Wednesday, March 31, 2010

Contra the EOTers...

Since these types of articles now find there way to Bloomberg, I feel compelled to respond to the hysteria that the "END IS NIGH" for the United States of America. Most of these arguments combine historical, economic, and political arguments...and more often than not seriously err on at least one of those elements.

Since holistic analysis is an area of my expertise, my comments arrive in italics for the article from Bloomberg presented below.

March 30 (Bloomberg) -- Historians cite the late second century as the turning point of the Roman Empire, when the once- proud, feared society began its descent into infamy.

We don't have Caligula quite yet.

As the ruling class was undermined by civil wars and attacks by outsiders, the Romans’ respect for law and social institutions began to erode. In the end, a combination of political and economic mistakes led to the empire’s downfall.

I think it was a bit more complicated than this.

The U.S. today is a mirror image of the Roman Empire as it tipped into chaos. Whether we blame our bloated government, a greedy elite or a lethargic population, the similarities between the two foreshadow a gruesome future.

Those are not the only factors. A mirror image? I think a discussion of risks if more fruitful. I assume here the author wishes to persuade the populace that drastic policy changes are needed and he does not "really" think we are the mirror image of Rome. Rhetorical effect.

The Roman economy grew fat from the plunder of conquered territories and the added productivity offered by new lands. The waning of expansionism didn’t bode well for the empire.

While the U.S. ascended quite differently, it also used its position as a superpower to fuel economic expansion. Because the country had the strongest military and economy in the post-World War II era, the U.S. dollar became the de facto global reserve currency, ensuring endless competitive advantages -- which have vanished in the last decade.

Vanished? I disagree. When there is a whiff of political or economic global instability, the children all run home to Uncle Sam to protect them.

Americans have become less productive while relying more on social safety-net programs such as Medicare, Medicaid and Social Security -- and now expanded health-care insurance. Worse, like the ancient Romans, a sense of entitlement has replaced the drive and motivation we once championed. With easy access to abundant government handouts, it’s no wonder so many jobless people have stopped looking for work.

It's also no wonder that "so many" people have not given up and are determined to make life more abundant for themselves and their families. A "sense of entitlement" is not what I gather when speaking with fellow citizens.

Bread and Circuses

In the fifth century, the Roman political elite began searching for ways to distract its population from the hopelessness at hand. Bread and circuses postponed the ultimate fall. The tactic stopped working when people realized their bread tasted stale and sensed the true scope of the impending disaster.

The U.S. government’s version of bread offerings proliferated throughout the fiscal crisis, in which collapse was averted only by a massive financial bailout and an endless supply of paper money, along with the rest of the seemingly endless sustenance being shoved down America’s throat.

Endless supply of paper money? All monetary aggregates are declining. Inflation is flat to negative. Its not paper money that poses a problem, its spreadsheets.

Meanwhile, the administration hasn’t yet tackled the most pressing issue: job creation. Given the current state of the labor market, American workers can’t possibly provide enough tax revenue to support the government’s swelling debt.

Workers don't need to. Government is not constrained by tax receipts. I remain hopeful that the government figures out that tax cuts are the required measure. Governments operate from constraints and will attempt to do whatever they wish within the constraints imposed upon them. The current anger directed towards elected officials is palpable and is getting their attention.

Even more unsettling is the government’s inability to fix the financial crisis. After a stream of stimulus programs and bailouts, the Federal Reserve continues to print enormous quantities of dollars and buy the nation’s debt.

Its a change in a spreadsheet somewhere reflecting an asset purchase. There is no printing involved and we are still mired in deflation. Where is the price action reflected in yields or other assets that supposedly track the massive "printing" of dollars?

California Like Greece

Many state governments are in even worse shape. With California’s 10-year debt currently yielding about 4.5 percent (municipal debt typically yields less than 10-year Treasuries, which now yield about 3.9 percent), the state poses the same sort of danger to the U.S. that Greece does to the European Union. If the federal government decides to bail out California, what happens when Michigan and New York start demanding the same treatment?

Tax receipts are rising. Greece is a much different animal.

The burden of underfunded pension liabilities will cause states’ budget deficits to further balloon. Since defined state benefit plans assume an unrealistic 8 percent rate of return -- zero percent, at best, is more likely -- we can only imagine the catastrophe to come once states have to make good on their obligations.

Yes, the PBGC will be very busy.

As our society becomes increasingly immobile and sits on the couch doing nothing but surfing the Internet, using iPhones and watching “Jersey Shore,” the hopelessness of the situation becomes clear.

That observation of society is quite selective.

Fear Mounts

Unless the government creates a massive jobs program, cuts spending and taxes, and gains control of the national budget and the balance of payments crises, we should fear for our future. Unless our fellow Americans relearn the value of hard work, no government plan stands a chance.

Once the world realizes that the U.S. is the new Rome, the traditional tenets governing asset correlations will no longer hold, and we can expect a breakdown in traditional stock-bond portfolio theories.

Since paper assets are ultimately shoved down to zero, expect hard assets to benefit -- especially gold, energy and grains -- along with commodity-related equities.

The name of the game going forward -- let’s say the next five years -- will be buying ahead of whatever China and other developing nations are trying to accumulate and diversifying away from the U.S.

I have written about this many times before. Financial markets still functioned the last time there Ragnarok came to town. He is describing nuclear holocaust. I am certainly not Pollyanish about this environment, but the rest of the world somehow benefit from realizing that the U.S. is the new Rome and send paper assets to zero? My mind cannot follow this type of logic.

The China Factor

Consider the trading relationship between the U.S. and China. When the U.S. funnels its unfinished products to China, the Asian nation is able to send back manufactured goods -- thanks to its abundant supply of cheap labor -- in return for dollars. While the American people are busy tinkering with their newly manufactured playthings, the Chinese continue to use their new wealth to buy energy and commodity assets.

...And desperately attempt to generate new manufacturing concerns in a world where trade balances and current accounts are adjusting. They are not adapting, and control is slipping away.

Thus, China and the other developing countries that are amassing dollars, euros and pounds basically play a game of global hot potato, trying to pass the potato -- worthless paper currencies -- to others in exchange for energy, water and valuable food assets.

As China continues to thrust its dollars at all things commodity-related, it’s hard not to laugh when hearing President Barack Obama speak about trying to identify “environmentally sound” opportunities in energy.

China is buying commodities with dollars? And the problem with buying things in far-away places (like China in Africa) is that without security guarantees, expropriation risk is massive.

Meltdown Ahead

It’s only a matter of time before the mechanism that has allowed the government to sustain its trade deficit for longer than it should have -- similar to the Asian dollar peg of the 1990s -- causes a simultaneous decline in the U.S. currency, asset prices and the economy.

Once people begin to realize that their paper currencies, stocks and bonds are all garbage, we can expect a meltdown.

Although it may be too early to predict an impending collapse in paper assets and an immediate need to acquire hard assets, it’s clear that we’ve reached a turning point. The ship has begun to sink. As I await a global re-set of asset values and prices, I will continue to monitor the swelling federal and state tax revenue levels, the rising animosity between Main Street and Wall Street and the progress made by commodity-hungry nations as they continue to eat our lunch.

Waiting for Godot. Adaptation is key here, and I hope the author does not seriously consider the implications of his statements.

While I continue to hope for the best, it’s far wiser to prepare for the worst.

(Mark Fisher, author “The Logical Trader,” is the founder of MBF Asset Management LLC. The opinions expressed are his own.)

The Paper Dragon...

...more of an Oligarchy than a Communist State. We see the angular momentum of power at work here. It does not change the world over unless some exogenous forces (such as term limits and other controls) the incumbent(s) to hand over the keys for the good of the system. From African warlords to Chinese revolutionaries...its all the same. Accumulate, accumulate, accumulate.

By FT Reporters
Published: March 29 2010 22:37 | Last updated: March 29 2010

New Horizon Capital is one of the most influential and successful participants in China’s fledgling private equity industry. It has billions of dollars under management and a stable of investors that includes Deutsche Bank, JPMorgan Chase, UBS and Temasek, Singapore’s sovereign wealth fund. But you would not guess any of that from its central Beijing headquarters.

The company has no nameplate in the lobby of the Golden Treasure Tower, a nondescript building near the Forbidden City, the traditional seat of imperial power. Its simple 12th floor offices are identified only by a small sign inside the door that reads, in Chinese, “New Horizon Growth Investment Advisory Limited”.

The company does not need flashy suites as it has one of the most valuable assets in China. He is Winston Wen, an MBA from Northwestern University’s Kellogg business school in the US who keeps a low profile and bears a striking resemblance to his father – Wen Jiabao, premier of the People’s Republic of China.

The younger Mr Wen and New Horizon are in the vanguard of a more aggressive generation of taizidang (“princelings”) – offspring of senior Communist party officials – who dominate the burgeoning home-grown private equity industry, where huge profits are to be made from restructuring state assets and financing private companies.

