Hedge over the weekend we had the following: “Earlier we pointed out the surge in CDS on a variety of PIIGS banks, mostly in Portugal and Spain. Now we know why: Goldman’s Charles Himmelberg has just reiterated his call for Long CDS on local banks in Portugal, Spain and Italy, hedged by selling Main (iTraxx) protection. It is our view that as accounts plough into this trade and as bank spreads blow out, it will only accelerate the funding complexities, the bank runs and the inevitable collapse of the financial systems in all of the other impaired peripheral countries, ultimately leading to the collapse of the EMU. Will Goldman be accused next of destroying Europe? Stay tuned.”
And from Citibank we have the following – “Our current thinking is that any risk of debt restructuring in Greece is not an immediate prospect as, from a pan European perspective, such an event would merely transfer the problem to other countries with significant exposure to the defaulting country and could prove catastrophic from both a growth and stability perspective. It is therefore in the interests of all euro bloc members to avert such a course of events at all reasonable costs.”
So here we are –
War has effectively been declared between Bernanke’s Investment banks and the governments of Europe – surely we are not going to see cynical punts from the US banking giants take down the entire European financial system? (Remember this is say 30% of the global system, and in a fractional banking world it means curtains for everyone.)
From what I’ve been reading, if there is not a major political response (and quickly) then this is exactly what will happen. Basically as I have been pointing out repeatedly over the past month or two you cannot attack the weakest of the Euro-bloc countries without indirectly harming the viability of ALL European countries, because of the exposure of the European banking system to fringe Europe. And by fringe Europe I am not just talking about the “Club Med’ countries, because there are further substantial exposures to the likes of Latvia, Lithuania etc. that are in serious trouble as well.
How ironic that a group of US Investment banking giants, hauled back from beyond the brink by massive US taxpayer contributions, are now going on a goose hunt such that if allowed to succeed they will almost certainly bring down the global financial system – as if these precise operations have not caused enough chaos in the world, they are now showing just how powerful their ‘fancy financials’ really are. This was always going to be the case as the lack of regulation allowed their market size to grow to 10-20 times the size of the global cash economy – how could it end in any other way?
In other words we have a global cash economy of approx $US58 Trillion and an opaque OTC derivatives market of anywhere between $US600 Trillion to twice that depending on who you believe – and as last week’s debt markets proved, still growing, still out there and very, very dangerous.
It is becoming increasingly clear as the facts emerge that Goldman anyway has been playing fast and loose with its OTC derivatives, and for instance in the very CDO that is now subject to the fraud claim this was found on page 55/6 of the document – “Goldman Sachs neither represents nor provides any assurances that the actual Reference Portfolio on the Closing Date or any future date will have the same characteristics as represented above.”
So here we have a major Investment bank making it very obvious that at any time they could retrospectively alter the Reference Portfolio of the transaction, which presumably wouldn’t be in the interests of the buyer – surely only a fool would stump up good money to buy such a security, but many did – from banks to states to countries they all fell for the sophistication of what was presented to them. So who exactly was Goldman working for in all of these transactions, and the answer is very clear – themselves of course – who would have been so silly as to assume otherwise!
Don’t think because I have pointed out the action occurring in Europe that this is not happening elsewhere – the exact same CDS vulnerabilty exists with the various States of the USA, because clearly they too are unable to fund their budget shortfalls in the current market. This becomes a one-way bet, particularly when it comes from an OTC market so vast and opaque that it leaves the struggling states, banks and countries defenseless.
Close down the OTC market down before it closes down the lives of the entire planet! Tip over the trough before it’s too late. These guys won’t stop slurping until they’re stopped.
That’s what I’d really like to say, but the reality is so different that any chance of settling the OTC question without fatal disruption to the global financial system has long past – and this is precisely because the 6 largest Wall Street banks now control 60% of United States GDP, and the Americans are not going to close these guys down as they represent their only chance of winning the ‘financial wars’.
But as put most succinctly in the weekend’s Washington’s Blog: “Ironically, the proliferation of interest rate derivatives has created the very conditions that they had been designed to protect against – volatility and instability in the underlying credit market, as well as acute vulnerability to the real economy”.
So folks we have finally got there – to the ‘killing of the golden goose’ scene; and all because politicians didn’t have the guts to stand up to the banks in the first place. On the contrary providing ‘zero-cost’ funding and ‘too big to fail’ status to the major financial players guarantees that they in turn will pick off the exposed sovereign economies one by one.
Now I might be fairly strange, but I find that bloody crazy!!
Monday, April 26th, 2010
The most outstanding aspect of the past two weeks is just how different the world looks from the previous two weeks – never in my 40 years involved with the financial markets have I seen such momentous changes everywhere across the globe, and with the equity markets taking it all with such apparent calm.
They are failing to comprehend the essence of markets that will prevent all but a few to reach safety when the time comes to do so. Markets and valuations look great until you wish to take the same action as everybody else at exactly the same time, and then they cease to exist for a period.
Sooner or later as these equity markets ratchet up on the back of a manipulated Wall Street, we’re going to hit some news that is going to place everyone on the same side of the trade, and then we’ll see who’s swimming without togs! It’s called the “get me out” trade, and only the early ones get away with it. The rest take the lift, downwards!
Some time ago I wrote about what I observed when Japan’s equity market was ‘melting up’ in the late afternoon, every afternoon, back in the late 80’s and that it was very obviously a concerted effort to manipulate their market, that finally ended badly. Quite clearly the same thing has been happening to the US equity markets, particularly the Dow Jones, and a strategy to buy the market at 3pm and sell on the close at 4pm would be profitable on the vast majority of days. The effort to influence the market is being concentrated on the Dow because it is both the easiest to influence and the market the average person follows. There are some who think we are heading for a sharp ‘jag’ upwards in the equity markets, and the longer the markets advance without a correction, the likelier this becomes. Nevertheless it’s dangerous times out there.
In fact of course there may be no safe places to park money (as we’ve formerly understood it), as both the sovereign and banking needs of the global system suggest neither is presently viable without massive misrepresentation. In fact this word ‘misrepresentation’ is maybe the key political development of this millennium so far, and with it the effective destruction of democracy as most people would have recognised as little as 20 years ago. “Spin” is in – we used to call it bullshite!
