‘Gold's advance to super cycle indicates demise of dollar, collapse of economy’
By Jijo Jacob
The runaway rise in gold prices is here to stay. And that is not just bad news to the U.S. economy. A sustained gold and oil boom indicates that the dollar is slipping into grave danger and the economy closer to collapse.
"... when these commodities go up in price it is a sign that the U.S. dollar is dying and that our country is getting closer to economic collapse," Michael Snyder wrote in Daily Markets on Thursday.
In simple words, the gold and silver boom indicates that investors everywhere in the world are losing trust in the dollar and the U.S. government treasuries. And they seek out something they can trust more.
A Standard chartered Bank report on Thursday said dollar will further weaken against the Chinese yuan and Indian rupee.
Synder blames the quantitative easing for the loss of dollar value. He says the policy of pumping huge amounts of money into the financial system is highly inflationary and a form of cheating.
He says it is "like playing Monopoly with someone that reaches under the table and pulls out a bunch of extra money when they are almost broke."
"The U.S. has been running trillion dollar deficits for several years now, and this has created a lot of new money." And he says the rest of the world is now seriously doubting the sustainability of U.S. government debt. And this is reflecting in the commodities boom.
The Standard Chartered bank report said gold prices could reach $2100 by 2014 per ounce and that as high a price as $5000 per ounce by the end of the decade is possible.
Gold prices have currently crossed the new record peak of $1460, which is a manifold jump from a lowly $265 at the start of the decade.
The bank said gold prices are yet to hit the super cycle as demand from the emerging economies like China and India will scale to peak levels later in the current decade.
"We find that there is a powerful relationship between income per head in Asian emerging markets and the gold price, which suggests further significant upside for gold," the report says.
Besides gold, silver is inching to another peak of $40 and there is already talk that it will soon touch $50. While the rise of oil prices is owing to different a set of reasons, this also implies serious troubles for the U.S. economy.
Snyder says high oil prices are indicative of greater damage to the economy than high gold prices.
Showing posts with label US. Show all posts
Showing posts with label US. Show all posts
14 April 2011
20 January 2011
GEAB N°51 is available! Systemic global crisis - 2011: The ruthless year, at the crossroads of three roads of global chaos
This GEAB issue marks the fifth anniversary of the publication of the Global Europe Anticipation Bulletin. In January 2006, on the occasion of the first issue, the LEAP/E2020 team indicated that a period of four to seven years was opening up which would be characterized by the “Fall of the Dollar Wall”, an event similar to the fall of the Berlin Wall which resulted, in the following years, in the collapse of the communist bloc then that of the USSR. Today, in this GEAB issue, which presents our thirty-two anticipations for 2011, we believe that the coming year will be a pivotal year in the roll out of this process between 2010 and 2013. It will be, in any case, a ruthless year because it will mark the entry into the terminal phase of the world before the crisis (1).
Since September 2008, when the evidence of the global and systemic nature of the crisis became clear to all, the United States, and behind it the Western countries, were content with palliative measures that have merely hidden the undermining effects of the crisis on the foundations of the present-day international system. 2011 will, according to our team, mark the crucial moment when, on the one hand, these palliative measures see their anesthetic effect fade away whilst, in contrast, the consequences of systemic dislocation in recent years will dramatically surge to the forefront (2).
In summary, 2011 will be marked by a series of violent shocks that will explode the faulty safety devices put in place since 2008 (3) and will carry off, one by one, the “pillars” on which the “Dollar Wall” has rested for decades. Only the countries, communities, organizations and individuals which, over the last three years, have actually undertaken to learn the lessons from the current crisis to distance themselves as quickly as possible from the pre-crisis patterns, values and behavior will get through this year unscathed; the others will be carried away in the procession of monetary, financial, economic, social and political difficulties that 2011 holds.
Thus, as we believe that 2011 will, globally, be the most chaotic year since 2006, the date of the beginning of our work on the crisis, in this GEAB issue our team has focused on 32 anticipations for 2011, which also include a number of recommendations to deal with future shocks. Thus, this GEAB issue offers a kind of map forecasting financial, monetary, political, economic and social shocks for the next twelve months.
If our team believes that 2011 will be the worst year since 2006, the beginning of our anticipation work on the systemic crisis, it’s because it’s at the crossroads of three paths to global chaos. Absent fundamental treatment of the causes of the crisis, since 2008 the world has only gone back to take a better jump forward.
A bloodless international system
The first path that the crisis can take to cause world chaos is simply a violent and unpredictable shock. The dilapidated state of the international system is now so advanced that its cohesion is at the mercy of any large-scale disaster (4). Just look at the inability of the international community to effectively help Haiti over the past year (5), the United States to rebuild New Orleans for six years, the United Nations to resolve the problems in Darfur, Côte d'Ivoire for a decade, the United States to progress peace in the Middle East, NATO to beat the Taliban in Afghanistan, the Security Council to control the Korean and Iranian issues, the West to stabilize Lebanon, the G20 to end the global crisis be it financial, food, economic, social, monetary, ... to see that over the whole range of climatic and humanitarian disasters, like economic and social crises, the international system is now powerless.
In fact, since the mid-2000s at least, all the major global players, at their head of course the United States and its cortege of Western countries, do no more than give out information, or gesticulate. In reality, all bets are off: The crisis ball rolls and everyone holds their breath so it doesn’t fall on their square. But gradually the increasing risks and issues of the crisis have changed the casino’s roulette wheel into Russian roulette. For LEAP/E2020, the whole world has begun to play Russian roulette (6), or rather its 2011 version, “American Roulette” with five bullets in the barrel.
Monthly progression of the FAO food index (2010) and the price of principal foodstuffs (2009/2010) (base 100: averaged over 2002-2004) - Source: FAO/Crikey, 01/2011
Soaring commodity prices (food, energy (7),...) should remind us of 2008 (8). It was indeed in the six months preceding Lehman Brothers and Wall Street’s collapse that the previous episode of sharp increases in commodity prices was set. And the actual causes are the same as before: a flight from financial and monetary assets in favour of “concrete” investments. Last time the big players fled the mortgage market and everything that depended on it, as well as the U.S. Dollar; today they are fleeing all financial stocks, Treasury bonds (9) and other public debts. Therefore, we have to wait for a time between Spring and Autumn 2011 for the explosion of the quadruple bubble of Treasury bonds, public debt (10), bank balance sheets (11) and real estate (American, Chinese, British, Spanish,... and commercial (12)), all taking place against a backdrop of a heightened currency war (13).