In 2009 private equity deals in China totalled $3.6bn, accounting for one-third of all such transactions in the Asia-Pacific region, according to Thomson Reuters. But industry participants say the potential market is far larger.

According to those working in the sector, the princelings’ ascendance is squeezing out less well connected operators, including foreign firms, which might have important consequences for two reasons. First, private equity could play an important role in modernising the economy, channelling funds to promising but capital-starved companies – but those benefits will be felt only if the industry is run in a professional and competitive manner.

Second, some in the political establishment fear that princeling dominance of private equity could exacerbate public perception of nepotism and misrule at the top of the Communist party. In an opaque authoritarian system lacking the popular legitimacy of a democracy, such fears are hard to dismiss. A recent online opinion poll by the People’s Daily, the party’s official mouthpiece, found that 91 per cent of respondents believe all rich families have political backgrounds.

In an interview with the same newspaper, the former auditor-general said the fast-growing wealth of officials’ children and relatives “is what the public is most dissatisfied about”. Li Jinhua, widely respected as the senior graft-busting official between 1998 and 2008, told the paper this month: “From the numerous cases currently coming to light, we can see that many corruption problems are transacted through sons and daughters.”

Many of the elite’s children are western educated and, over the past 15 years, dozens have been recruited by western companies and banks hoping to secure an entry into the Chinese market and win mandates to take state-owned companies public in New York or Hong Kong. As most foreign investors know, employing the relative of a senior party leader as an adviser or employee can help cut through bureaucratic obstruction and resistance from local interest groups.

New Orders...

...coming in a bit flat.

New Orders

New orders for manufactured durable goods in
February increased $0.9 billion or 0.5 percent to $178.1
billion, the U.S. Census Bureau announced today. This
was the third consecutive monthly increase and followed
a 3.9 percent January increase. Excluding
transportation, new orders increased 0.9 percent.
Excluding defense, new orders increased 1.6 percent.
Machinery, up three of the last four months, had the
largest increase, $1.1 billion or 4.7 percent to $23.3

Shipments of manufactured durable goods in February,
down two consecutive months, decreased $1.0 billion or
0.6 percent to $179.8 billion. This followed a 0.1 percent
January decrease.

Transportation equipment, also down two consecutive
months, had the largest decrease, $1.5 billion or 3.4
percent to $43.8 billion.

Monday, March 29, 2010

Mixed bag... Personal Income and Outlays.

Personal income increased $11.4 billion, or 0.1 percent, and disposable personal income (DPI)decreased $47.6 billion, or 0.4 percent, in January, according to the Bureau of Economic Analysis. The decrease in DPI reflected an increase in federal nonwithheld income taxes. Personal consumption expenditures (PCE) increased $52.4 billion, or 0.5 percent. In December, personal income increased $41.2 billion, or 0.3 percent, DPI increased $40.3 billion, or 0.4 percent, and PCE increased $26.4 billion, or 0.3 percent, based on revised estimates.

Real disposable income decreased 0.6 percent in January, in contrast to an increase of 0.2 percent in December. Real PCE increased 0.3 percent, compared with an increase of 0.1 percent.

Friday, March 26, 2010

Not quite there.

From a Washington Post article that comes tantalizingly close to what can happen operationally when a sovereign currency issuer enters into "debt" overlays. But hey, one person at a time...

But the most interesting explanation is that large U.S. banks, with the Federal Reserve's assistance, have helped put a lid on interest rates. How? In lieu of lending to the private sector, today's government-managed large U.S. banks have been borrowing heavily from the Fed (paying near zero percent for money) and buying risk-free U.S. government debt (Treasurys and agency securities), which has no capital requirement. To be sure, these purchases reflect rational behavior. Private demand for credit has evaporated, and tighter credit standards have frozen out small businesses.

Unwittingly or not, the Federal Reserve and the Obama administration are further encouraging these bond purchases through new capital rules, liquidity requirements and other regulatory changes that traditionally cause bankers to increase their holdings of government debt.

Last week, regulators including the Fed and the Federal Deposit Insurance Corp. upped the ante by jointly ordering the banks to maintain larger stocks of "unencumbered, highly liquid assets . . . readily available . . . during the time of most need." Topping the list of suggested holdings? U.S. Treasury securities.

The HIRE H.R. 2847

EuroSpooz. EYurDOW. EYooSpooz.

Whatever kinds of clever phonetic variations on sythetically creating U.S. stock market returns without triggering Witholding tax arrangments under this BRAND NEW section of the Internal Revenue Code will become quite lucrative, just as the Eurodollar markets were "quite lucrative" when they began.

So I, The Recapitulator, have looked at this new law, which immediately becomes Chapter 4 of Title 26; The U.S. Tax Code.

What are the effects of foreign holders of U.S. financial assets when confronted with a 30% witholding tax, which will be null IF said foreign holder discloses the beneficial owner of the security and its related cash flows.

The point here is Power. The U.S. will know the ownership of U.S. financial assets. This is a way to "keep score" in the world economy to determine where U.S. interests should be magnified or minimized. Foreign Central Banks are exempt from this provision, but the Fed and Treasury ostensibly know all about CB to CB transactions. Recall that taxation is an aggregate demand management system, and is not needed to "get" dollars for governmental use.

So, what happens if a Russian bank purchases an interest rate swap arrangement from and American Bank (or a subsidiary of same)? Is disclosure of ownership required or a 30% tax is levied? This, it would appear, is why Treasuries have fallen. Investors are fleeing the cash markets for Swaps.

This level of disclosure will REQUIRE new equity-linked securities to be invented in order to circumnavigate this provision, less Jersey, The Isle of Man, Bermuda, the Caymans, and other tropical off-shore financial destinations wish to cease operations. At this point I am assuming that international banks simply cannot inform the Treasury that "Account #xxxxxiiii is not owned by a U.S. entity or citizen nor does a U.S. entity or citizen have beneficial ownership of Account #xxxxxiiii", but rather must IDENTIFY the purchaser of the fiancial asset, regardless of jurisdiction in order to definitively "prove" non-U.S. involvement.

But we are getting ahead of ourselves...or is it behind?

For purposes of this blog, most of the minutiae is irrelevant. What is interesting to me are the possible unintended consequences from this provision. Chief among this list are the effects on international capital flows and global liquidity. This week has seen flows avoid Cash Treasuries. This is why I warned in a previous post that globalization is entering a new manifestation due to measures such as H.R. 2847

So what can be taxed?

For purposes of this chapter—
(1) WITHHOLDABLE PAYMENT.—Except as otherwise provided
by the Secretary—
(A) IN GENERAL.—The term ‘withholdable payment’
means(i) any payment of interest (including any original
issue discount), dividends, rents, salaries, wages, premiums,
annuities, compensations, remunerations,
emoluments, and other fixed or determinable annual
or periodical gains, profits, and income, if such payment
is from sources within the United States, and
‘‘(ii) any gross proceeds from the sale or other
disposition of any property of a type which can produce
interest or dividends from sources within the United

"From sources within the United States". Presumably, since this is a witholding tax, this would mean that only U.S. cash market securities would be effected.

However, "can produce" language is troubling. Taken literally, this would subject any security that derives its cash flows or capital gains from U.S. activity to fall under the possible witholding tax, provided the security is to be considered "property".

Thus, this is a far-reaching new addition to the U.S. Tax code. Some of the ramifications and potential pit-falls will be discussed in a subsequent post coming soon. The Devil is in the details, and, this being the U.S. tax code, we will have to review the details carefully.

U.S. Economic Statistics

Summary is here.

Retrenchment, but official actions have only made the adjustment process more circuitious.

Thursday, March 25, 2010

Return of the Vigilante?

Second busted auction this week. Once the implications of the HIRE act become more concrete (next week) Treasuries should experience a rebound.

Globalization 3.0, The Return Of The Hyperpower

The HIRE act opens an interesting and somewhat onerous new chapter for international relations. The most important trend to observe will be liquidity requirements from foreign (non-state owned, as Central Banks and their subsidiaries are exempt from the HIRE act) banks and the resulting volatility in flows of funds. If volatility for short-term financing spikes, continued global integration could suffer.

This is a bold move by the U.S. In effect it has drawn the line in the sand by wagering the dollar will continue to be the currency of choice for international capital markets transactions and the preferred reserve currency of the world's central banks. This is UNILATERAL fabrication of a new global financial system, one in which the U.S. dollar is the apex for all bank transactions. Transgressors will be denied capital denominated in the reserve currency with major implications for international funding.

As long as the rest of the world obeys the rule-sets the U.S. promulgates in this new System, it will remain the world's hyper-power.

But there are risks. The U.S. is leveraging its military and physical weapons advantage relative to the rest of the world ("ROW") into a new era of virtual financial weaponization. However, these two capabilities are intimately connected. The success of this new financial arrangement lies with the ability of the U.S. to project military force anywhere on the planet and achieve nominal victory within days. If the rest of the world senses weakness in this crucial capability, a "run on the bank" will ensue.