Across the world the past two years have seen the most extravagant concentration of wealth in history, and the level of fraud and misrepresentation that has allowed this to happen is without precedent. I can’t believe that this will remain unchallenged for much longer, and it’s clear the politicians are recognising that the tone has changed, even if the equity markets suggest all is well.
If one glances away from the financial pages and reads what’s developing elsewhere then it is obvious the social temperature is rising sharply; anger is on the rise. I expect Europe to erupt shortly into a contagious scrap lead by those who see themselves as political game-changers allied to an increasingly disgruntled public. Or as Andrew Marshall put it last week – “Due to the massive debt levels of western nations taken on to save the banks from the crisis they caused, the people must now pay through a reduction of their standards of living. Naturally, social unrest would follow.” And this time from the head of the IMF “Violent protests could break out in countries worldwide if the financial system is not restructured to benefit everyone rather than a small elite” – (a strange comment to come from a representative of an organisation that has traditionally benefited precisely that ‘small elite’!)
The same development is evident in the US with the ‘tea parties’ leading the news there, and who in rapid time have become a swinging voter bloc with as much as 25% of the vote. They will certainly impact all coming US elections. Although the greater danger is surely the rate at which Americans are arming themselves, as they are free to do, which I think gives the US situation a special edge.
The Greek clamour for money was pushed off the front pages for a couple of days but it appears likely that the ‘bailout’ mechanism will be used this week with a combination of IMF and Euro-bloc support for as much as €45 billion. This won’t be provided without additional austerity proposals, and it will be interesting to see how these are responded to by the Greek people, who are already quite unhappy by the changes to date.
But regardless of the present Greek situation the fact remains that the foreign exposures of German banks (particularly the Landesbanken sector) and those of France and the UK themselves represent a major drag on European recovery, and a recent chart from the Bank of International Settlements shows just how significant this is:
So unless something very dramatic has happened recently this chart suggests a combined exposure to foreign claims by the banks of the ‘big 3 of Europe’ in excess of $US10 Trillion, a figure far greater than their respective sovereign exposures.
My recent quip about the “unspeakable in full pursuit of the inedible” came true pretty fast with the SEC fraud claim against Goldman Sachs, alias the ‘Squid”; and we’re going to see more sacks of money and black ink before this one solves. Of course the SEC claim was likely timed to assist the passage of a Democrat sponsored bill regarding financial reforms, so clearly it has become important for Obama to be seen to hunt down the greedy bankers.
Depending on how this phase goes this may also ultimately lead to a systematic break-up of the ‘too big to fail’ banks as their existence is a clear threat to global financial viability. There are politicians out there pushing this viewpoint strongly, so we’ll see who wins this first round; regardless, the political vultures are circling.
The buyer of the securities involved in the Goldman fraud charge was apparently German IKB Bank, who were known as buyers of anything Goldman’s pitched their way; nevertheless Germany along with the UK and France are all mulling over a ‘blame Goldman’ lawsuit themselves.
This is the first attack on CDO’s or any complex derivative – in other words an attack on an OTC derivative of which there are over $US800 Trillion out there somewhere. This left me wondering whether this is maybe the pathway for the global political attack on the bloated Investment banks. Financially literate lawyers may be in for a big season in the period to come as many of the losers from the individual complex deals are now preparing litigation to recover their losses.
From Jim Sinclair’s site, (and Jim has been hammering on about this for years), we have the following comment:
“Without unregulated derivatives, we would not have had the financial meltdown, mortgage giants Fannie Mae and Freddie Mac would not have failed, and we would not have problems with Greek debt and other sovereign debt. How can this $600 trillion dollar market be unwound? So far, taxpayers and investors around the world have been picking up the tab. Now it
may be Wall Street’s turn to pony up some dough. Don’t be surprised if some of them get taken down by their own toxic financial waste.”
But let’s look at some of the various claims of fraud or inappropriate behaviour that have surfaced in the past fortnight, because it’s not only Goldman Sachs who has been on the end of such a charge:
Steelmakers are fighting back over attempts by the $200 billion iron ore mining industry to raise the cost of their main raw material, calling for regulators to investigate an “oligopoly” that inflates prices. Mining of iron ore, essential for making steel, is dominated by Vale SA, Rio Tinto Group and BHP Billiton Ltd., which control about two-thirds of the trade.
Ireland – As the dust settles, it is clear that most of the damage is this crisis – reputational and financial- has been done by just one institution, Anglo Irish Bank. Anglo was taken into full public ownership in early 2009, following the revelation of a number of questionable transactions the previous year. Meeting the bank’s net liabilities, in accordance with the guarantee of September 2008, has already cost the Irish government more than €12 Billion and is likely to cost about €10 billion more.
Matt Taibbi writes another devastating piece about “How the nation’s biggest banks are ripping off American cities with the same predatory deals that brought down Greece.” This in a story called “Wall Street Banks Looting Main Street” which I found on the Market Oracle site but was originally published in Rolling Stone.
Confirmation from a high place of something I’ve been saying since I began this series – “The scope and magnitude of the bank rescue packages also meant that significant risks had been transferred onto government balance sheets.” And this comment comes from the Bank of International Settlements!
And maybe the longest rumoured fraud that has erupted from the London Gold market where it seems the shortfall in the physical gold has finally been outed, along with evidence confirming a long-running manipulation of prices. This from a story by Nathan Lewis: “The whistle-blower in this biggest gold fraud was Andrew Maguire, an experienced precious metal trader in London. In a riveting interview (which is available on the internet all over the world) with GATA director, Adrian Douglas, Maguire describes a new dynamic impacting gold. The fact is there is a huge short position in the market. (Apparently Maguire was struck by a hit and run driver following his initial statements, although he survived with minor injuries.)
So these are just a few of the signs that pressure is coming on everywhere, as scams are uncovered across the globe, and as banks and governments compete seriously for funds. Long after I should have I’ve discovered Peter Warburton, who wrote about the impending financial crisis in a book as early as 1999, and an excerpt I saw of some recent writing suggests he hasn’t lost his touch in making his viewpoint very clear:
“When the global economy collapsed in 2008, governments rescued the banks, the very ones responsible for the collapse. This is because without the banks’ debt-based paper money, governments could not spend the vast amounts they do not really have.
Politicians seek power and bankers seek profit and their collusion is responsible for the present crisis. Do not be surprised at the current state of affairs, the motives of the participants are clear and so are the consequences.