The inflation induced by US, British and Japanese Quantitative Easing and similar stimulus measures of the Europeans and Chinese will be one of the destabilizing factors in 2011 (14). We will come back to this in more detail in this issue. But what is now clear with respect to what is happening in Tunisia (15), is that this global context, especially the rise in food and energy prices, now leads on to radical social and political shocks (16). The other reality that the Tunisian case reveals is the impotence of the French, Italian or American “godfathers” to prevent the collapse of a “friendly regime” (17).
Impotence of the major global geopolitical players
And this impotence of the major global geopolitical players is the other path that the crisis can use to produce world chaos in 2011. In effect, one can place the major G20 powers in two groups whose only point in common is that they are unable to influence events decisively.
On one side we haves a moribund West with, on the one hand, the United States, for whom 2011 will show that its leadership is no more than fiction (see this issue) and which is trying to freeze the entire international system in its configuration of the early 2000s (18), and on the other hand we have Euroland, “sovereign” in the pipeline, which is currently mainly focused on adapting to its new environment (19) and new status as an emerging geopolitical entity (20), and which, therefore, has neither the energy nor the vision necessary to influence world events (21).
And on the other side are the BRIC countries (with China and Russia in particular) who are, at the moment, proving to be incapable of taking control of all or part of the international system and whose only action is therefore limited to quietly undermine what remains of the foundations of the pre-crisis order (22).
Ultimately, impotence is widespread (23) at the international community level, increasing not only the risk of major shocks, but also the significance of the consequences of these shocks. The world of 2008 was taken by surprise by the violent impact of the crisis, but paradoxically the international system was better equipped to respond being organized around an undisputed leader (24). In 2011, this is no longer the case: not only is there no undisputed leader, but the system is bloodless as we have seen above. And the situation is aggravated further by the fact that the societies of many countries in the world are on the verge of socio-economic break-up.
US petrol prices (2009-2011) - Source: GasBuddy, 01/2011
Societies on the edge of socio-economic break-up
This is particularly the case in the United States and Europe where three years of crisis are beginning to weigh very heavily on the socio-economic and therefore political balance. US households, now insolvent in their tens of millions, oscillate between sustained poverty (25) and rage against the system. European citizens, trapped between unemployment and the dismantling of the welfare state (26), are starting to refuse to pay the bills for financial and budget crises and are beginning to look for culprits (banks, the Euro, government political parties…).
But amongst the emerging powers too, the violent transition which constitutes the crisis is leading societies towards situations of break-up: in China, the need to control expanding financial bubbles is hampered by the desire to improve the lot of whole sectors of society such as the need for employment for tens of millions of casual workers; in Russia, the weakness of the social security system fits badly with the enrichment of the elite, just as in Algeria shaken by riots. In Turkey, Brazil and India, everywhere the rapid change these countries are seeing is triggering riots, protests and terrorist attacks. For reasons that are sometimes contradictory, growth for some, penury for others, across the globe our diverse societies tackle 2011 in a context of strong tensions and socio-economic break-up, which have the making of political time bombs.
It’s its position at the crossroads of three paths which thus makes 2011 a ruthless year. And ruthless it will be for the States (and local authorities) which have chosen not to draw hard conclusions from the three years of crisis which have gone before and / or who have contented themselves with cosmetic changes not altering their fundamental imbalances at all. It will also be so for businesses (and States (27)) who believed that the improvement in 2010 was a sign of a return to “normal” of the global economy. And finally it will be so for investors who have not understood that yesterday’s investments (securities, currencies,...) couldn’t be those of tomorrow (in any case for several years). History is usually a “good girl”. She often gives a warning shot before sweeping away the past. This time, it gave the warning shot in 2008. We estimate that in 2011, it will do the sweeping. Only players who have undertaken, even painstakingly, even partially, to adapt to the new conditions generated by the crisis will be able to hang on; for the others, chaos is at the end of the road.
----------
Notes:
(1) Or of the world that we have known since 1945 to repeat our 2006 description.
(2) The recent decision by the US Department of Labor to extend the inclusion of the measure of long-term unemployment in the US employment statistics to five years instead of the maximum of two years until now, is a good indicator of the entry into a new stage of the crisis, a step that has seen the disappearance of the “practices” of the world before. As a matter of fact, the US government cites “the unprecedented rise” of long-term unemployment to justify this decision. Source: The Hill, 12/28/2010
(3) These measures (monetary, financial, economic, budgetary, strategic) are now closely linked. That’s why they will be carried away in a series of successive shocks.
(4) Source: The Independent, 01/13/2011
(5) It’s even worse because it was international aid that brought cholera to the island, causing thousands of deaths.
(6) Moreover Timothy Geithner, US Treasury Secretary, little known for his overactive imagination, has just indicated that “the US government could once again have to do exceptional things”, referring to the bank bailout in 2008. Source: MarketWatch, 01/13/2011
(7) Moreover, India and Iran are in the course of establishing a system of exchange “gold for oil” to try and avoid supply disruptions. Source: Times of India, 01/08/2011
(8) In January 2011 the FAO food price index (at 215) has just exceeded its previous record set in May 2008 (at 214).
(9) Wall Street banks are currently unloading their US Treasury bonds as fast as possible (unseen since 2004). Their official explanation is “the remarkable improvement in the US economy which no longer requires us to seek refuge in Treasury Bonds”. Of course, you are free to believe it, like Bloomberg ’s journalist on 01/10/2011.
(10) Thus Euroland is already taking big steps forward along the path described in the GEAB N°50 with a discount in the case of refinancing the debts of a member state, whilst Japanese and US debt are now about to enter the storm. Sources: Bloomberg, 01/07/2011; Telegraph, 01/05/2011
(11) We believe that, in general, global banks’ balance sheets contain at least 50% ghost assets which in the coming year will require to be discounted by between 20% to 40% due to the return of the global recession combined with austerity, the rise in defaults on household, business, community and state loans, currency wars and a pickup in the fall of real estate prices. The American, European, Chinese, Japanese and others “stress-tests” can still continue to try and reassure markets with “Care Bears” scenarios except that this year it’s “Alien against Predator ” which is on the banks’ agenda. Source: Forbes, 01/12/2011
(12) Each of these real estate markets will fall sharply again in 2011 in the case of those which have already started falling in recent years, or in the case of China, which will begin its sharp deflation amid economic slowdown and monetary tightening.
(13) The Japanese economy is, moreover, one of the first victims of this currency war, with 76% of the CEOs of 110 major Japanese companies surveyed by Kyodo News now reported being pessimistic about Japanese growth in 2011 following the rise in the yen. Source: JapanTimes, 01/04/2011
(14) Here are several instructive examples put together by the excellent John Rubino. Source: DollarCollapse, 01/08/2011
(15) By way of reminder, in the GEAB N°48 we had classified Tunisia in the category of countries “with significant risks” in 2011.