This is a very, very large gamble. The ROW will go along with this "treaty" ONLY as long as the U.S. continues its real world dominance. Thus, the U.S. will likely become more aggressive to countries that run contrary to its interests.

Physical Security, Financial Security, Legal Services, Arbitration, Negotiation. The United States of America is committed to fulfilling the needs of its may we help you??

Wednesday, March 24, 2010

The Monetary channel...a continuing series...

Signs that the Fed is catching on. The below exerpt that Don Kohn gave today in South Carolina. Finally, some admission that the Monetary channel is broken.

Full Speech here.

A second issue involves the effect of the large volume of reserves created as we buy assets. The Federal Reserve has funded its purchases by crediting the accounts that banks hold with us. Those deposits are called "reserve balances" and are part of bank reserves. In our explanations of our actions, we have concentrated, as I have just done, on the effects on the prices of the assets we have been purchasing and the spillover to the prices of related assets. The huge quantity of bank reserves that were created has been seen largely as a byproduct of the purchases that would be unlikely to have a significant independent effect on financial markets and the economy. This view is not consistent with the simple models in many textbooks or the monetarist tradition in monetary policy, which emphasizes a line of causation from reserves to the money supply to economic activity and inflation. Other central banks and some of my colleagues on the Federal Open Market Committee (FOMC) have emphasized this channel in their discussions of the effect of policy at the zero lower bound. According to these types of theories, extra reserves should induce banks to diversify into additional lending and purchases of securities, reducing the cost of borrowing for households and businesses, and so should spark an increase in the money supply and spending. To date, that channel does not seem to have been effective; interest rates on bank loans relative to the usual benchmarks have continued to rise, the quantity of bank loans is still falling rapidly, and money supply growth has been subdued. Banks' behavior appears more consistent with the standard Keynesian model of the liquidity trap, in which demand for reserves becomes perfectly elastic when short-term interest rates approach zero. But portfolio behavior of banks will shift as the economy and confidence recover, and we will need to watch and study this channel carefully.


..."the" reason for today's moves (full statement here). I still do not understand how the U.S. will indentify U.S. citizens with foreign accounts in order to activate the witholding tax.

Another problem is that only "investments" are covered in the bill. So, for example, it "might be possible" (read: someone will do this STAT)for a foreign investment bank to offer a product that mimics the returns (but are not actually U.S. securities) on U.S. indices, DENOMINATED IN DOLLARS, without triggering the witholding conditions in the bill.

This may be the dawn of a new "EuroDow" market, mirroring the Eurodollar market (itself the product of regulatory challenges levied against USSR, IIRC), and is a strange move by the U.S. at a time when it thinks it needs foreign holdings to shore up demand for Treasuries.

Senate Floor Statement on the Enactment of the HIRE Act

Today President Obama signed into law the Hiring Incentives to Restore Employment Act (H.R. 2847), which will help put Americans back to work. More must be done on to help fight the unacceptably high unemployment rate, and I hope we can soon address other factors holding back our recovery, and particularly that we make it easier for businesses to obtain the funds they need to survive and grow.

While we work in Congress to get people back to work, I also want to take a moment to focus on another benefit of today’s new law.

The HIRE Act is a significant victory for law- abiding U.S. taxpayers, and a significant blow against those who dodge their responsibilities. The Permanent Subcommittee on Investigations, which I chair, has spent years investigating offshore tax abuses which together cost the federal treasury an estimated $100 billion in lost tax revenues annually. In addition to its provisions designed to help foster economic growth, the HIRE Act contains Foreign Account Tax Compliance provisions that represent a major new and positive development in the efforts to stop offshore banks from using secrecy laws to help U.S. taxpayers evade their taxes.

These offshore tax compliance provisions are the culmination of over a year’s worth of study, debate, and drafting efforts to protect America’s honest taxpayers. The drafting effort involved a host of Members of Congress from both the Senate Finance Committee and the House Ways and Means Committee, and the work drew upon multiple bills, including the Stop Tax Haven Abuse Act, S. 506, which I introduced with Senators McCaskill, Nelson, Whitehouse, Shaheen, and Sanders, and which Congressman Lloyd Doggett introduced in the House with 67 cosponsors. I would like to commend Senator Baucus and Congressman Rangel, in particular, for leading this drafting effort, and for involving us in producing a strong bill that President Obama is signing into law today.

This is a big bill, and its offshore tax provisions are complex. I want to provide some explanation of how this legislation is intended to work, both to guide the development of implementing regulations and to inform the courts of our legislative intent.

Section 501 on Foreign Bank Accounts

Section 501, “Reporting on Certain Foreign Accounts,” gives foreign financial institutions a choice. If those financial institutions hold U.S. investments of any variety -- from U.S. treasuries to U.S. stocks and bonds to debt and equity interests in U.S. businesses -- they must either pay a 30% withholding tax*** on their investment earnings, or disclose any and all accounts held by U.S. persons. The legislative intent behind this choice is to force foreign financial institutions to disclose their U.S. accountholders or pay a steep penalty for nondisclosure. The 30% will be withheld by a withholding agent in the United States before the funds are permitted to exit the U.S. financial system.

The reason for this strong approach was seen dramatically in hearings before the Permanent Subcommittee on Investigations. A July 2008 hearing, for example, showed how two foreign banks, UBS AG of Switzerland and LGT Bank of Liechtenstein, used a variety of secrecy tricks to help U.S. clients open foreign bank accounts and hide millions of dollars in assets from U.S. tax authorities. One 2004 UBS document indicated that 52,000 U.S. clients had Swiss accounts that had not been disclosed to the IRS. UBS estimated that those hidden accounts contained a total of about $18 billion in cash, securities, and other assets. In order to defer a criminal prosecution against the bank by the U.S. Department of Justice, UBS admitted that it had participated in a scheme to defraud the United States of tax revenues, paid a $750 million fine, and agreed to stop opening accounts that are not disclosed to the IRS. UBS also agreed to reveal the names of a limited number of U.S. accountholders, although the bulk of the 52,000 still may escape U.S. tax enforcement actions due to Swiss secrecy laws that continue to conceal their identities.

In order to avoid the 30% withholding tax, this new law will require each foreign financial institution to enter into an agreement with the Secretary of the Treasury to obtain and verify information which will make it possible for them to determine which of their accounts belong to U.S. account holders, report key information about those U.S. account holders, and comply with any request by the Treasury Secretary related to those U.S. accounts. The bill is written to end wide spread abuses. There are several issues that must be addressed in implementing this provision. For instance, it is clearly intended that the definition of foreign “financial institution” be applied broadly, to include banks, securities firms, money services businesses, money exchange houses, hedge funds, private equity funds, commodity traders, derivative dealers, and any other type of financial firm that holds, invests, or trades assets on behalf of itself or another person.

***"The Treasury will need to construct a withholding regime that will efficiently withhold the 30% tax on all U.S. investment earnings held by a noncooperative foreign financial institution. This statute will not be effective unless the 30% tax is withheld promptly, reliably, and in a comprehensive way. In devising this withholding regime, it is our purpose to apply the term “withholdable payment” broadly to cover all types of payments from sources in the United States, including interest payments, dividends, rents, wages, stock gains, and derivative payments originating in the United States."

Political instability risk... explanation necessary. Democrats are obviously betting that anger will die down come November, hence the alacrity in passing Healthcare. However, popular schadenfreude is clearly tired of what is perceived as more corrupt behavior in such close proximity to a financial disaster (which was causes, in part, by corrupt behavior).

From a billboard in Missouri.

The gentlemen of Newport Beach...

...having a good run. I agree with most of the analysis, per previous posts.

The uncertainty comes from a number of
structural headwinds in PIMCO’s analysis: deleveraging, reregulation,
and the forces of deglobalization – most evident now in the markets’
distrust of marginal sovereign credits such as Iceland, Ireland,
Greece and a supporting cast of over-borrowed lookalikes. All of them
now force bond and capital market vigilantes to make more measured
choices when investing long-term monies. Even though the government’s
fist has been successful to date in steadying the destabilizing forces
of a delevering private market, investors are now questioning the
staying power of public monetary and fiscal policies. 2010 promises to
be the year of choosing “which government” can most successfully
substitute the governments’ fist for Adam Smith’s invisible hand and
for how long? Can individual countries escape a debt crisis by
creating even more debt and riding another rocking horse winner? Can
the global economy?

The answer, from a vigilante’s viewpoint is “yes,” but a conditional
“yes.” There are many conditions and they vary from country to
country, but basically it comes down to these:

1. Can a country issue its own currency and is it acceptable in
global commerce?

2. Are a country’s initial conditions (outstanding debt, structural
deficit, growth rate, demographic balance) moderate and can it issue
future public debt as a substitute for private credit?