These are exceptional times and while we are helpless to prevent what is about to happen, so, too, are bankers and politicians. They have brought this state of affairs upon themselves and for this we should be grateful—for without their demise we would be enslaved forever.”
So what an intriguing last sentence – I’m going to find out what I can about this guy. (Peter Warburton’s 1999 “Debt & Delusion” is now apparently available at amazon.com reissued by WorldMetaview Press)
But in the midst of all of this I’ll leave it to Confucius to have the last word: “In a country well governed, poverty is something to be ashamed of. In a country badly governed, wealth is something to be ashamed of.” Now that really is the long view, and a view that is quite quickly coming into sharp focus right across the globe.
Tuesday, April 6th, 2010
Once again I’ll head to where I think the most trouble is brewing, and for a while this has to be Europe. This is not to suggest events bubbling away elsewhere are not important – they are – but it’s where the markets are focused that the greatest danger lies, because as I’ve suggested before ‘market confidence’ is the key to how long this debt waltz lasts, and it’s Europe who are on the front burner at the moment.
So did we see a solution to the ‘Greek problem’, or did we see a massive side-step that showed up the real fragility of the Eurozone? I think it was the second because it seems no-one has put their hand in their pocket at all; they all just pulled out their ‘hymn sheet’, sung a few bars together and claimed solidarity in facing up to Greece’s needs when they turn up. Well guess what, they have turned up – they are here and they are increasingly now! Greece have €20 Billion to roll in April and May, so in my view Europe didn’t fall at the first hurdle, they ran around the end of it! (That the subsequent 2nd auction was messed up and caused an immediate loss to the buyers of the 1st hasn’t helped).
While Greece at 2.5% of the Eurozone is only a tiny part of the European equation the size of their borrowings at estimated $US304 billion are far in advance of any sovereign failure in history. Therefore their potential default is a serious problem that is prizing open the cracks in European solidarity to allow the self-interest to show through. Furthermore the focus is bringing to light all the doubtful machinations that many fringe countries went through in order to qualify for Eurozone membership in the first place. Swaps can hide anything for a period, as we continue to find out, because they sit there like time bombs for later consumption.
Two long and recent pieces by Reggie Middleton have coloured in my understanding of the depth of European woes considerably. I had long suspected the size of the undigested debt lump that Europe faced would be dangerous but it’s probably worse than I thought.
Largely this is due to the impact of the ‘one currency for all’ approach that the Euro itself represents. This might work for Germany, (and clearly has comparatively), because they are less impacted by a strong Euro – their exports are more price secure and have allowed Germany to be one of 3 global majors with a positive Current Account balance. But for the Mediterranean countries a strong Euro has been a disaster – they depend on tourism and food exports and smaller manufacturing and compete with all others in the globalized world, but without a depreciating currency to make them cheap to the world.
So less profits, more borrowing, (if you want to maintain your standard of living; and people everywhere are guilty of that!) And guess what – being a part of Europe provided debt much more cheaply than could be gained alone, so lets have heaps of that, “because as you know everything always goes up anyway”. And that’s the story for most of southern Europe, borrowed to the eyeballs cheaply, and here’s the real kicker – now exposed to the major European banks.
So what have we here? – The members of the Euro block showing sovereign debt stress and vulnerability to funding pressures themselves AND each country’s major banks vastly exposed to ‘fringe Europe’ on their own behalf.
I’ve never thought it possible to unite former historical enemies around a set of rules and a common currency – it just seemed insufficient as a basis for the unity of Europe, where let’s face it, Wars have the habit of breaking out. In fact Europe has generally been at war for most of history; it wasn’t just something invented in the 20th century – and what comes from that is exactly what you would expect – by and large they hate each other (non p.c. I know) – they can’t even watch a football game without being separated throughout. It’s not the basis for a lasting treaty; a plan which imposes a set of rules from somewhere most citizens will never visit – that in their eyes prevents them from competing with other richer neighbours for a decent crust. Oh yeah, that’s a great idea, should last for ages.
Interestingly the analysts from Stratfor have a similar view and said this, “STRATFOR has always doubted the euro would last. Having the same currency and monetary policy for rich, technocratic, capital-intensive economies like Germany as for poor, agrarian/manufacturing economies like Spain always seemed like asking for problems. Countries like Germany tend to favor high interest rates to attract investment capital. They don’t mind a strong currency, since what they produce is so high up on the value-added scale that they can compete regardless. Countries like Spain, however, need a cheap currency, since there isn’t anything particularly value-added about most of their exports. These states must find a way to be price competitive. Their ability to grow largely depends upon getting access to cheap credit they can
direct to places the market might not appreciate.”
Stratfor’s analysis suggests that the impact of the Euro shows an average 25% improvement in German efficiency when compared to the ‘Club Med’ countries since 2000, and that larger dollops of cheaper credit has only worsened this as the decade went on. The four southern countries – Greece, Portugal, Spain and Italy are all flirting with the prospect of default. As Stratfor suggest the implications of this cannot be overstated. If, (as appears to have happened), the Euro has gutted Europe, and particularly the ‘Club Med’ countries, and then Germany starts to get a little forceful, (as also appears to be happening) then I suspect we’re in for a bouncy few months out of Europe.
It is clear from the German response to Greece that they are beginning to recognise their own voice, and they have the deep one in the back row with the big pockets to match. Germany has basically gained the position in Europe by the means of financial power that they so long sought using more overt aggression. Now their major message to the less powerful is restraint and austerity – they’re definitely in the “Austrian Economic team” rather than the Keynesian colours and just how long that remains palatable to the unemployed of Europe we will see. I’d be surprised to see a peaceful European summer. (Moody’s the rating service (sic) is also concerned about the contagious potential of Europe under austerity).
So what are the ‘Euro-zoned’ all squabbling about? – Reggie Middleton puts it like this – “Most European sovereign nations are considerably “overbanked”. The levered assets of the banks in many Euro-sovereign nations easily outstrip those nations’ GDP. So when the nations’ banks get in trouble from bad banking practices (and a very large swath have), the nations themselves not only are helpless in attempting to truly save the banks……., but are put at risk themselves, for the bank is more of a sovereign entity than the country is – at least from the perspective of economic footprint.”