(16) No doubt, moreover, that the Tunisian example is generating a round of reassessment amongst the rating agencies and the “experts in geopolitics”, who, as usual, didn’t see anything coming. The Tunisian case also illustrates the fact that it’s now the satellite countries of the West in general and the US in particular, who are on the way to shocks in 2011 and in the years to come. And it confirms what we regularly repeat: a crisis accelerates all the historical processes. The Ben Ali regime, twenty-three years old, collapsed in a few weeks. When political obsolescence is involved everything changes quickly. Now it's all the pro-Western Arab regimes which are obsolete in the light of events in Tunisia.
(17) No doubt this « Western godfather » paralysis will be carefully analyzed in Rabat, Cairo, Jeddah and Amman, for example.
(18) A configuration that was all the more favorable because it was without a counterweight to their influence.
(19) We will return in more detail in this GEAB issue, but seen from China we are not mistaken. Source: Xinhua, 01/02/2011
(20) Little by little Europeans are discovering that they are dependent on centres of power other than Washington. Beijing, Moscow, Brazilia, New Dehli,… Source: La Tribune, 01/05/2011; Libération, 12/24/2010; El Pais, 01/05/2011
(21) All Japan's energy is focused on its desperate attempt to resist the attraction of China. As for other Western countries, they are not able to significantly influence global trends.
(22) The US Dollar’s place in the global system is a part of these last foundations that the BRIC countries are actively eroding day after day.
(23) As regards deficit, the US case is textbook. Beyond the speeches, everything continues as before the crisis with a deficit swelling exponentially. However, even the IMF is now ringing the alarm. Source: Reuters, 01/08/2011
(24) Moreover, even the Wall Street Journal on 01/12/2011, echoing the Davos Forum, is concerned over the lack of international coordination, which is in itself a major risk to the global economy.
(25) Millions of Americans are discovering food banks for the first time in their lives, whilst in California, as in many other states, the education system is disintegrating fast. In Illinois, studies on the state deficit are now comparing it to the Titanic. 2010 broke the record for real estate foreclosures. Sources: Alternet, 12/27/2010; CNN, 01/08/2011; IGPA-Illinois, 01/2011; LADailyNews, 01/13/2011
(26) Ireland, which is facing, purely and simply, a reconstruction of its economy, is a good example of situations to come. But even Germany, with remarkable current economic results however can’t escape this development as shown by the funding crisis for cultural activities. Whilst in the United Kingdom, millions of retirees are seeing their incomes cut for the third year running. Sources : Irish Times, 12/31/2010; Deutsche Welle, 01/03/2011; Telegraph, 01/13/2011
(27) In this regard, US leaders confirm that they are rushing straight into the wall of public debt, failing to anticipate the problems. Indeed, the recent statement by Ben Bernanke, the Fed chairman, that the Fed will not help the States (30% fall in 2009 tax revenues according to the Washington Post on 01/05/2011) and the cities collapsing under their debts, just as Congress decides to stop issuing “Build America Bonds” which enabled States to avoid bankruptcy these last few years, shows a Washington blindness only equal to that which Washington demonstrated in 2007/2008 in the face of the mounting consequences of the “subprime” crisis. Sources: Bloomberg, 01/07/2011; WashingtonBlog, 01/13/2011
Dimanche 16 Janvier 2011
http://www.leap2020.eu/geab-n-51-is-available-systemic-global-crisis-2011-the-ruthless-year-at-the-crossroads-of-three-roads-of-global-chaos_a5775.html
Since September 2008, when the evidence of the global and systemic nature of the crisis became clear to all, the United States, and behind it the Western countries, were content with palliative measures that have merely hidden the undermining effects of the crisis on the foundations of the present-day international system. 2011 will, according to our team, mark the crucial moment when, on the one hand, these palliative measures see their anesthetic effect fade away whilst, in contrast, the consequences of systemic dislocation in recent years will dramatically surge to the forefront (2).
In summary, 2011 will be marked by a series of violent shocks that will explode the faulty safety devices put in place since 2008 (3) and will carry off, one by one, the “pillars” on which the “Dollar Wall” has rested for decades. Only the countries, communities, organizations and individuals which, over the last three years, have actually undertaken to learn the lessons from the current crisis to distance themselves as quickly as possible from the pre-crisis patterns, values and behavior will get through this year unscathed; the others will be carried away in the procession of monetary, financial, economic, social and political difficulties that 2011 holds.
Thus, as we believe that 2011 will, globally, be the most chaotic year since 2006, the date of the beginning of our work on the crisis, in this GEAB issue our team has focused on 32 anticipations for 2011, which also include a number of recommendations to deal with future shocks. Thus, this GEAB issue offers a kind of map forecasting financial, monetary, political, economic and social shocks for the next twelve months.
If our team believes that 2011 will be the worst year since 2006, the beginning of our anticipation work on the systemic crisis, it’s because it’s at the crossroads of three paths to global chaos. Absent fundamental treatment of the causes of the crisis, since 2008 the world has only gone back to take a better jump forward.
A bloodless international system
The first path that the crisis can take to cause world chaos is simply a violent and unpredictable shock. The dilapidated state of the international system is now so advanced that its cohesion is at the mercy of any large-scale disaster (4). Just look at the inability of the international community to effectively help Haiti over the past year (5), the United States to rebuild New Orleans for six years, the United Nations to resolve the problems in Darfur, Côte d'Ivoire for a decade, the United States to progress peace in the Middle East, NATO to beat the Taliban in Afghanistan, the Security Council to control the Korean and Iranian issues, the West to stabilize Lebanon, the G20 to end the global crisis be it financial, food, economic, social, monetary, ... to see that over the whole range of climatic and humanitarian disasters, like economic and social crises, the international system is now powerless.
In fact, since the mid-2000s at least, all the major global players, at their head of course the United States and its cortege of Western countries, do no more than give out information, or gesticulate. In reality, all bets are off: The crisis ball rolls and everyone holds their breath so it doesn’t fall on their square. But gradually the increasing risks and issues of the crisis have changed the casino’s roulette wheel into Russian roulette. For LEAP/E2020, the whole world has begun to play Russian roulette (6), or rather its 2011 version, “American Roulette” with five bullets in the barrel.