3. Can a country’s central bank be allowed to reflate via low or
negative real interest rates without creating a currency crisis?

These three important conditions render an immediate negative answer
when viewed from an investor’s lens focused on Greece for instance: 1)
Greece can’t issue debt in its own currency, 2) its initial conditions
and demographics are abominable, and 3) its central bank – The ECB –
believes in positive, not negative, real interest rates. Greece
therefore must extend a beggar’s bowl to the European Union or the IMF
because the private market vigilantes have simply had enough. Without
guarantees or the promise of long-term assistance, Prime Minister
Papandreou’s promise of fiscal austerity falls on deaf ears.
Similarly, the Southern European PIGS face a difficult future
environment as its walls whisper “the house needs more money, the
house needs more money.” It will not come easily, and if it does, it
will come at increasingly higher cost, either in the form of higher
interest rates, fiscal frugality, or both.

Perhaps surprisingly, some of the countries on PIMCO’s “must to avoid”
list are decently positioned to escape their individual debt crises.
The U.K. comes immediately to mind. PIMCO would answer “yes” to all of
the three primary conditions outlined earlier for the U.K. in contrast
to Greece. We as a firm, however, remain underweight Gilts. The reason
is that the debt the U.K. will increasingly issue in the future should
lead to inflationary conditions and a depreciating currency relative
to other countries, ultimately lowering the realized return on its
bonds. If that view becomes consensus, then at some point the U.K. may
fail to attain escape velocity from its debt trap. For now though,
“crisis” does not describe their current predicament, yet that bed of
nitroglycerine must be delicately handled. Avoid the U.K. – there are
more attractive choices.

Could one of them be the United States? Well, yes, almost by default
to use a poor, but somewhat ironic phrase, because a U.S. Treasury
investor must satisfactorily answer “yes” to my three conditions as
well, and the U.S. has more favorable demographics and a stronger
growth potential than the U.K. – promising a greater chance at escape
velocity. But remember – my three conditions just suggest that a
country can get out of a debt crisis by creating more debt – they
don’t assert that the bonds will be a good investment. Simply
comparing Greek or U.K. debt to U.S. Treasury bonds is not the golden
ticket to alpha generation in investment markets. U.S. bonds may
simply be a “less poor” choice of alternatives.

Artic claims...

Russia sabre-rattling prior to the Artic Summit:

President Dimitry Medvedev of Russia, heightened the tension between Canada and Russia on Wednesday when he told the UN Security Council that Russia must be prepared to defend its Artic claims.

Russia, the United States, Canada, Denmark and Norway hold claims on the resource rich region. Experts believe that the Arctic holds one quarter of the worlds untapped oil and gas reserves.

Medvedev had said yesterday that some countries attempts to restrict Russia's access to the Arctic is unacceptable he said.

"Regrettably, we have seen attempts to limit Russia's access to the exploration and development of the Arctic mineral resources," he said. "That's absolutely inadmissible from the legal viewpoint and unfair given our nation's geographical location and history."


Very close now.

March 24 (Bloomberg) -- Chinese executives are joining U.S. President Barack Obama in backing a stronger yuan, even as Premier Wen Jiabao says the currency isn’t undervalued.

Yang Yuanqing, chief executive officer of Beijing-based computer maker Lenovo Group Ltd., said appreciation would boost consumers’ purchasing power. Qin Xiao, chairman of China Merchants Bank Co., said an end to the yuan’s 20-month peg to the dollar would let lenders set market-based interest rates. Chen Daifu, chairman of Hunan Lengshuijiang Iron & Steel Group Co., said a stronger currency would cut import costs.

While the comments conflict with Wen, who said March 14 that criticizing the exchange-rate policy amounted to “protectionism,” they are in line with traders who expect the government will let the yuan appreciate later this year. U.S. lawmakers have called on Obama to use the threat of trade sanctions to force an end to a currency regime that they blame for making their nation’s manufacturers uncompetitive.

ALSO (note my emphasis as China gets a Director of Fed Ex to say "hey, it does not really mean anything to carry this label):

US likely to label China 'currency manipulator'
By Ding Qingfen (China Daily)

BEIJING - The US Treasury Department is highly likely to label China a currency manipulator in a report due out in mid-April, but the move will be "more symbolic than substantive" to win mid-term Congressional elections in the fall, former US trade representative Susan Schwab told China Daily on Tuesday.

US likely to label China 'currency manipulator'

"There is a high possibility, definitely (that China will be labeled as a manipulator), but it is very important to remember the decision is largely symbolic and does not force any actions, other than consultations," she said.

If that were the case, it will be the first time in 16 years. By declaring China a currency manipulator, the US could slap additional tariffs on imports from the country.

Some Chinese experts strongly doubt the US will do so as it will provoke Beijing and jeopardize its most important trade relationship, while others believe that even if China were declared a currency manipulator, Washington will not follow up with punitive measures.

Theory vs. Practicality

Yes, Keynes worried about Aggregate Demand. He had to, as he onstensibly invented the concept.

I do not dispute the theory at this time, but the mechanism used (top down bail-outs of the money center banks) was disasterous to start. We must all get over this false dichotomy of KEYNES or FRIEDEMAN????? and get on with solving the problem of deflation. Both have their limitations as both theories rest on child-like views of the world. Reality is more violent.

March 23 (Bloomberg) -- The spending that politicians uncorked as the financial meltdown crippled the global economy in late 2008 and early 2009 followed a script written during the Great Depression by British economist John Maynard Keynes: Use government money to fill the void until consumer spending and business investment revive.

Now it’s the red ink created by this largest-ever application of Keynesian stimulus that’s polarizing political and economic debate, Bloomberg Markets magazine reports in its May issue. One camp argues that deficits and public debt have become the biggest threats to sustained economic growth. The other side says cutting spending too soon will destroy a still- fragile recovery.

“The fact that the world hasn’t slid into another Great Depression, which the collapse of the banking system in 2008 made possible, is because governments followed Keynes,” says Robert Skidelsky, author of a three-volume biography of Keynes and an advocate of keeping public money flowing until robust growth returns. “Governments bailed out financial institutions and allowed their budget deficits to grow -- neither of which happened between 1929 and 1931.”

Six decades after his death, Keynes’s ideas are being put to the test as never before. While the economist wrote his greatest works in the 1930s, he was largely unsuccessful in efforts to persuade U.S. and British leaders to boost government spending during the Depression. Keynes sent a copy of his 1933 treatise, “The Means to Prosperity,” to President Franklin D. Roosevelt and met him in Washington in 1934. Still, in the mid- 1930s, the U.S. cut spending -- and the Depression dragged

Bentham's Panopticon

More philosophical meandering...

Much hysteria and over-reaction has been bandied over the past 2 days regarding big government and the like. It is to be expected.

I note a veritable avalanche of news (planted or not) that seeks to demonstrate constant government infringement on the private lives of citizens (from national identity cards to cameras in national forest campgrounds to the ever-increasing hold of municipalities, state, and Federal governments to levy taxes). I am currently looking to the sky to see if Black Helicopters are performing malicious fly-bys or more helpful leaflet drops here in my native Chicago.

Well, not really.

It is an unfortunate axiom that POWER NEVER SUBSIDES. Once unleashed, institutions, bureaucracies, committees, businesses, etc. do not voluntarily concede territory. They become the institutional equivalent of a species that wishes to propagate itself. This activity is clearly non-exclusive to Government. The wonderful counter valence to this is that most large organizations have no idea what they are doing.

Jeremy Bentham created the Panopticon (surely George Orwell/Eric Blair read about this) in order to control prison populations. However, the practical result of his invention was a paradigm change. Instead of punishing prisoners physically, the state now exerted control over their minds. The constant surveillance, or threat of same, was something totally different from what Bentham envisioned. In today's age of instantaneous information, we should all be aware of the parallels and dangers of Bentham's Panopticon.

Again, POWER NEVER SUBSIDES VOLUNTARILY. It is unnatural. Once created, any organism seeks to vent itself upon the world. The mirror of this is the need for humans to manufacture enemies in times of uncertainty...and those enemies whose combat requires very little effort will be favored by most. It is very EASY to assign conspiracy theories and narratives to the current tempest.

Goodness...I think I just paraphrased Nietzsche. Good night all.

Tuesday, March 23, 2010

Health Care

The only point I will make regarding the Health Care legislation is that is does not appear to address the problem of increased Health Care costs.

Rather, it takes a rather circuitous route via insurance pricing (which government has no special competency in given its radically different incentive structure than profit-driven private enterprise) that will *hopefully* decrease health care costs.

I think this is an illustration of governments ability to use the wrong mechanism in the furtherance of very admirable goals, and the unintended consequences from this bill (if it lasts more than a year) will be discussed in case studies for decades.

On a more serious note, the risks of social instability and political assasination have increased lately. No-one I have spoken with seems to assign ANY probability, however minute, to social instability and the consequences therefrom. I am under no such illusion that "it cannot happen cannot happen now".