So here we have it – Europe’s problem in a paragraph – large swaths of Europe are not only threatened by the momentum of sovereign debt but by the far larger impact of loose lending practices by their bankers. But don’t be thinking this is Europe’s problem alone, because it describes the situation in the US just as well, (and New Zealand too if we want to get honest). Banks everywhere have untold billions of losses still sitting on and off balance sheet that have been sheltered by changes in Accounting rules. Shifting them on to the sovereign balance sheet and therefore the direct cost of the public purse doesn’t make them any less toxic. One day they will turn up, they always do.
Britain – (formerly Great Britain):
From a fiscal deficit of £6 Billion in 1997 to £167 Billion in 2010 is the measure of Britain’s progress in the first decade of the new millennium. This is an improvement over an earlier estimate £178 Billion made in gloomier times, but whatever is the truth here with an election in the wings. It was only 3 years ago according to the Economist that the UK was the strongest economy in Europe. So what was the basis of recording these things 3 years ago such that the apparently strongest economy is now ranked down near Greece? Surely this suggests some new numbers need to be collected.
It does show just how much things have changed since late 2007 – with over one half of the British banking system and 52% of GDP now ordered up by the Government it has needed every assistance that a 25% drop in the ‘trade-weighted’ Pound brings.
Marshall Auerback in a recent post explained how the UK “foolishly leveraged its growth strategy to the growth in financial services and is now paying the price for that misconceived policy, as the industry inevitably contracts and restructures as a percentage of GDP”. (NB. Our government on the other hand is proposing an entry to the exact same industry but concentrating on the back office work. NZ’s version of the call centre.)
Auerback also elucidates the concept that warms the hearts of Keynesians everywhere, that certainly drives the QE mechanisms in both the UK and US – “In a country with a currency that is not convertible upon demand into anything other than itself (no gold “backing”, no fixed exchange rate), the government can never run out of money to spend, nor does it need to acquire money from the private sector in order to spend. This does not mean the government doesn’t face the risk of inflation, currency depreciation, or capital flight as a result of shifting private sector portfolio preferences. But the budget constraint on the government, the monopoly supplier of currency, is different than what most have been taught from classical economics, which is largely predicated on the notion of a now non-existent gold standard”
And herein lies the UK’s difference with Europe and the Euro; they have their own sovereign currency. Undoubtedly having this also provides the mechanism for gross abuse in its ability to fashion money out of air, but I can’t imagine too many European nations who wouldn’t like these same opportunities.
All this of course is viewed wherever possible in the absence of interest rate rises, but Mr. Market doesn’t play that game – he wants a return that will compensate him for the risks about to be taken, and increasingly there appears investor reluctance, particularly at the longer end. The funding congestion that everyone can see building in 2011/12 doesn’t encourage anyone to lend long, and it shows.
We’ve seen opaque, but clearly failed, auctions in US Treasuries, and warnings of pressure building elsewhere, so it’s interesting to see what the US administration popped through the other day:
Called the $17.5 billion Hiring Incentives to Restore Employment Act (H.R. 2487), and named by the Zero Hedge site as the ‘Capital Control’s Act’ it has the following embedded in some crucial clauses:
Foreign banks not only withhold 30% of all outgoing capital flows (likely remitting the collection promptly back to the US Treasury) but also disclose the full details of non-exempt account-holders to the US and the IRS.
And should this provision be deemed illegal by a given foreign nation’s domestic laws (think Switzerland), well the foreign financial institution is required to close the account.
I wonder just what was embedded in the 2400 page Health Bill?
Thursday, March 11th, 2010
Things are moving so fast in the markets and global economies that most writers I follow are complaining of the same thing – there is so much of value being written that it is near impossible to keep up. When top writers such as John Mauldin and George Friedman complain of the volume of their reading you realise that everybody has the same problem.
Add to that the speed of change within the strategies of individual governments and you have the situation where very important changes can occur and be totally missed, and so I thought I’d do my best to elaborate on really significant things I read over the two months that are sure to have some impact in the months and years to come.
USA – the most significant thing I saw was the move on Christmas Eve by the Federal Reserve and Treasury together (and not Congress who should have decreed such a move) to open the flood gates in their unlimited support of the GSE’s Fannie Mae and Freddie Mac over the next three years. John Hussman has written 2 essays on the topic, calling it a fiscal ‘Coup d’etat’. “In short the Fed is now engaging in unlegislated, back-door fiscal policy”. And “If Congress does not forcefully defend [it’s legislative] prerogative it will have relinquished the power of fiscal policymaking into the hands of unelected bureaucrats”.
It seems to me that this is the move that allows Bernanke to claim the ‘stimulus’ actions including “Quantitative Easing” have been successfully ended, which is clearly a nonsense, to add to all the other nonsense flowing from the man. What is more to the truth as pointed out by Bloomberg is that the US authorities have increased debt by close to $US10 Trillion in all without delivering a sustainable lift in the economy apart from during each stimulus action as it occurs. Once the action ceases so does the supporting evidence of change. The simple truth is the banks are not lending and the people are not spending, so any stimulus action that has taken place is just being hoarded to no-one’s benefit but the financial elite. Or to put it another way ‘the brain is being flooded by its drug of choice (near-free money) but the body of America is slowly dying of starvation.’
A further change occurred in late January when the Supreme Court ruled that corporations can run political adverts during an election campaign – and in so doing in one move guaranteed that corporations can bully or intimidate politicians at will. This is surely the end of any semblance of a democracy responsive to the average American. As the UK Independent said in an article describing the above, Senator Dick Durbin says “The banks own the senate” ……..and the fossil fuel industry owns Congress. So what’s really changed? – In practical terms, nothing.
Now hold on, wasn’t it in the name of spreading democracy that the US went to war in Iraq?
Probably the most fascinating piece of research was the study by Robert J Barro that analysed the multiplier effects of both stimulus payments and taxation, and the results have implications that are quite stunning – The money multiplier in USA has apparently fallen to below 1 – it is now NEGATIVE and furthermore the multiplier effect of taxation may be as high as three according to Barro.
So this suggests money taken in taxation and then spent by government in current conditions has a negative impact of greater than three times the size of the meddling. Now isn’t that a vote for smaller government. It tells us that rather than directing stimulus activity governments would do a better job just to reduce the size of government, reduce taxation and leave the solutions to the people – now who didn’t already know that!
Nevertheless given the money multiplier in the late 1980’s was three the drop to below one is quite an alarming change.