Monthly progression of the FAO food index (2010) and the price of principal foodstuffs (2009/2010) (base 100: averaged over 2002-2004) - Source: FAO/Crikey, 01/2011
Soaring commodity prices (food, energy (7),...) should remind us of 2008 (8). It was indeed in the six months preceding Lehman Brothers and Wall Street’s collapse that the previous episode of sharp increases in commodity prices was set. And the actual causes are the same as before: a flight from financial and monetary assets in favour of “concrete” investments. Last time the big players fled the mortgage market and everything that depended on it, as well as the U.S. Dollar; today they are fleeing all financial stocks, Treasury bonds (9) and other public debts. Therefore, we have to wait for a time between Spring and Autumn 2011 for the explosion of the quadruple bubble of Treasury bonds, public debt (10), bank balance sheets (11) and real estate (American, Chinese, British, Spanish,... and commercial (12)), all taking place against a backdrop of a heightened currency war (13).
The inflation induced by US, British and Japanese Quantitative Easing and similar stimulus measures of the Europeans and Chinese will be one of the destabilizing factors in 2011 (14). We will come back to this in more detail in this issue. But what is now clear with respect to what is happening in Tunisia (15), is that this global context, especially the rise in food and energy prices, now leads on to radical social and political shocks (16). The other reality that the Tunisian case reveals is the impotence of the French, Italian or American “godfathers” to prevent the collapse of a “friendly regime” (17).
Impotence of the major global geopolitical players
And this impotence of the major global geopolitical players is the other path that the crisis can use to produce world chaos in 2011. In effect, one can place the major G20 powers in two groups whose only point in common is that they are unable to influence events decisively.
On one side we haves a moribund West with, on the one hand, the United States, for whom 2011 will show that its leadership is no more than fiction (see this issue) and which is trying to freeze the entire international system in its configuration of the early 2000s (18), and on the other hand we have Euroland, “sovereign” in the pipeline, which is currently mainly focused on adapting to its new environment (19) and new status as an emerging geopolitical entity (20), and which, therefore, has neither the energy nor the vision necessary to influence world events (21).
And on the other side are the BRIC countries (with China and Russia in particular) who are, at the moment, proving to be incapable of taking control of all or part of the international system and whose only action is therefore limited to quietly undermine what remains of the foundations of the pre-crisis order (22).
Ultimately, impotence is widespread (23) at the international community level, increasing not only the risk of major shocks, but also the significance of the consequences of these shocks. The world of 2008 was taken by surprise by the violent impact of the crisis, but paradoxically the international system was better equipped to respond being organized around an undisputed leader (24). In 2011, this is no longer the case: not only is there no undisputed leader, but the system is bloodless as we have seen above. And the situation is aggravated further by the fact that the societies of many countries in the world are on the verge of socio-economic break-up.
US petrol prices (2009-2011) - Source: GasBuddy, 01/2011
Societies on the edge of socio-economic break-up
This is particularly the case in the United States and Europe where three years of crisis are beginning to weigh very heavily on the socio-economic and therefore political balance. US households, now insolvent in their tens of millions, oscillate between sustained poverty (25) and rage against the system. European citizens, trapped between unemployment and the dismantling of the welfare state (26), are starting to refuse to pay the bills for financial and budget crises and are beginning to look for culprits (banks, the Euro, government political parties…).
But amongst the emerging powers too, the violent transition which constitutes the crisis is leading societies towards situations of break-up: in China, the need to control expanding financial bubbles is hampered by the desire to improve the lot of whole sectors of society such as the need for employment for tens of millions of casual workers; in Russia, the weakness of the social security system fits badly with the enrichment of the elite, just as in Algeria shaken by riots. In Turkey, Brazil and India, everywhere the rapid change these countries are seeing is triggering riots, protests and terrorist attacks. For reasons that are sometimes contradictory, growth for some, penury for others, across the globe our diverse societies tackle 2011 in a context of strong tensions and socio-economic break-up, which have the making of political time bombs.
It’s its position at the crossroads of three paths which thus makes 2011 a ruthless year. And ruthless it will be for the States (and local authorities) which have chosen not to draw hard conclusions from the three years of crisis which have gone before and / or who have contented themselves with cosmetic changes not altering their fundamental imbalances at all. It will also be so for businesses (and States (27)) who believed that the improvement in 2010 was a sign of a return to “normal” of the global economy. And finally it will be so for investors who have not understood that yesterday’s investments (securities, currencies,...) couldn’t be those of tomorrow (in any case for several years). History is usually a “good girl”. She often gives a warning shot before sweeping away the past. This time, it gave the warning shot in 2008. We estimate that in 2011, it will do the sweeping. Only players who have undertaken, even painstakingly, even partially, to adapt to the new conditions generated by the crisis will be able to hang on; for the others, chaos is at the end of the road.
----------
Notes:
(1) Or of the world that we have known since 1945 to repeat our 2006 description.
(2) The recent decision by the US Department of Labor to extend the inclusion of the measure of long-term unemployment in the US employment statistics to five years instead of the maximum of two years until now, is a good indicator of the entry into a new stage of the crisis, a step that has seen the disappearance of the “practices” of the world before. As a matter of fact, the US government cites “the unprecedented rise” of long-term unemployment to justify this decision. Source: The Hill, 12/28/2010
(3) These measures (monetary, financial, economic, budgetary, strategic) are now closely linked. That’s why they will be carried away in a series of successive shocks.
(4) Source: The Independent, 01/13/2011
(5) It’s even worse because it was international aid that brought cholera to the island, causing thousands of deaths.
(6) Moreover Timothy Geithner, US Treasury Secretary, little known for his overactive imagination, has just indicated that “the US government could once again have to do exceptional things”, referring to the bank bailout in 2008. Source: MarketWatch, 01/13/2011
(7) Moreover, India and Iran are in the course of establishing a system of exchange “gold for oil” to try and avoid supply disruptions. Source: Times of India, 01/08/2011
(8) In January 2011 the FAO food price index (at 215) has just exceeded its previous record set in May 2008 (at 214).
(9) Wall Street banks are currently unloading their US Treasury bonds as fast as possible (unseen since 2004). Their official explanation is “the remarkable improvement in the US economy which no longer requires us to seek refuge in Treasury Bonds”. Of course, you are free to believe it, like Bloomberg ’s journalist on 01/10/2011.
(10) Thus Euroland is already taking big steps forward along the path described in the GEAB N°50 with a discount in the case of refinancing the debts of a member state, whilst Japanese and US debt are now about to enter the storm. Sources: Bloomberg, 01/07/2011; Telegraph, 01/05/2011
(11) We believe that, in general, global banks’ balance sheets contain at least 50% ghost assets which in the coming year will require to be discounted by between 20% to 40% due to the return of the global recession combined with austerity, the rise in defaults on household, business, community and state loans, currency wars and a pickup in the fall of real estate prices. The American, European, Chinese, Japanese and others “stress-tests” can still continue to try and reassure markets with “Care Bears” scenarios except that this year it’s “Alien against Predator ” which is on the banks’ agenda. Source: Forbes, 01/12/2011
(12) Each of these real estate markets will fall sharply again in 2011 in the case of those which have already started falling in recent years, or in the case of China, which will begin its sharp deflation amid economic slowdown and monetary tightening.