As an example to unintended (or intended, as the case may be), note this provision in the bill (soon to be law)


(i) REQUIREMENT- Notwithstanding any other provision of law, after the effective date of this subtitle, the only health plans that the Federal Government may make available to Members of Congress and congressional staff with respect to their service as a Member of Congress or congressional staff shall be health plans that are–

(I) created under this Act (or an amendment made by this Act); or

(II) offered through an Exchange established under this Act (or an amendment made by this Act).

In other words, the act applies to congress, but not the executive office.

The thing about populism, ladies and genetlmen, is that once you appeal to it, a Faustian bargain lingers. Erecting ringfences such as this provision between Caesar and the plebians will only invite disaster.

A brief treatise on treaties...

This history of treaties is not exactly a list of iron-clad agreements that survive political, social and economic upheaval, rather (and to translate into financial terms), they are strange options without a central clearing house to process them. This lack of any central authority to exogenously preside over treaty disputes guarantees that most treaties are mere affirmations of the status quo; ornaments that are manufactured in good times are fragile things at best.

There were attempts to provide some central clearing to treaties...entities such as the UN and NATO come to mind immediately, but in this era of global ECONOMIC cooperation where wealth is derived not from increased territory but by ideas, technology, and productivity, treaties based on military cooperation alone seem rather prehistoric.

Enter the IMF, the World Bank, the WTO, and other multi-lateral institutions that have quickly filled this institutional gap. Unfortunately, the IMF/WB/WTO equivalent of NATO's Blue-Helmeted soldiers will not be able to mend the kind of economic stress the EU currently suffers.

They will get it wrong because, paradoxically, they still analyze sovereign economic problems through the lens of the old territorial/Nato/Cold War paradigm: current account deficits are a priori bad and capital account deficits are a priori good. Trade deficits are bad. Debt/GDP ratios within sovereign currency issuer countries should never go above 60%. Currencies should never be pegged. Massive foreign exchange surpluses are destabilizing to the entire system, etc., etc.

As I have said in a previous post, it is entirely natural for a country that provides security and business services to the rest of the world to enjoy a current account deficit and capital account surplus for many, perhaps hundreds, of years. This was the natural role of the United States in the post-war era, and nothing in this economic downturn will detract from this central, crucial role.

Yes, there are many shoes to drop in the U.S. markets, but by and large, they are known unknowns (in the sense the quantities are unknown) Now, compare and contrast this set of circumstances with that of our potential competitors. It is no comparison.

Dollar denominated bonds...

...being issued by the Iberians.

There are multiple facets to this move, which I think on balance is counterproductive if the Iberians wish to remain in the Euro area.

However, there has been no shortage of hysteria among commentators that this is a naked "bet" against the U.S. dollar as the Iberians prudently place assets into financial obligations that will depreciate over time.

Quite the contrary. This is a symbolic gesture to the international investment community. The currency risk is very, very likely (99.99%) going to be fully hedged with currency swaps and/or futures contracts. Any additional rate risk from unsubscribed issue will also be hedged.

However, it is ALSO about appeasement to any future IMF SDR or similar liquidity facility. The IMF is "heavily" influenced by U.S. policy and to the extent these countries can pay tribute to the U.S. by increasing dollar hegemony at the margin this creates goodwill.

The confidence crisis in the Euro this creates is obvious, and is one of the remaining few bargaining chips the satellite countries have to force the hand of the core EU countries.

Sunday, March 21, 2010

Slow motion...

...The dissembly of the Euro area continues. An arrangement to centralize monetary policy but maintain fiscal policy and taxation power among the member states is inherently unstable.

The epoch of ever-more intertwining between sovereign nations has reached a negative balance point. "Progress" is a largely fictional invention. Progress toward what, I always ask? More's Utopia? Plato's Republic? Marx's just equilibrium?

March 20 (Bloomberg) -- The euro posted its biggest five- day drop against the dollar since January as European Union leaders sparred over financial assistance to Greece before a summit meeting next week, damping appetite for the currency.

The dollar and the yen rose against most major counterparts as India unexpectedly raised interest rates and commodities fell, discouraging demand for assets linked to growth. The euro declined against most major currencies after German Chancellor Angela Merkel said on March 17 the International Monetary Fund may be the only answer to Greece’s problems.

“Germany saying it wants the IMF involved creates more uncertainty of what the commitment is to provide Greece support,” said Ronald Leven, a New York-based currency strategist at Morgan Stanley. “Greece getting a credible fiscal policy in place -- that’s what matters.”

The euro slid 1.7 percent, the most since a 2 percent drop for the five days ended Jan. 29, to $1.3530 yesterday, from $1.3769 on March 12. The 16-nation currency fell 1.8 percent to 122.51 yen, from 124.69 a week earlier. The dollar was little changed at 90.54 yen, compared with 90.56.

Thursday, March 18, 2010

The prosecution stands...

I rest my case regarding the rule of law in China.

(From a recent Bloomberg article)

Under Article 126 of the Chinese constitution, judges aren’t barred from political interference, whereas it states that courts should be free from interference by administrative organs, social organizations and individuals.

Law and Politics

“Will politics play a role? Of course it will,” said Nanping Liu, co-founder of Shanghai law firm Liu & Wang.

What makes a Chinese judge “outstanding” is the ability to juggle legal and political issues simultaneously, said Li Shicheng, vice-president of the High People’s Court of Sichuan province.

The moon draws closer to the earth...

...At least in figurative investment terms. This sequence of *all* asset classes rising is something that happens 1-2 times per decade. The tide rises and lifts any boat, no matter the condition of its engine or...

My apologies, I almost fell into the narrative trap.

Next week should be interesting.

ZIRP and tax

Not good for fixed income, if this passes (and prediction markets place a greater than 75% chance of the bill passing)

March 18 (Bloomberg) -- Democratic congressional leaders would raise to 3.8 percent the Obama administration’s proposed new Medicare tax on investment income to generate an estimated $210 billion to help fund a health-care overhaul plan.

The rate is higher than the 2.9 percent President Barack Obama proposed in February. The new tax would apply to income from interest, dividends, annuities, royalties, capital gains and rents for individuals who earn more than $200,000 annually and joint filers reporting more than $250,000, according to the legislation.

“It’s a big deal,” said Clint Stretch, a tax analyst for the consulting firm Deloitte Tax LLC. “It extends dramatically the reach of the Medicare hospital insurance tax.”

The first-time Medicare tax on investment income would start in 2013. It would push tax rates on capital gains and dividends that year to 23.8 percent for high-income people if Congress goes along with Obama’s proposal to let those rates rise to 20 percent in 2011 from the current 15 percent. It would be the highest rate for long-term capital gains since 1997.

Meanwhile, in Europe...

The standoff itensifies:

March 18 (Bloomberg) -- Greek Prime Minister George Papandreou set a one-week deadline for the European Union to craft a financial aid mechanism for Greece, challenging Germany to give up its doubts about a rescue package.

Papandreou said he may turn to the International Monetary Fund to overcome Greece’s debt crisis unless leaders agree to set up a lending facility at a summit March 25-26. The IMF option has already been dismissed by European Central Bank President Jean-Claude Trichet and French President Nicolas Sarkozy, who say it would show the EU can’t solve its own crises.

“It’s an opportunity to make a decision next week at the summit,” Papandreou told reporters in Brussels today. “This is an opportunity we should not miss. When you have that instrument in place, that could be enough to tell the markets hands off, no speculation, let this country do what it’s doing.”

Most unfortunate...

...that one of them more stable countries in Sub-Saharan Africa is spiraling further and further into parochial struggles for oil revenues.

Nigeria's acting president, Goodluck Jonathan, has dissolved the country's cabinet.

Mr Jonathan became acting president in February amid the continuing illness of President Umaru Yar'Adua.

Mr Yar'Adua went to Saudi Arabia for treatment in November last year and, despite returning to Nigeria recently, has not been seen in public.

One outgoing cabinet minister denied there was any power vacuum, saying civil servants would take over.

The cabinet was picked by Mr Yar'Adua and correspondents say Mr Jonathan is now trying to stamp his own authority.

Observers see Wednesday's move as an attempt to consolidate power at the expense of Mr Yar'Adua.

Fall on your sword...

Justice, NORK style.

Very close to of the reasons I surmised an invasion/appropriation by China is a more likely outcome than Western military response.

So they execute a man who likely had little idea how to effectuate a devaluation that was inherently subject to many, many variables. "Intentionally" harming the country's economy. His "fair trial" must have been expedited as it only took 4 months from charges to execution. Very efficient!

and, of course, completely arbitrary.

March 18 (Bloomberg) -- North Korea executed an official of the ruling party last week, holding him responsible for unrest sparked by a botched currency revaluation aimed at reasserting the regime’s grip on power, according to media reports.