China. Following on from my recent China blog I discovered a far less glowing comment from a leading Chinese economist Yu Yonding reported in the blog of Michael Pettis – he was particularly scathing about the stimulus and had this to say – “When a country has an investment rate over 50 per cent [of] GDP and rising, you say this country is not suffering from overcapacity! … are you serious? ”To judge whether there is overcapacity you cannot just do a head account. With a 1.3 billion population and human greed, China’s needs are unlimited, you can say that China will never suffer from overcapacity!”
He believes China is trapped in a cycle where constantly rising growth in investment is constantly increasing China’s supply, but consumption has conspicuously failed to grow fast enough to absorb it. And so China is forced to increase investment in order to provide enough demand to absorb the previous round of increased supply, thus creating ever-widening cycles of oversupply.
In this manner, the investment share of gross domestic product has increased from a quarter of GDP in 2001 to at least half. “There is sort of a chase – demand chasing supply and then more demand is needed to chase more supply,” he says. “This is of course an unsustainable process.”
“From 2005 China’s overcapacity problem had been “concealed” by ever-increasing net exports – but that strategy was interrupted by the financial crisis. Then came last year’s globally unprecedented stimulus-investment binge, which might not have been so worrying if it were delivering things that people needed. But the Government’s hand in resource allocation has grown heavier since the crisis without reforms to make officials more responsible for what they spend.
“As a result of the institutional arrangements in China, local governments have an insatiable appetite for grandiose investment projects and sub-optimal allocation of resources,” as Yu previously said, in his Richard Snape lecture for the Productivity Commission in November.
So there are now airports without towns, highways and high-speed railways running parallel, and towns where peasants are building houses for no reason other than to tear them down again because they know that will earn them more compensation when the local government inevitably appropriates their land”.
So this certainly adjusts my thinking somewhat as does the very obvious fact that there is a raging debate going on inside China, and not the consensus that most Westerners assume. There is definite concern expressed by many Chinese commentators that the level of stimulus and particularly bank credit growth is particularly dangerous coming on top of the historically high growth trend.
A further fascinating analysis from the Pettis blog comments on the fact that it a misconception to assume that because China has accumulated near $US3 Trillion of reserves it is therefore unassailable. It pointed out that twice in history reserves have been accumulated to this magnitude (USA in the late 1920’s and Japan in the 1980’s), and that clearly having reserves of 5-6% of global GDP is no guarantee of only good things to come! In both cases referred to their stock market lost more than 80% of its value during the next decade.
Greece The following email was sent to and reported by John Mauldin and is very interesting.
“I am an avid reader and I just wanted to correct you about a comment in one of your articles, “The Pain in Spain”, specifically: ‘Somehow they forgot about the German government paying 115 million deutschmarks in 1960 — not a small sum back then.’
“This repayment of 1960 is undeniable. But the total amount owed was $10 billion ($3.5 billion for the return of the gold stolen and the repayment of the war loans Greece was forced into giving Germany, and $7 billion in war reparations awarded to Greece in 1946). As the DM/$ parity was then four for one, this means they gave Greece $29 million out of the $10 billion owed.
Germany also proclaims that they have given Greece over the years, in one form or another, €16.5 billion. But the fact of the matter is that despite these alleged payments, the issue of the war loans and gold is still not settled. Greece has never stopped asking for the money to be paid back … it is estimated that this sum owed now totals $70 billion [I assume the Greeks want interest – JM]. So even taking into account the €16.5 billion, more than $50 billion is still owed.
Helmut Kohl refused to even discuss the repayment, presenting as an excuse that this amount was owed by the whole of Germany and until Germany is unified the issue could not be discussed. Guess what, Germany is unified….”
Now how much of that is true? – It’s a new one on me, but certainly both sides of the political divide in Greece have joined forces to claim the Germans still owe substantial wartime reparations, so maybe the story is a bit more complicated than we know.
It seems to me that without the help of the major countries at the centre of Europe (Germany and France, or the IMF) the Greece story is going to be very tricky. Because while Greece only represents 2.5% of Europe the rest of the PIIGS constitute a very significant proportion of the Euro block, and what happens in Greece will be looked at very hard by others such as Spain with her current 20% unemployment for example resulting from a significant austerity programme. The problem of ‘moral hazard’ rears up again, and will be much harder to ignore when the problem is cross-border, and borders that have been crossed militarily over time.
The key deadline for Greece is March 15/16, and so the next week will be interesting here – I don’t personally expect the Euro-block to fall at the first hurdle, but they have many and higher hurdles to come yet as the combination of sovereign and banking exposures collide in a tight funding market.
(A further thought of course comes from the impact that the Greek problem has had on the Euro, and clearly a move from $US1.50 to $US1.35 as has happened over the past month is a bit of a ‘godsend’ to European exporters, with the major moaners a month or two ago being France and Germany. So not all bad, huh!)
However one of the most fascinating things I’ve noticed about the Euro block is not one member country is operating under the 3% deficit required by the Maastricht Treaty, not even Germany. Similarly there are few if any well behaved ‘Euro-blockers’ when we look at the debt-to-GDP maximum of 60%, also required by the Treaty.
Even so the focus on Greece is a strange one as it represents only 2.5% of Europe and is the first in real trouble; when we seem to have forgotten about California which is 12.5% of the entire USA, in far worse shape, and one of around 40 States in trouble. (Must be something to do with how much money there is to be made in kicking them around a bit!) News today tells us that the decrease in State revenue from Oct 2008 to Sept 2009 was $US87 Billion, the largest in history. So State tax increases, here we come!
Something I noticed which may be a guide to what’s coming is this – a list of headlines I saw on the Sharechat website the other day – look at this unedited list:
Toyota Motor Corp.’s president endured three hours of questioning by US lawmakers, pledging to restore consumers’ trust without shedding new light on the company’s handling of safety recalls…. More»
The chairman of US bank Morgan Stanley, John Mack, says that bankers are still paying themselves too much.… More»
Royal Bank of Scotland reports a loss of £3.6bn for 2009, but is set to pay bonuses totalling £1.3bn to its staff…. More»
Bankers in London’s financial center, which Mayor Boris Johnson called a “leper colony,” are battling to justify their right to make money and to prove their social value after British taxpayers assumed liabilities of more than 800 billion pounds ($US1.23 trillion) to bail out the country’s lenders…. More»
Federal Reserve Chairman Ben Bernanke told the Senate Banking Committee on Thursday that the central bank is looking into Goldman Sachs’ and other U.S. financial firms’ role in Greece’s debt problems.… More»
So is this a signal that the next phase is going to be dominated by blame shifting from the politicians onto the bankers? – Now that should be fun!! Although the possibility does remind me a bit of the famous comment from Oscar Wilde about fox-hunters – “the unspeakable in full pursuit of the uneatable.”