(13) The Japanese economy is, moreover, one of the first victims of this currency war, with 76% of the CEOs of 110 major Japanese companies surveyed by Kyodo News now reported being pessimistic about Japanese growth in 2011 following the rise in the yen. Source: JapanTimes, 01/04/2011
(14) Here are several instructive examples put together by the excellent John Rubino. Source: DollarCollapse, 01/08/2011
(15) By way of reminder, in the GEAB N°48 we had classified Tunisia in the category of countries “with significant risks” in 2011.
(16) No doubt, moreover, that the Tunisian example is generating a round of reassessment amongst the rating agencies and the “experts in geopolitics”, who, as usual, didn’t see anything coming. The Tunisian case also illustrates the fact that it’s now the satellite countries of the West in general and the US in particular, who are on the way to shocks in 2011 and in the years to come. And it confirms what we regularly repeat: a crisis accelerates all the historical processes. The Ben Ali regime, twenty-three years old, collapsed in a few weeks. When political obsolescence is involved everything changes quickly. Now it's all the pro-Western Arab regimes which are obsolete in the light of events in Tunisia.
(17) No doubt this « Western godfather » paralysis will be carefully analyzed in Rabat, Cairo, Jeddah and Amman, for example.
(18) A configuration that was all the more favorable because it was without a counterweight to their influence.
(19) We will return in more detail in this GEAB issue, but seen from China we are not mistaken. Source: Xinhua, 01/02/2011
(20) Little by little Europeans are discovering that they are dependent on centres of power other than Washington. Beijing, Moscow, Brazilia, New Dehli,… Source: La Tribune, 01/05/2011; Libération, 12/24/2010; El Pais, 01/05/2011
(21) All Japan's energy is focused on its desperate attempt to resist the attraction of China. As for other Western countries, they are not able to significantly influence global trends.
(22) The US Dollar’s place in the global system is a part of these last foundations that the BRIC countries are actively eroding day after day.
(23) As regards deficit, the US case is textbook. Beyond the speeches, everything continues as before the crisis with a deficit swelling exponentially. However, even the IMF is now ringing the alarm. Source: Reuters, 01/08/2011
(24) Moreover, even the Wall Street Journal on 01/12/2011, echoing the Davos Forum, is concerned over the lack of international coordination, which is in itself a major risk to the global economy.
(25) Millions of Americans are discovering food banks for the first time in their lives, whilst in California, as in many other states, the education system is disintegrating fast. In Illinois, studies on the state deficit are now comparing it to the Titanic. 2010 broke the record for real estate foreclosures. Sources: Alternet, 12/27/2010; CNN, 01/08/2011; IGPA-Illinois, 01/2011; LADailyNews, 01/13/2011
(26) Ireland, which is facing, purely and simply, a reconstruction of its economy, is a good example of situations to come. But even Germany, with remarkable current economic results however can’t escape this development as shown by the funding crisis for cultural activities. Whilst in the United Kingdom, millions of retirees are seeing their incomes cut for the third year running. Sources : Irish Times, 12/31/2010; Deutsche Welle, 01/03/2011; Telegraph, 01/13/2011
(27) In this regard, US leaders confirm that they are rushing straight into the wall of public debt, failing to anticipate the problems. Indeed, the recent statement by Ben Bernanke, the Fed chairman, that the Fed will not help the States (30% fall in 2009 tax revenues according to the Washington Post on 01/05/2011) and the cities collapsing under their debts, just as Congress decides to stop issuing “Build America Bonds” which enabled States to avoid bankruptcy these last few years, shows a Washington blindness only equal to that which Washington demonstrated in 2007/2008 in the face of the mounting consequences of the “subprime” crisis. Sources: Bloomberg, 01/07/2011; WashingtonBlog, 01/13/2011
Dimanche 16 Janvier 2011
http://www.leap2020.eu/geab-n-51-is-available-systemic-global-crisis-2011-the-ruthless-year-at-the-crossroads-of-three-roads-of-global-chaos_a5775.html
17 January 2011
Long Shadows Cast Over Useconomy
Numerous are the threats to the USEconomy and US financial structures. Many are hidden threats, subtle challenges to undermine increasingly fragile support systems, planks, and cables that hold the system together. The year 2011 will be when the system breaks in open visible fashion, when the explanations that justify it sound silly and baseless, when the entire bond world endures major crashes. All thing financial are inter-related. Recall that in summer 2007, the professor occupying the US Federal Reserve claimed the subprime mortgage crisis was isolated. The Jackass countered with a claim that the bond market was suffering a crisis in absolute terms, where all bond markets were on the verge of fracture, perhaps globally. In year 2008 the banking system in the Western world broke, fatally and irreparably in my view. In 2009, the solutions, the treatment, the official programs were all exaggerated for their effectiveness while banker welfare became a fixture. Neglect of the people on Main Street became policy. In 2010, the system revealed it is still broken. The global monetary system after all rests atop the sovereign bond market. This year, it must fight off a collapse. Many are the hidden points of vulnerability. Gold & Silver will continue to be the great beneficiaries.
BOND OUTFLOWS
Huge outflows have struck from US-based bond funds, while the outflows continue for stock funds since may 2010. Even the flagship pimco bond fund saw net redemptions. The public is stepping aside as the usfed does its destructive work. No end is in sight for the stock fund outflows. A public boycott seems firmly in place. The new event is the largest bond fund outflow in almost 30 months. The Investment Company Institute reported that in the week ended December 15th, another massive outflow took place from domestic stock funds. It was the 33rd week in a row, amounting to an exit of $2.4 billion. Worse, taxable and municipal bonds saw a nasty shocker of $8.62 billion in outflows, which included another record $4.9 billion in muni bond outflows. Bond mutual funds had the biggest client withdrawals in more than two years, as a flight from fixed income investments has accelerated. The withdrawals were the largest since mid-October 2008, when investors pulled out $17.6 billion from bond funds. The US bond fund retreat showed acceleration signs, since the rise was from $1.66 billion the week before, according to the ICI report. So outflows are in progress for both US stocks and US bonds!! Year to date, investors have yanked $100 billion in funds from US-focused equity mutual funds, offset by a smaller $16 billion in comparable inflows into equity strategies via ETFunds. The $250 billion PIMCO Total Return Fund, managed by Bill Gross, had its first net withdrawals in two years in November as investors pulled $1.9 billion, according to Morningstar.