Pak Nam Gi, who was fired earlier this year from his post as Workers’ Party head of finance and planning, was shot in Pyongyang for intentionally harming the country’s economy, Yonhap News reported, citing people it didn’t identify. Free North Korea Radio, run by North Korean defectors in Seoul, yesterday reported widespread rumors of the execution.

The reported execution is the latest sign of efforts by Kim Jong Il’s government to appease the public after the currency revaluation fueled inflation, worsened shortages of goods and food, and decimated savings. Premier Kim Yong Il made a rare apology after the currency was devalued between Nov. 30 and Dec. 6, and the sum that could be exchanged for new notes capped, Seoul-based rights groups including Good Friends said.

“North Korea must have needed a political scapegoat to take the fall after discontent seeped through every corner of society,” said Paik Hak Soon, director of inter-Korean relations at the Seongnam, South Korea-based Sejong Institute. “The killing may initially conciliate the public. More important is whether the government can ultimately solve the problem of goods shortages.”

CPI and earnings growth...

Both appear to be tipping into deflation territory.

Wednesday, March 17, 2010

The Paper Dragon... losing its teeth at an alarming rate. It is increasingly obvious (finally) to the rest of the world that a bubble based on infinite foreign demand for goods WITHOUT a correspondingly strong, ubiquitous currency that enjoys "favored reserve" status for nations that desire to net save Financial Assets will pop at the first sign of waning demand.

The U.S. can comparatively ramp up export production until the next large cycle (I have argued that U.S. success in manufacturing post-war guaranteed the switch to our current manifestation of large capital account surpluses, implying large current account deficits, large trade deficits, etc.) How can it do this? By providing both security and rule-sets that protect allies and give order to the world. We export ORDER.

Conversely, China enjoys a tremendous amount of industry, but without the same Actonian strictures we place on our government (to the extent this may be changing in this country is a subject for another post...or another blog). Corruption and cronyism on a massive scale was inevitable. But there is no symmetrical ability, like the United States has proven, to adapt to adverse economic consequences and shift production and demand. The obvious reason is central planning cannot, has not, and will never work.

Readers here have known this for over three years, and soon we will focus on other parts of the world that I have alluded to in previous posts. This Junk has sailed.

March 17 (Bloomberg) -- China is in the midst of “the greatest bubble in history,” said James Rickards, former general counsel of hedge fund Long-Term Capital Management LP.

The Chinese central bank’s balance sheet resembles that of a hedge fund buying dollars and short-selling the yuan, said Rickards, now the senior managing director for market intelligence at McLean, Virginia-based consulting firm Omnis Inc.

“As I see it, it is the greatest bubble in history with the most massive misallocation of wealth,” Rickards said at the Asset Allocation Summit Asia 2010 organized by Terrapinn Pte in Hong Kong yesterday. China “is a bubble waiting to burst.”

What happens when...

...every budget, from states/cantons/provinces, to federal states, depends on rigorous global growth and higher nominal and real GDP figures for its projections and financing requirements?

A large flat-top...

...floating in the North Arabian sea as of today. Interesting.


PPI Negative. Data for the coming two quarters will be crucial.

The Producer Price Index for Finished Goods declined 0.6 percent in February, seasonally adjusted, the U.S. Bureau of Labor Statistics reported today. This decrease followed a 1.4 percent advance in January and a 0.4-percent increase in December. At the earlier stages of processing, prices received by producers of intermediate goods moved up 0.1 percent and the crude goods index fell 3.5 percent. On an unadjusted basis, prices for finished goods advanced 4.4 percent for the 12 months ended February 2010, their fourth consecutive 12-month increase.

Tuesday, March 16, 2010

Albert Edwards and Soc Gen...

...seeing the light.

Rest of the world catching up to what has been discussed here for over a year now. Full article and research report available on 0hedge.

While unit labour costs decline at an unprecedented rate, they are sucking us inevitably into a Fisherian, debt-deflation spiral. Only then will we see how far policymakers are willing to go to debauch the currency. Last year saw them cross the Rubicon. Monetisation is now the policy lever of first resort.
- Albert Edwards, Soc Gen


The Committee will maintain the target range for the federal funds
rate at 0 to 1/4 percent and continues to anticipate that economic
conditions, including low rates of resource utilization, subdued
inflation trends, and stable inflation expectations, are likely to
warrant exceptionally low levels of the federal funds rate for an
extended period. To provide support to mortgage lending and housing
markets and to improve overall conditions in private credit markets,
the Federal Reserve has been purchasing $1.25 trillion of agency
mortgage-backed securities and about $175 billion of agency debt;
those purchases are nearing completion, and the remaining transactions
will be executed by the end of this month. The Committee will continue
to monitor the economic outlook and financial developments and will
employ its policy tools as necessary to promote economic recovery and
price stability.

Unleash the Kraken!

...logistics being the lynchpin of any war effort, the unstoppable force that is the United States Leviathan (to coin a term for the U.S. conventional military force from Thomas PM Barnett) rumbles into action. The U.S. cannot be accused of lacking a credible use of force in the region>.

The title of this post refers to the modern remake of a movie from the 1980s called "Clash of the Titans", in which an old analog stop motion clay beast is brought to (well...stop motion life) on film. The new version of the movie includes a digitized monster far with much more "shock and awe" factor.

Plus ce change...

Hundreds of powerful US “bunker-buster” bombs are being shipped from California to the British island of Diego Garcia in the Indian Ocean in preparation for a possible attack on Iran.

The Sunday Herald can reveal that the US government signed a contract in January to transport 10 ammunition containers to the island. According to a cargo manifest from the US navy, this included 387 “Blu” bombs used for blasting hardened or underground structures.

Experts say that they are being put in place for an assault on Iran’s controversial nuclear facilities. There has long been speculation that the US military is preparing for such an attack, should diplomacy fail to persuade Iran not to make nuclear weapons.

Although Diego Garcia is part of the British Indian Ocean Territory, it is used by the US as a military base under an agreement made in 1971. The agreement led to 2,000 native islanders being forcibly evicted to the Seychelles and Mauritius.

The Sunday Herald reported in 2007 that stealth bomber hangers on the island were being equipped to take bunker-buster bombs.

WIth a straight face...

...the ratings agencies continue to betray their lack of understanding when it comes to fiat sovereign currency issuers, especially when said issuer is the reserve currency for the entire world. Again, if debt ratios were causal to rate increases, why has Japan been at or (very) near zero rates with debt/GDP approaching 200%??

NEW YORK (Fortune) -- The United States isn't in jeopardy of losing its gold-plated credit rating, though by one measure America is closer to the ratings-downgrade danger zone than Spain.

That's according to credit rating agency Moody's. In a quarterly report about sovereign debt, Moody's analysts wrote that despite market worries about rising government debt levels, there is "no imminent rating pressure" for the United States and other big governments carrying its highest triple-A rating.

But the report added that these governments' margin for error "has in all cases substantially diminished," thanks to a weak outlook for economic growth and enormous debt loads taken on to quell the financial meltdown of 2008-2009.

Cutting back on public spending too soon risks a double-dip recession, Moody's said, while leaving stimulus measures in place too long could lead to a sharp rise in interest rates "with more abrupt rating consequences a possibility."

Monday, March 15, 2010

Niall Ferguson goes populistic, part II

Full article here.

Not very useful. Another grand statement that basically can be summed up much more elegantly in Latin:

sic transit gloria mundi

My favorite sentence: "Washington, you have been warned".

Wonderful. Warned that the effects of climate change "could be more than a century away"??? If we are now discussing possibilities, could it also be a Billion years away?

As for the "inexorable growth" of China, we shall see.

What a confused article, first arguing that the fall of empires is protracted, but then spending much of the remainder reminding the unwashed reader that "non-linearity" can also happen as well. Add in "fat tails" (I am surprised he did not go for the leptokurtic appellation) and "narrative fallacy" and all of a sudden the article jumps the proverbial shark into the tank of uselessness.

Saying something, yet saying nothing. If something happens, credit is taken. If nothing happens, its still inevitable.

Isn't the world supposed to end in 2012 anyways?

The exchanges between China and the U.S...

...Have been wonderfully entertaining to witness. It seems the media across the world had been busy over the weekend in order to function as the equivalent of a school playground instigator ("hey, did you hear what Bobby said about you?).

In any case, the substantive issue in this verbal game of Chicken that encompasses exchange rates and trade policy is whether or not demand from somewhere, anywhere, can soak up China's huge overcapacity. Since it appears clear that China will not enjoy the kind of trade surplus (either by currency realignment or more aggressive tariffs) it must now engineer demand. Instead, it opted to increase industrial capacity even more in the hopes of outlasting this recession, in effect doubling down on its mercantilist wager. This has a very, very high probability of failure as globalization 3.0 will not be kind to this kind of imbalance. The world has changed and failure to adapt to the new conditions in countries that previously ran huge trade imbalances with China is a mistake.