Japan: A very interesting piece here from William L Anderson which explains it all in one paragraph – always worthwhile.
For a brief moment in 1990, the Japanese stock market was bigger than the US market. The Nikkei-225 reached a peak of 38,916 in December of 1989 with a price-earnings ratio of around 80 times. At the bubble’s height, the capitalized value of the Tokyo Stock Exchange stood at 42 percent of the entire world’s stock-market value and Japanese real estate accounted for half the value of all land on earth, while only representing less than 3 percent of the total area. In 1989 all of Japan’s real estate was valued at US$24 trillion which was four times the value of all real estate in the United States, despite Japan having just half the population and 60 percent of US GDP.
William L Anderson – Mises.org
Australia: I’ll get on to Australia more formally in a couple of weeks, but enough to say I’m not fully convinced by the Aussie dream either. A recent analysis of housing ‘un-affordability’ by Mike Shedlock, (looking at the US, UK, Ireland, Canada, Australia and New Zealand) found that
12 Australian cities counted in the top 20 as the least affordable to live in. New Zealand was second, with Auckland and Tauranga the most expensive. Whereas the historic maximum norm was 3 times income, Australia had a median multiple of 6.8 and NZ 5.7. Dangerous to say the least! This was a silver medal we didn’t really want.
Secondly the December 2009 current account deficit came in at $Au 17.459 Billion which is a very large figure when one comprehends that Australia is reaping the best trade conditions of its history. So much depends on their relationship with China and as has been pointed out above there are real problems with the unsustainable level of Chinese capital expenditure. Given the long lead time in mineral extraction developments Australia could easily find themselves over-exposed to a collapsing minerals market, particularly when you look at their vastly enthusiastic expectations for a larger and larger market with China.
Lastly the Reserve Bank of Australia in their year-end analysis confirm a 7% decrease in business credit, which clearly confirms a contraction in money supply is underway, whilst the banking system also faces the prospect of rolling-over $Au 514 Billion in the next 12 months in the global debt markets, over one half of their total exposure.
Tuesday, March 2nd, 2010
Firstly me – on the 9th of February I received a call from the Endocrinology Department of Waikato Hospital asking how long it would take me to get to their clinic – when I hesitated to think, the specialist said “I mean today!” I turned up at the hospital to find the Doc himself standing in the middle of the corridor tapping his foot. Two minutes later, I found out that I had been a walking time-bomb for at least the past two years and had I had an accident or fall in that time I would have most likely died before reaching hospital. After a lifetime of trading and living on adrenaline, I apparently have none of my own. Rather my pituitary is not sending messages to any of my hormonal centres to order up the required stuff.
I’m 60 as you know and I believed that most of the energy I lacked was just getting older, but simply not so – it was a complete lack of essential hormones throughout my body, and they are now being provided in an accurate dosage of little white pills. In two weeks I have my complete life back – I simply cannot believe all the struggle I had for almost three years to do even the simplest of things is over, and I feel amazing. With hormone replacement therapy, which will continue forever, I feel better than I did 10 years ago and it has been the most stunning experience in my entire life.
And now Europe – boy, I bet they wish they could solve their problems with little white pills too. But I don’t suspect they’ll be able to.
Prior to the call from the Doc I had been reading everything I could find about the present state of Europe and it was a bit sparse. Then the “global bond vigilantes” turn their attention to Greece and all of a sudden Europe IS the topic and everything else fades into the background. I expect this will be the way of 2010; once a topic has had its run the attention will turn to somewhere else and the market casino will move on.
The Greek economic numbers are certainly very dangerous and it’s ironic that a country with so many very high earners has so few of them turning up at the tax office. Similarly, even before the troubles erupted onto the front pages over 10 Billion Euros disappeared out of the country, much of it from Greeks themselves. As pointed out in something I read a couple of days ago this represents maybe as high as 400 Billion Euros when fractional banking impacts are considered, and this is the sort of money movement that will bring any country to it’s knees in a few weeks. (These numbers suggest a gearing ratio of 40 to 1 but in the last few days I’m discovering there are Greek banks on gearing as high as 90 to 1 – suicidal).
So what does Europe do about Greece, because push and shove as hard as you like, but without the benefit of a flexible and falling currency that can assist the necessary changes that Greece must make, all that is left is austerity, and I doubt the ‘Greek in the Street’ is going to stand for too much of that! In fact of course they’ve started to kick up a fuss already, and they’re obviously hungering for a bit of a scrap.
And that was written yesterday – so tonight on the news I see my predictions are already playing themselves out – in fact during yesterday’s reading I see there is a growing concern from European commentators about the possibility of contagion, where the disgruntled throughout Europe take to the streets, as they have been so apt to do whenever they are upset.
It’s hard to imagine NZ farmers turning up at parliament in their tractors in vast numbers but this is a feature of Europe, as it is with truckers boycotting ports etc. Europe has always dealt with its problems in such a manner, and it’s easy to see that this could turn into a maelstrom in all of the so-called PIIGS countries and elsewhere. We’ve seen it in Iceland already, which caused some significant political fallout.
Greece of course is quite small in terms of the total size of Europe, about 2.5% of the whole, similar in size as Bear Sterns was to the US system, but this is not the real problem anyway – it’s that there are many, maybe even most, countries in Europe who are stretched both in fiscal and banking exposure terms. The Swiss are most exposed to Greece, the Austrians to the Baltic States such as Latvia, Lithuania etc. and just about everybody to the excesses of ‘market-driven’ lassie faire economics of the last 30 years. In fact all of southern Europe appears in trouble, but the solution looks near impossible with European sovereign debt ‘rollovers’ of over 2.2 Trillion Euros coming in 2010 alone.
What concerns me the most is simply this – when you put together an alliance of historical enemies it simply must hold through all adversity; for as history will show in every example of failure, (the most recent being the split up of Yugoslavia into the various Balkan States), extreme chaos inevitably results. Power vacuums are always filled by people desiring power, and the chaos arrives quickly and violently as power-seeking groups make their move before their natural enemies do it first. History is absolutely alive with examples of this, and so the entire world has a stake in what happens in Europe and should they fail then we will all be impacted and probably quite severely.