The public has grown jaded by stories of flash trading smears of the stock market, insider trading scandals, and incessant internal reports of stock support from the Working Group for Financial Markets. They sense stock prices are heavily manipulated and not a reflection of true value. They might on a wider basis believe that most US financial markets are either in ruins or corrupted. The vast record outflows accompany a rise in the S&P500 stock index, which is a clear signal of USGovt prop programs in a corrupt market. Ridiculous illogical and ludicrous interpretations continue to be disseminated about the USEconomy in recovery. The false story has become a billboard message of deception. We are told that investors are retreating from bond funds after signs of an economic recovery and a stock market rally, which have lifted interest rates broadly. The reality is something quite different. The selloff in USTreasurys happened exactly after the US Federal Reserve in November offered specific details on its pledge to purchase $600 billion in bond assets to revive the sluggish USEconomy. The 10-year USTreasury yields lie in the 3.2% to 3.4% range, much higher than the 2.49% in the first week of November. The bond market contradiction to the USFed monetization plan is without precedent in US bond market history, a grandiose insult.
The QE2 team is buying $100 billion in USTBonds per month, taking up the slack, without producing any decline in bond yields. The USFed is running a dangerous desperate gambit. Attempts to hold together the ustreasury market during its QE2 strongarm episode are underway. Obviously the USFed is the USTreasury market, with outsized USTBond purchases as part of its QE2 program. An approved posse of market specialists is buying hundreds of $billions of USTreasury securities on the open market. They are filling a vacuum. They are offsetting global creditors in abandonment. They bought in 2011 a full 75% of all USGovt debt issuance, just like Banana Republics!! They must keep the interest rates low. They must prevent a credit derivative blowup event. The USFed is fast losing all credibility, exhausting its power, testing its limits, fighting off demands for independent audits. The QE2 team seeks the best price available. However, due the fully advertised initiative and the heavy volume, is destined to pay a premium price. They have tipped their hand, as they buy $100 billion per month in USTreasurys. It is not possible to be a known buyer with a schedule and agenda, and execute favorable prices. An unexpected backfire occurred on the way to the QE2 launch. Bond yields fell sharply between August and November as the markets anticipated the new program. Bond yields have defiantly risen since details on QE2 were formally announced in November, delivering losses to the frontrunners in the autumn months. Too much doubt was left lingering on the volume of the program, and furthermore, whether a QE3 would launch. Bernanke actually hinted of a third launch, foolishly. The states need several hundred $billion, another monetization object.
GOLD & SILVER PREPARE FOR ANOTHER BREAKOUT
A major consolidation is taking place in the Gold price. A near total disconnect has occurred between the physical Gold & Silver markets and the control strings from the paper futures market held by the maestros. Grotesque shortages exist in silver. Difficulties in gold delivery are commonplace. The central banks and Bank For Intl Settlements scramble to keep gold & silver supplied to the exchanges, in order to avert openly visible defaults. A strong uptrend with rising moving averages is evident in Gold. The breakout in October has been consolidating for three full months, while Europe experiences its open sores of sovereign debt distress. Its price will soon encounter the uptrend lines for likely ignition. When a European aid package is assembled, whether of substance or not, merely if it seems credible, the Euro currency will rebound and the Gold bull will resume. In year 2011, the global monetary system will fracture in visible fashion. Its broken debt foundation will be the proximal cause. Gold is widely regarded as a reserve asset, no longer a stodgy secure asset for Arab sheiks. The dirtiest little secret might be that private Wall Street firm accounts own vast Gold bullion accounts, while their corporate banking entities in South Manhattan own the short futures positions, soon to be dumped on the USGovt in formal fashion. The greatest propulsion force to the Gold price is obviously the USFed and its grandiose QE2 initiative. Their purchase of $100 billion in USTBonds per month signifies that they are the USTreasury Bond market. PIMCO is worried sick about the unbridled monetization. The USFed monetized 75% of USGovt debt in 2011. When the USFed is done with QE2, they will argue for a QE3, probably to cover state debt shortfalls. The precedent has been set. The global currency war is in full swing. Simply put, the Gold price will rise when China is prepared to pay a higher price, after exhausting supply at lower prices.
The greatest offender in currency manipulation and currency undermine is the United States. It is essential that the USGovt continue to make accusations against foreign central bankers, in order to deflect attention. The problem is QE2, and the likelihood of a followup QE3. The USGovt is without permission forcing a debt writedown on foreign USTreasury creditors by installing inflation engines. See the commodity prices, led by food & energy. The USFed and USDept Treasury will proclaim victory by mid-summer, as price inflation begins to rage much hotter. They will call it economic growth. Check import price inflation from the last three months of 2011. Import prices rose 3.7% during that brief time. Not just emerging economies like China and Brazil are contending with price inflation. The US does too, but it calls it growth, since its economic trackers are much more accomplished decepticons. When job losses mount in the second half of 2011, the lies will be unmasked. The USFed is the greatest destoyer of working capital in the history of the world. Their balance sheet is negative $1 trillion and growing worse, their highly appropriate report card. Their wretched financial condition matches their decaying reputation. They are the buyer of worthless toxic bonds, the buyer of last resort. The housing market will NOT recover to bail them out.
USGOVT BUDGET BATTLES
Budget battles are sure to reveal the true fascist motives of those in power. The people will be denied while the war machine is preserved, guns & bombs over bread & butter, big banks over households. In fact, the defense budgets will not be reduced. Rather, defense contractors will be forced to eat cost overruns without volume cutbacks in weapon units at all. The war is sacred, the signature mark of the fascist state. The USGovt seems to have suddenly found religion in reducing the budget and its deeply engrained deficit. It is more superficial than from the heart with conviction. The new wave is all about perceptions. To be sure, some in the USCongress are worried sick and scared pale over the prospects of a structural $trillion deficit. A decade ago such a deficit magnitude would be considered a telltale signature of a Banana Republic nation sliding toward the Third World perilously. The budget battle with the new USCongress will be extremely revealing of the priorities for the Syndicate in full control of the USGovt and press networks. The budget process will in my view continue to place the war as a sacred priority not to be touched, not to be altered, not to be disrupted. In rough terms, the USGovt budget contains components 20.0% Defense, 21.0% Social Security & Medicare, and 14.0% Safety Net System.