China's position as a pseudo-crony capitalist state will be exposed with underwriting standards on loans to communist party members (with strict orders to make exportable goods) approaching the level of diligence on sub-prime "liar" loans.

China has much more to lose here. It is unfortunate that the current executive administration does not realize this.

And all of this is happening in a regime only slightly less opaque than its neighbor North Korea. The numbers simply have to be much, much worse than the "official" figures coming out of Beijing would have us believe.

Not a good situation, and I am pleased the world appears to finally be catching up to these issues I have been trying to bring forth to our collective attention for years.

Sunday, March 14, 2010


An interesting non-denial of involvement...

WASHINGTON (Reuters) - The United States on Friday denied coordinating plans by Somalia's embattled government to launch an offensive against Islamist fighters, saying it had no plans to "Americanize" the conflict.

Assistant Secretary of State Johnnie Carson described as inaccurate reports suggesting that U.S. officials were ready to get more militarily involved as Somalia's government fights the Islamist al Shabaab, which has been linked to al Qaeda.

"The United States does not plan, does not direct, and does not coordinate the military operations of the TFG (transitional federal government) and we have not and will not be providing direct support for any potential military offensives," Carson said.

Carson told a news briefing the United States had provided limited military support to the transitional government, but that almost all of this was channeled through an African Union peacekeeping effort.

Saturday, March 13, 2010

Chinese banks are insolvent?

...Readers here are scratching their heads as if to say "Why tell us this now?".

Its not just the stimulus program to blame, but a multi-decade misallocation of capital based on government whim.

Full article.

March 13 (Bloomberg) -- China may be forced to bail out banks that made loans for local-government projects under the unprecedented stimulus program unleashed in 2008, according to Citigroup Inc. and Northwestern University’s Victor Shih.

In a “worst-case scenario,” the non-performing loans of local-government investment vehicles could climb to 2.4 trillion yuan ($350 billion) by 2011, Shen Minggao, Citigroup’s Hong Kong-based chief economist for greater China, said yesterday.

“The most likely case is that the Chinese government will engineer a massive financial bailout of the financial sector,” said Shih, a professor who spent months researching borrowing by about 8,000 local government entities.

Friday, March 12, 2010


I may be ignorant and this type of behavior could be influenced by local culture, but the former breadbasket of Africa, Zimbabwe, is being quickly devolving into a Hobbesian grotesque.

S&P: warns on U.S. AAA rating.

A familiar refrain. The next credible competitor to the exhalted reserve currency status of the dollar is...the Euro?

S&P warns over America’s top-tier rating
Posted by Stacy-Marie Ishmael on Mar 11 20:16.

The triple A rating of the US is at risk, unless the country adopts a credible medium-term plan to rein in fiscal spending, the FT reported. The warning came from rating agency Standard & Poor’s which said there were risks that “external creditors could reduce their US dollar holdings, especially if they conclude that eurozone members are adopting stronger macroeconomic policies”.

And of course, see the 10yr. Treasury performance after a previous incarnation of this analysis.

From September 17, 2008:

(Reuters) - Pressure is building on the pristine "AAA" rating of the United States after a federal bailout of American International Group Inc, the chairman of Standard & Poor's sovereign ratings committee said on Wednesday.

The $85 billion bailout of AIG on Tuesday by the U.S. Federal Reserve "has weakened the fiscal profile of the United States," S&P's John Chambers told Reuters in an interview.

"Lack of a pro-active stance could have resulted in further financial stress and put pressure on the U.S. triple-A rating," Chambers said. "There's no God-given gift of a 'AAA' rating, and the U.S. has to earn it like everyone else."

Thursday, March 11, 2010

Chinese Inflation?

There is ample precedent...

"After having for years tried to support and maintain these (paper) notes, the people had no longer any confidence in them, and were positively afraid of them. For the payment for government purchases was made in paper. The fund of the salt manufactories consisted of paper. The salaries of all the officials were paid in paper. The soldiers received their pay in paper. Of the provinces and districts, already in arrears, there was not one that did not discharge its debts in paper. Copper money, which was seldom seen, was considered a treasure. The capital collected in former days was...a thing not even spoke of any more. So it was natural that the price of commodities rose, while the value of the paper money fell more and more. This caused the people, already disheartened, to lose all energy. The soldiers were continually anxious lest they should not get enough to eat, and the inferior officials in all parts of the empire raised complaints that they had not even enough to procure the common necessities. All this was a result of the depreciation of the paper money"

Ma Tuan-lin, 1245 AD.

Convention time in China

Full article here.

The official purpose of the meeting of the National People's Congress from March 5 to 14 in Beijing is to review and pass new legislation. But given that there's no separation of powers in China and that some of those who will vote on the laws were also involved in drafting them, the gathering is largely symbolic.

The more interesting discussions are happening behind the scenes, because this year's people's congress is the unofficial start of mid-term jockeying for the 2012 Communist Party Congress where the next generation of leaders will take the reins from Hu Jintao and Wen Jiabao.

Titrating modern international relations...

encapsulated in music and song:

Power, struggle, resistance, the problems associated with organization etc. The

The U.S. still enjoys primacy but...

S&P displaying their outdated analysis. Full link here. I say this because the definition of "debt" under this aldous huxleyian brave new world of soft currency fiat money is a misnomer.

(Reuters) - The U.S. dollar is still the most important world currency, Standard & Poor's said on Thursday, but added that rising levels of U.S. debt and dependence on foreigners to finance much of pose risks to the currency's primacy.

Without a credible plan to rein in fiscal spending, the agency said external creditors could reduce dollar holdings, which could put pressure on the United States' 'AAA' credit rating, which keeps government borrowing costs low.

For now, the credit ratings agency said the size of the U.S. economy -- the world's largest -- and the depth of its financial markets mean the dollar will continue to dominate global trade and foreign exchange transactions.

Those advantages helped the dollar retain its top status despite the financial crisis of 2008-09, which began in the United States, S&P said in the report.

The agency also said the dollar's role is an important factor supporting the United States' AAA credit rating -- the highest investment-grade rating.

Wednesday, March 10, 2010

When three pillars is not enough.

It is safe to say, in retrospect of course, that the Basel II rules and regulations regarding bank capital standards failed miserably in its first field test.

International rules being what they are (hashed out by years of tedious consensus forming negotiations), being behind the curve is part and parcel of the business.

That said, let us look at the "three pillars" (more akin to a chair with three legs) of the accord:

1: minimum capital requirements. Collectively, across the globe, banks were short over 600 Billion in capital. Unfortunately for Basel II and the regulators, the promulgators of financial instruments were far, far more sophisticated in smoothing huge risks via daisy-chain diversification.

2: supervisory review. Completely captured by the immensely profitable international banking system.

3 market discipline. This obviated itself. Market disclipline was circumvented in the name of crisis management.

So what is my point?

There is a massive tapestry of international rules and "laws" that have been generated in the post-war (that would be WWII) in order to foster international cooperation and connectivity. The Recapitulator applauds this. However, let us not be naive. This is, historically speaking, an anomaly...and the clarion panglossian call of "this time it is different" (or rather "this time someone has finally figured out how to achieve perfect balance and order in economies, in nations, and in people") always has an audience rapt with attention.

Progress is not linear. It is not follows some invisible metronome, silently allocating power until critical momentum is reached. Then, a reversal.

Prodi: "That was a close one guys"

The coast is clear, says Mr. Prodi.

March 10 (Bloomberg) -- The worst of Greece’s financial crisis is over and other European nations won’t follow in its path, said former European Commission President Romano Prodi.

“For Greece, the problem is completely over,” said Prodi, who was also Italian prime minister, in an interview in Shanghai today. “I don’t see any other case now in Europe. I don’t think there is any reason to think the euro system will collapse or will suffer greatly because of Greece.”

Greek officials are trying to convince investors they can cut the nation’s budget deficit, which at 12.7 percent of gross domestic product was Europe’s largest in 2009. The government last week announced spending cuts and tax increases totaling 4.8 billion euros ($6.5 billion), the third round of austerity measures this year.

Why banks are not lending, a continuing series...

Not only are capital markets in flux for large money center banks, but political capriciousness is a major risk as well. This is a blogpost about the second lien issues banks are facing. The article makes some strange assumptions regarding default rates, but the second lien issue is an important one. This, combined with Commercial Real Estate and the option-ARM resets in the next two years, will keep banks holding on to capital for dear life.

This all could have been ameliorated or (albeit unlikely) avoided if the bottom-up solution of an immediate tax holiday was instituted, but the Fed and the Treasury still hold on to policies that have little applicability.

And so, banks now must gauge whether or not the policies suggested by an already embattled Treasury (such as paying an "extinguishment fee" to banks willing to liquidate their second lien assets) are politically viable.

The Paper Dragon...

...experiencing a (very) mean reversion.

This is partly reflected in higher commodity prices China must buy to satiate its manufacturing appetite (itself a function of control for the Communist Party).