For anyone who has not considered the danger of this possibility I have read and kept a graphic account of what happened in Russia only 20 years ago written by a Russian-born American who repeatedly re-entered Russia during their turmoil, and the story he tells is a very frightening one. I won’t go on about this but if anyone does want to read the story then send me a request at email@example.com and I’ll
send it to you.
Don’t get me wrong – I don’t in any way look forward to being right about these concerns, but if we don’t take Europe’s problems very seriously then we are quite likely in some considerable danger of a total break-down of the economic and social order we have become used to. This is far too big and far too encompassing to leave in the hands of the same group of people who got us into these debt problems in the first place – globally the time is well past when any of the ‘talking heads’ of the past few years can be trusted to do anything but protect their own self-interest, and quite frankly they are simply getting it wrong, and at the average Joe Blow’s expense rather than their own!
I’ve watched this develop over 5 years now, and everything I suspected would happen has happened basically as scripted by myself and a few others throughout the world, and yet the very same group of people who messed up so badly still think they have a good handle on these problems, when their actions so far suggest the absolute opposite. Again anyone who thinks I might just be sounding off here please contact me at firstname.lastname@example.org and I’ll send you a copy of the 8 essays I wrote between early 2005 and mid 2006 and you’ll see this is just a really bad movie for me that I’ve seen many times, and I’m sick to death of it!
You cannot solve the problem of too much debt with vastly increased levels of the same – switching personal debt for sovereign debt does nothing apart from destroy the fabric of societies that people throughout history have given their lives to attain. Yet we stupidly continue on digging our financial graves because not enough adults are prepared to say enough is enough! Democracy has a very bad record in dealing with the need for fiscal restraint – we all want more and we want it now otherwise we’ll vote in the other mob.
So come on adults throughout the world – isn’t it about time we owned up to the fact we are leaving our young an impoverished world both socially, financially, and in resource terms if we continue to plunder the planet as hard as we have been doing for the last 50 years??
N.B. The second half of this piece wrote itself in about 10 minutes – it is a plea from a 60 year old grandfather who has just spent three years thinking he was dying, and now 2 weeks knowing he is not!
I deliberately didn’t post it until it had sat over the weekend, but damn it, it deserves to be read – how many others feel the same, and if not why not?
Monday, January 25th, 2010
I have been doing lots of research for this blog on China because most people’s idea on China I had found to be just too simplistic and comfortable. From those who hoped China would be the saviour of the West to those who saw China’s growth story as having played itself out and was now a big sell. I decided it was crazy to form bold and fixed ideas about China when it was a country so large in size and population that unlike NZ (every 1422nd person is a Kiwi) it contained nearly one quarter of the global population.
Furthermore, when a country as large as China takes its economy from a GDP of $US342 Billion to $US4.4 Trillion in as little as 20 years, at an average growth rate of 13.6%, maintaining a savings rate of better than 35%, then they are obviously doing something quite different to the West.
Clearly when China wants to make a move their political control is so concentrated they are able to move rapidly and without public debate. If central government decides to do something, they just do it, and largely without argument. So they are not only very large and increasingly powerful they are also very manoeuvrable. This makes them very unique and not easy to comprehend from a Westerner’s perspective. We are so used to commerce being dominated by large public companies that understanding a country that has close to 50% of the productive economy as State-Owned-Enterprises is not that easy, particularly when public reporting is not an obligation.
So I wrote to a financial writer I have come to know, based in Hong Kong, and asked her opinion. She is fluent in both Mandarin and Japanese, has a considerable reputation in both countries, and whilst she was too busy to answer my questions herself gave me the blog-sites of some Westerners writing about China with some insight.
Accordingly I have spent the past 3 weeks emerged in reading about China, and have had my eyes opened quite significantly. As I had thought China is so large and complex that quick opinions account for very little, nevertheless I found out some very interesting facts on my way to writing this.
I had already understood that China had spent nearly $US700 Billion of stimulus money and increased bank credit by over $US1.4 Trillion from late 2008 through 2009, but it was interesting to find where that went. The most surprising was the realisation that China has sacrificed its SME’s much the same way as the West by focusing its stimulus funds on the large SOE’s.
So in a sense they too have managed to establish a large sclerotic group of companies who have been identified as ‘too big to fail’, and are therefore not subject to market efficiencies. (This means that during 2008 20% SME’s failed and a further 20% went near to failure – these latter firms have clawed back but remain vulnerable to a further shock.)
This is precisely as flawed as the Western model where the paradox is just as evident – saving jobs now by preventing large companies failing has had the unintended consequence of starving the job-creating sector of credit, and therefore their means for creating new jobs in the future. The numbers are near to the West with small business creating 80% of the jobs in 2008, along with 60% of the GDP, and paying 50% of tax revenues. “Less than 20% of small businesses have access to bank loans – this is unreasonable given their contribution to the economy and their pressing need for funding” – Yin Zhongqing, deputy director, Financial/Economic Affairs Committee NPC.
The fact that over $US 1 Trillion of additional credit has ended up in the property sector and stock market is clearly a problem, and in some areas it is clear that factories have been built that will not be used, etc. Anecdotal evidence I read on the blog strings suggest building jobs halting unfinished and people not being paid for their work. Further Jack Rodman in the South China Morning Post warns that the banking system’s true exposure to real estate may be much higher than officially recorded, and could exceed 40% of bank lending. Most of that lending is policy-directed with an implicit government guarantee. Few of the empty factories, office buildings and hotels etc. are meeting their interest payments, but loans are being rolled-over rather than being foreclosed upon. Clearly a vacancy rate of up to 40% in office buildings in some areas is of great concern.
As Rodman says “Bank exposure to the real estate sector has been at the root of previous financial crises worldwide – 40% is the same level of total loan exposure reached in Japan in 1989, when it was believed Japan would dominate the economic landscape for decades”
Nevertheless the Chinese Government are right watching this closely and not ignoring the evidence and have already begun to tighten short rates to signal their willingness to move sharply should they decide credit growth is a problem. That’s not to say that they don’t also use the jawbone to influence events, but behind that is the very real willingness to act, and sharply. Accordingly after talking about their concerns for a number of months authorities have now altered the bank’s reserve ratios to crystallise the point, and this week have halted some banks ability to lend for a period.