In my view, the budget cuts will come exclusively from the people and their homes and work centers, their pensions, their Social Security & Medicare. Tax deduction removals and phaseouts will be a centerpiece. The war machine has given stress to the defense contractors, who will be expected to absorb cost overruns in weapons programs, according to recent Pentagon pronouncements. Enormous costs are involved with the war machine support. The base military budget is $536 billion. The extended budget for the wars adds another $170 billion in supplemental spending, which officials prefer to call Overseas Contingency Operations since it sounds more sophisticated.
The total sum, over $700 billion per year, is the sacred cost of the USMilitary. It includes hundreds of overseas bases, lavish embassies, and endless weapon systems, of types conventional, nuclear, and drones. The United States spends as much on annual military investment as the rest of the world combined, according to the Stockholm Intl Peace Research Institute. One must wonder if the wars are to produce enemies. The United States maintains troops at more than 560 bases and other sites abroad. The outsized yawning Defense spending is a primary cause for USGovt insolvency. It has a staggering deficit impact on the budget and the negative international image of the nation. Watch the unfolding events as the USGovt and USCongress grapple with spending cuts. They will avoid Pentagon and defense budget cuts with fierce opposition. This is a key part of the Fascist Business Model, as sacred as Wall Street largesse.
Harken back to the 1950 decade, during the post-WW2 glow. President Dwight Eisenhower once said, "Every gun that is made, every warship launched, every rocket fired signifies, in the final sense, a theft from those who hunger and are not fed, those who are cold and are not clothed." The words from Ike fell on deaf ears. Not until the last decade have his words rung shrill. He never met the current crowd in control, but he could see a path to their evolution, which he called the Military Industrial Complex. No disrespect is meant to soldiers who have sacrificed. One must wonder for what cause their sacrifice has been, and toward what outsized profits to defense and service contractors, even Syndicate bank accounts. Talk has already begun, that "out of respect for our fighting soldiers and veterans" who have served in active duty, the defense budget will be spared of cuts. Watch the priorities be revealed as the battle unfolds over the budget. In my view, the potential for defense cuts and huge savings is great but it will not be tapped. Instead the people will be asked to expect less aid, to rely upon less, to eat less, to expect less federal help, and endure poverty more.
SHADOW HOME INVENTORY
The standard inventory of homes comes from brokers and multilists. The hidden inventory of homes adds another 50% to 80% to the working supply, half of that from pending seizures, half from bank owned units festering on their balance sheets. Home prices cannot rise in such a deeply distressed climate. The unofficial shadow inventory is another one million homes. Any economist who overlooks the hidden supply of homes is a hack. The housing market cannot recovery for another two years, until it works off the hidden inventory. The problem is that the ongoing home foreclosures results in more bank seizures, and a steady source of renewed hidden inventory. Housing is a crippled market, one that acts like a gigantic millstone around the USEconomy. Housing prices will descend further in 2011, as the shadow inventory acts with powerful forces upon the Supply & Demand equation. It still applies despite any messianic proclamations from banking high priests or Wall Street marketing agents. The mainstream has finally begun to grasp the wreckage and ruin, but not that the housing sector will cause a systemic failure for the nation. It is most assuredly coming. The contradictions and shallow work of Roubini are worth a pass. His work has been ridiculed in the past by the Jackass, like a few months ago when he expected the gold market to turn down. Instead, it rose another 10% to 15% in a string of breakouts. Yet he is still revered, and sought as a guest on the financial networks.
Nouriel Roubini offers some obvious commentary, followed by contradictory nonsense about a USEconomic recovery. His inconsistency earns him a 'C Minus' grade in his own class. The professor is a fool once again. Roubini acknowledges that the housing market is in a double dip, as prices can only go down. He brought attention to what he called below trend economic growth as baseline, but also two negative factors specific to the housing market. The first factor is the expiration of federal home buyer tax credits for first-time home buyers. The housing prices have been falling every month since the tax credit expired last May. He correctly identified the stolen demand from the future to take advantage of the home buyer credit. So he makes an obvious point. The second factor putting downward pressure on home prices is the ongoing chaos with mortgage documentation, and the related temporary moratorium by banks for mortgage foreclosure proceedings. The suspension appears to be ending. Aware of an imminent flood of housing supply, Roubini said "There has been an effective moratorium on foreclosures. The shadow inventory of not-yet-foreclosed homes, due to the moratorium, will surge in the next year. Supply will increase, demand will drop." Obvious points, enough to force a USEconomic recession without a remote chance otherwise.
Roubini remains a shallow economist without strong basis for his opinions, even plain contradictions. He does not expect a double dip recession, since he believes the USGovt kool-aid on doctored statistics. The dull blade Roubini said, "The rest of the economy is recovering. Most of the numbers are consistent with a growth rate of 2.7%, still below trend. So unemployment will likely remain above 9%. The EuroZone shock, long-term structural deficits, and state & local governments operating near bankruptcy are other ominous economic signs on the horizon. The 12 million households are already in negative equity and 8 million more have an Loan-to-Value between 95% and 100%. Thus even a 5% fall in home price will push an extra 8 million in negative equity with risk of millions walking away from their home, i.e. jingle mail." Without realization, he undermines his own assessment of slow USEconomic growth, and provides ample justification for a worse recession than already is in progress. His housing market observations contradict his economic outlook. He does not realize (or admit) that price inflation is running at over 7% right here, right now. Therefore the GDP estimates are all way high, exaggerated by 5% or more. The USEconomy is mired in a deep recession. Sadly, Roubini is a victim of the establishment, which ordered him to compromise his work in order to continue to occupy an important post. See the CNBC article.
The Great Roubini is awakening to the disaster in housing, but he does not yet grasp how it will result in a systemic USEconomic failure. He begins with a slow growth scenario, then cannot justify it, even to contradict it while discussing relevant factors. He will be one of the first shoddy economists to claim the USEconomy is in recovery, as price inflation accelerates, which will incorrectly be labeled it growth. My theory is simple. If the entire USEconomy depended upon the housing boom to expand from 2003 to 2007, then it will be capable of collapsing the same structures given the extreme vulnerability to debt. The vicious cycle will be powerful, unstoppable, and deadly. It has been game over since the September 2008 events when the US banking system collapsed and died, led by Lehman Brothers, Fannie Mae, and AIG. The weight of the continuing housing market decline, combined with strangulation in the banks with toxic debt paper and a surplus of home inventory, is easily sufficient to cause a systemic failure to the entire USEconomy. The big banks are stuck in mud at the cemetery gate. That failure is in progress with momentum. Guys like Roubini and Krugman will be the last to realize the collapse. They are celebrated cheerleaders within the system, compromised souls.