But where IS the Paper Dragon getting those wonderful GDP figures from if net exports have been declining for over a year? Did a quarter of a Trillion dollars in domestic demand materialize out of the ether?

Of course not. Once those capital intensive negative present value projects financed by "loans" from Communist controlled banks begin defaulting in earnest, perhaps maybe, just maybe, we will see Chinese GDP figures ensconced on something approaching reality.

Tuesday, March 09, 2010

European Monetary Fund...

...being bandied about by the political/intelligentsia crowd. It appears untenable given the current climate and its response to transferrals based on malfeasance or incompetance...and especially, dare I say, if said funds come from protestant to catholic countries.

LUXEMBOURG/FRANKFURT, March 9 (Reuters) - European policy makers played down on Tuesday the idea of creating a European Monetary Fund, saying it was at most a long-term project that did not offer a solution to Greece's immediate debt problems.

Influential German central bank chief Axel Weber, seen as front-runner to be the next president the European Central Bank, branded discussion of a fund that could aid euro zone countries in financial distress "counterproductive". [LAG006164]

"It's not helpful to talk about ways to institutionalise help when the question is how to implement the (Greek) budget reforms," Weber told a news conference, saying the "no bailout clause" was central to European monetary union.

His concerns echoed strong criticism by ECB Executive Board member Juergen Stark, who said on Monday that such a fund would penalise countries with solid finances and encourage wayward spending. [ID:nLDE62720I]

Monday, March 08, 2010

Competitive Advantage

If you live in a totalitarian state that uses propaganda, racism, and mythology to control the populace, chances are you will have a good supply of artists and craftsman who excel at populistic imagery. North Korea is no exception to the general Ricardian rule of comparative advantage. Of course, it is unfortunate that global demand for 50 Meter statues depicting stylized humans "resisting" who knows what does not quite fill the coffers of North Korea enough to feed its 24 Million"citizens".

The latest triumph is the African Renaissance Monument in Senegal. Spending roughly 1% of 2009 GDP on this talisman is a wonderful example of the risks involving in African investment. Of course, equity investors in America can certainly point to examples where Executives have spent equally absurd amounts for equally absurd displays of status, but at least we have shareholders derivative suits and some semblance of corporate governance law to rely upon both ex ante, during, and ex post an event such as this.

IMF as herald

Africa taking center stage in the latest barrage of official visits and communique from the IMF, and, it being heavily influenced by U.S. policy makers, we see the growing shift to the antipodes in action.

All that is required now is a crisis in Latin America forcing U.S. involvement, and the modern corollary to the Monroe Doctrine will commence and eventually be implemented de facto.

IMF Managing Director Strauss-Kahn Calls on Africa to Rebuild Policy Foundations Shaken by Global Economic Crisis
Press Release No. 10/73
March 8, 2010

In a speech in Nairobi, Kenya, Mr. Dominique Strauss-Kahn, Managing Director of the International Monetary Fund (IMF), assessed the impact of the global economic and financial crisis on Africa. While noting that the crisis had struck Africa through many different channels, he said that “all across the continent, we can see signs of life, with rebounds in trade, export earnings, bank credit, and commercial activity.” He said the IMF expects growth of around 4½ percent in 2010. “In short, I think that Africa is back—although a lot depends on a global recovery that is in its early stages.”

Africa’s Economic Transformation—the Road Ahead
An Address by Dominique Strauss-Kahn, Managing Director of the International Monetary Fund
At the Kenya International Conference Center
Nairobi, March 8, 2010

As Prepared for Delivery

Good morning. It’s a great privilege to take part in this distinguished panel discussion. A year ago, I participated in a similar dialogue in Tanzania, focused on how the global financial crisis was affecting Africa. And now, a year later, attention turns to Africa’s economic transformation after the crisis. This debate could not be more important or more timely.

Sunday, March 07, 2010


The End Of Timers have come out out unanimously against the Congressional Budget Office's report concerning the future deficit position of the U.S. "Bankrupt in ten years" they cry.

Of course, no estimation is given on the error rate of the CBOs estimated in previous reports. This is important because the EOTers claim that in 2020 the Debt/GDP ratio will be 90%. The denominator of the ratio is obviously the controlling factor in this ratio and the CBOs estimates call for effectively zero growth for the next three years. While certainly possible, how likely are these estimates to come to fruition?

Various estimates of publicly held debt are bandied about in support of the EOTers end position, and yet, the External Debt position has not changed since 2007.

A simple question

What is the functional difference between a sovereign country deceptively concealing its full off-balance sheet obligations in the hope that future GDP growth will markedly outstrip any future coupon and principal liabilities AND a Hedge Fund taking a position about the future ability of said nation to actually meet its obligations given a global recession?

Populism makes its own rules.


A threat must be specific, credible, and imminent to be optimal. Note the use of tacit or explicit government guarantees are being shopped round the globe and the ham-fisted manner they are forwarded (the worst case being Mr. Frank here in the U.S.)

March 7 (Bloomberg) -- French President Nicolas Sarkozy said the euro region must be ready to help Greece should it struggle to fund its budget deficit, arguing that the country is “under attack” from so-called speculators.

“We have measures, we are ready, we are determined,” he said in Paris after a meeting with Greek Prime Minister George Papandreou. “Market speculators should know that solidarity means something.”

EU leaders are trying to warn investors not to make further bets against Greek bonds after the government last week passed a further round of austerity measures and successfully sold 5 billion euros ($6.8 billion) in debt. The spread between the yield on Greek 10-year bonds and their German counterparts fell to the lowest in three weeks on March 3.

The Paper Dragon clips the wings...

Of its smaller offspring.

March 8 (Bloomberg) -- China plans to nullify all guarantees local governments have provided for loans taken by their financing vehicles as concerns about credit risks on such debt surges.

The Ministry of Finance will also ban all future guarantees by local governments and legislatures in rules that may be issued as soon as this month, Yan Qingmin, head of the banking regulator’s Shanghai branch, said in an interview. The ministry held meetings on the rules on Feb. 25 with regulators including the China Banking Regulatory Commission and the People’s Bank of China, Yan said March 5.

China’s local governments are raising funds through investment vehicles to circumvent regulations that prevent them from borrowing directly. A crackdown on local- government borrowing, estimated at about 24 trillion yuan ($3.5 trillion) by Northwestern University Professor Victor Shih, could trigger a “gigantic wave” of bad loans as projects are left without funding, Shih said this month.

Locusts, Gnomes, and Speculators

The instrument is not the problem. There will always, ALWAYS, be a way to profit off governmental incompetance, just as there will always be political repercussions in order to misdirect blame from those engaging in the objectionable behavior. Muntefering referred to these opportunists as "locusts" in 2005 and there will be countless more examples of this in the coming year.

Merkel calls for end to speculators who bet against Greece
Carl Mortished, World Business Editor

Angela Merkel, the German Chancellor, lashed out at speculators and called for curbs on the derivatives markets, which she said were being used to profit from the financial distress of Greece.

The German Chancellor said that Europe must ensure that speculators were prevented from damaging Greece or other countries and said that she would discuss regulation of the credit defaults swaps (CDS) market with the United States. “We must succeed at putting a stop to the speculator’s game with sovereign states,” Mrs Merkel said. The Chancellor was speaking after a meeting with George Papandreou, the Prime Minister of Greece.

The Chancellor said that there was no need for a bailout of Greece by fellow eurozone members and she rounded on speculators for betting against Greece. Hedge funds were excluded from participation in a €5 billion bond sale this week by the Greek

The true standard of fairness... that something is "fair" when it benefits you. We will see what the ultimate penalty is for disregarding the international financial rule-sets that allowed Iceland to benefit from regulatory arbitrage.

March 7 (Bloomberg) -- Icelanders rejected by a massive majority a
bill that would saddle each citizen with $16,400 of debt in protest at
U.K. and Dutch demands that they cover losses triggered by the failure
of a private bank.

Ninety-three percent voted against the so-called Icesave bill,
according to preliminary results on national broadcaster RUV. Final
results will be published today.

The bill would have obliged the island to take on $5.3 billion, or 45
percent of last year’s economic output, in loans from the U.K. and the
Netherlands to compensate the two countries for depositor losses
stemming from the collapse of Landsbanki Islands hf more than a year
ago. The island’s political leaders say they’ve already moved on to
talks over a new accord.

“The government’s survival doesn’t rest with this Icesave vote,” Prime
Minister Johanna Sigurdardottir told RUV after the preliminary count
was announced. “The government coalition remains solid,” Finance
Minister Steingrimur Sigfusson told RUV.

Failure to reach an agreement on the bill has left Iceland’s
International Monetary Fund-led loan in limbo and prompted Fitch
Ratings to cut its credit grade to junk. Moody’s Investors Service and
Standard & Poor’s have signaled they may follow suit if no settlement
is reached.