Donald H Rosen, one of the recommended China writers, had the following points to make about the possibility of these construction excesses and the export slowdown causing a Western-styled malaise – Whilst he certainly sees 2010 to be a year of significant adjustment for the Chinese, and some pain, he makes the following interesting observations:
China is clearly ‘front-loading urbanisation’ with the idea that the acceleration of this trend will take up the excess property, bringing with it an increase in domestic consumption which the country sorely needs to reduce dependence on the West. With less than 45% of Chinese being urbanised against the near 80% average in the West clearly there is some distance to go. Secondly that while this would in Western conditions create even greater over-production and over-capacity Rosen makes the point that China is simply missing much of the depth of social infrastructure that the West takes for granted such as teachers, doctors and white-collar jobs in the manufacturing sector; the increase of which will bring higher consumption without adding to the present over-capacity.
However the greatest immediate problem that China appears to have is an alarming increase in capital inflows of money looking not for a productive home but betting on the revaluation upwards of the currency. This, the Chinese fear, will exacerbate the already over-stoked economy, and make it difficult to manage liquidity. Interestingly it is not only foreigners making this call, but private Chinese money previously hoarded offshore is also returning to the country. The average call is for a revaluation of 10% although the reading I was directed to suggested a more modest 2-3% which will hardly satisfy the West.
The problem of relative currency valuations is hardening attitudes everywhere, particularly in Europe, as the rise in the Euro is significantly hampering the recovery prospects of the entire Euro-bloc with particularly Germany and France making unhappy noises. It’s hard to see why the Euro is so favoured, but clearly this is largely a vote against the US dollar rather than a vote for the Euro, but it is severely cramping the competitive prospects of European exporters. Of course with China in lock-step with the US dollar the dollar weakness has helped China to compete, even given the global pie is significantly smaller.
An article Viagra and female written by Paul Krugman, who is extremely influential in both the US and Europe, calls for outright protectionism against China and refers to their ‘mercantilist’ trading policies as fundamentally ‘predatory’. Now I know Krugman has lost some of his lustre in contrarian circles for his promotion of more ‘stimulus spending’, but there is no denying he is the most influential US economist of the moment. My suspicion is he is the go-to-boy when significant changes in US policy are in the pre-ordination phase, and it wouldn’t surprise me in the slightest to see 2010 bring a quite nasty trade war.
In fact he suggests exactly this – “The bottom line is that Chinese mercantilism is a growing problem, and the victims of that mercantilism have little to lose from a trade confrontation. So I’d urge China’s government to reconsider its stubbornness. Otherwise the very mild protectionism it’s currently complaining about will be the start of something much bigger” – now you can’t be blunter than that!
Actually I first wrote about the impact of exporting jobs to low-cost nations in 2005, as it seemed to me ridiculously short-sighted to expand your short-term profitability by first taking jobs off your own citizens and handing them out to somewhere cheaper. This is a further example of the paradox of solution, where the companies’ solution is quite contrary to the needs of the country.
The greatest problem that China appears to have in the longer term is WATER – they don’t have much, and the supply of potable water particularly is dwindling fast. A figure I noted from past reading suggested only 45% of the population had a reliable supply of safe drinking water. However as with other problems identified they tend to face these head on, and not push them onto following generations as a first choice, as has become the pattern in the West.
- So from the WSJ “China Real Time” site – China, in its first-ever nationwide water resources survey will attempt to quantify just how much water it has, how much it needs and how much pollution is part of the flow.
China’s water supplies are meagre and dwindling, threatened by waste, pollution and chronic drought. Global warming is blamed for shrinking the big Tibetan glaciers that feed most of China’s main rivers. All this is happening just as China’s wealth is increasing demand for more water – for irrigating food, propelling hydropower, and manufacturing of all types.
However the greatest problem the West has with China is undoubtedly their contribution to both climate change and global pollution. I find however that it is impossible to single them out on this, because if collectively we had not demanded the production from their vast manufacturing base then their easily apparent pollution would have been considerably less. This has allowed the West to wag its judgemental finger at China but is hardly a realistic position. Pollution is a global problem, this is a closed system we live in and if our demand is solely determined by price then short-cuts in environmental behaviour should be a given.
And so there has been bad behaviour, but again I wrote about this in my essays from 2005/6 as the problem of excess pollution has been alive and kicking for decades and will remain until economics has the courage to place environmental and social depletion in the equation along with the present financial figures. We cannot make true progress unless we are prepared to count all the costs of that progress as well as the benefits. In my view we need to count the rate of depletion of non-renewable resources too as this knowledge would assist in the appropriate pricing models to ensure scarce resources are not wasted cheaply.
So on balance what do I think about China’s prospects for 2010 and onwards?
Well it is unlikely they will escape any second dip in global fortunes during the 2010/11 period as we all face the reality of vastly increased demand for funds from sovereign sources to cover fiscal deficits while the resets of existing private debt will also be at historical highs. This will be the major topic for financial markets throughout 2010 however China is the one nation with a clearly different profile – they will be spending savings while the rest are spending borrowings, and most Western chancellors would like to have that problem rather than the one they now face.
Secondly while China will one day run into the demographics of the ‘one-child’ policy they still have vast scope to keep moving people towards the cities as they develop further away from the former peasant economy.
And the big question – can they keep it all together and avoid social breakdown among the disenchanted? I have to say the more I read the more I was impressed about their comprehension of what they are doing, and the awareness of the errors of the West. It remains quite a paradox to see them doing what they can to develop their controlled form of capitalism, whilst Western countries, almost without exception, develop economies that increasingly represent the ‘socialist evil’ they have tried so hard to defeat.
Even given the sharp reduction in entrepreneurial activity in the former bubbling areas of Hong Kong and Shenzhen, a recent study by Hugh Thomas, a Chinese University finance professor and director of the school’s Centre for Entrepreneurship finds that “while the quantity of entrepreneurialism may be falling, the quality of those businesses is now higher than before: ideas are better thought-out, businesses are higher up the value chain and growth expectations are more promising.” So again one has to concede, they appear quite aware of where the next trend is coming from and are already moving to be a major participant – quantity and price may no longer work, but quality finds its markets in the end.
So provided they can manage the impact of their rather loose credit policies they still look to me to be the country best prepared for what 2010 and beyond might bring.
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