LABOR MARKET STEP-DOWN
The economic step-down is a hidden powerful effect in the de-industrialization of America. The job growth is not a sufficient condition for the USEconomy recovery. People are taking lesser jobs, with huge declines in income. Fewer opportunities exist, while survival demands tough decisions. The endless USEconomic recession has an ugly trademark. People are taking steep pay cuts, enduring lasting reductions in wages. People are taking jobs far below their skill levels. Between 2007 and 2009, more than half the full-time workers who lost jobs (held for at least three years) and found new jobs later reported wage declines, according to the USDept Labor. The detail is 36% of them reported the new job paid 20% less than the previous lost job. An effect rarely seen in recessions since the Great Depression, wages have taken a sharp and swift decline for a significant slice of the labor market. THIS IS A THIRD WORLD HARBINGER. It is worse for many others. The unemployment rolls include 14.5 million people, even 6.4 million stuck jobless for more than six months. A key part of earnings losses, according to the survey, is that workers skills acquired over the last two decades that are fast becoming outdated and obsolete. Then instead of gaining new skills for a higher paying job, they often settle for a lower wage and stop their job hunts, unable to benefit from training. Lack of retraining programs is a huge dropped ball by the USGovt, whose economists cannot find their hind parts with their hands. Research shows that children of displaced workers also suffer in a domino effect. Even those fortunate to remain on the same jobs have seen wage cuts. Many assume more duties too.
RETAIL LEADERS ON THE ROPES
Howard Davidowitz screams his case on the broad retail distress, with details. He warns of huge unresolved problems with commercial property loans, with great stress for landlords. A Paradigm Shift is underway, for smaller footprint shopping centers, as the United States footprint is double anything reasonable. The consumer model is fast breaking down. Davidowitz does not mince words, as he destroyed the illusion of a USEconomic recovery, pointing out absolutely no consumer renaissance. During a recent Bloomberg interview, retail expert Howard Davidowitz shattered the consensus klapptrapp, with quality content and logical thought. He said, "I am not surprised by the strength of retail sales, because I knew that 30% of consumers are responsible for retail sales, and these 30% did much better because of the performance of capital markets. I do not think it is indicative of anything going forward. I do not think the economy is going to get any better. If you look at our fiscal and monetary policy, we went two trillion dollars in the hole last year. Two trillion, to produce this, and unemployment went up to 9.8%! We have spent two trillion dollars. We are printing money. We are going bananas. Our the balance sheet, we have $2.6 trillion on there, and for what? Look at government securities, and mortgage backed securities. If interest rates go up a point Bernanke's bankrupt. Everything he has bought is underwater. All the mortgage bonds are underwater, the whole country is underwater. Does anyone see the issue now with why rising interest rates, aside from predicting a supposed recovery, may also, courtesy of its [greatly increased wrecked bond investments], actually predicts the insolvency of the Federal Reserve?" His comments are not a breath of fresh air, strewn with honesty.
Davidowitz provided several key observations on the supposed retail renaissance. Wal-Mart makes for 10% of US retail sales, has 150 million customers, and its stock it is down six consecutive quarters, not a good sign. Sears is the largest department store in America, but their stock is in terrible shape. Best Buy suffered a huge earnings miss. The financial loss recorded by ToysRUs increased last quarter. Supermarket chain A&P recently filed for bankruptcy. Department store chain Loehmanns just filed for bankruptcy. Charming Shoppes announced plans to close 100 stores. TJMaxx just liquidated AJRight. Davidowitz honed in on Sears for crucifixion. Sears is in the tank, ready to fold its tents in his opinion. Eddie Lampert took over the company recently from his hedge fund position, lacking any conceivable operational experience. He has engrained a policy that departs from price competition. He has not invested in capital equipment upgrades. He has sold his best stores. His online investment has not succeeded. The corporation is gutted, heading for the dumpster, then cemetery. If Lampert were smart, he would sell the company to a greater fool. A joke has surfaced, that A&P might merge with Stop & Shop, with a new corporate name of Stop & Pee, which would open enormous marketing potential.
In addition to dissecting the collapse of Sears, analyst Davidowitz observed what should be a loud glaring alarm signal for guys like Ackman and all those who are betting on the resurgence of the US mall storefront with vehicles like General Growth. The bulk of retail store traffic is moving online, where incidentally the only jobs created are those of packagers and quality control line people either in China or in some warehouse in Texas, California, or Florida. Davidowitz said, "Online sales have to lead you to question the whole retail selling strategy. We have 21 square feet of selling space for every man woman and child in this country. We already have double of what we need. With the explosion of online sales, what happens to all these retail malls and shopping centers which are marginals? Huge changes are going to be taking place as people continue shopping online. A revolution in retail is coming in both size and location of stores, a trend starting with the advent of much smaller Wal-Mart stores. In the end what to do with the retail space is going to be a huge question for retail in the next ten years. That is why Wal-Mart is starting to build smaller stores. That is why Wal-Mart is building more overseas than they are building here. It is going to be the biggest retail change that we have ever seen." The bulldozing of half the US retail malls will be a positive move for economic progress, but extremely disruptive.
The biggest losers in the maverick analyst's estimation will be commercial real estate landlords. Expect great pain for the REIT investments (stock trusts). Howard continues in his railing, making the point of commercial loans next collapsing, a point made by the Jackass for the last 18 months or more. He said "Landlords better start figuring it out pretty quick because they already have occupancy problems, rent problems, and everything else right now. I do not think the Commercial Real Estate (CRE) problems are fixed by any means. That is why we are going to close hundreds of community banks going forward. We are going to close hundreds more. Those CRE debts are coming due and they will not be able to be rolled over. We have lots of problems still coming up in the banking system, and the problems in the real estate issue is here for a long time. In other news, Kool Aid to be served in aisle 5 of the next door Sears box from now until permanent closing time." The man is solid as a rock in his retail analysis, accurate as a sharp knife, with no nonsense.
COMPLEX SOCIETIES & SYSTEMS
Complex societies do not last forever. They break down from internal stresses as often as from external. A society must maintain its system, with more energy expended when more complex. The reserves can be tapped repeatedly if crisis is not averted from regulatory machinery. In time, neglect enters the picture, as stresses break the fabric. Joseph Tainter is well-known for his classic book entitled "The Collapse of Complex Societies" despite his expertise as an archeologist. He must have done much thinking about the collapse of societies whose ruins he unearthed in massive digs. Tainter is on record with his developed thesis, born out of his dissatisfaction with prevailing collapse theories. His argument is straightforward. Human societies are problem solving organizations, which supply the necessities along with entertainment, as well as training to ensure continuation. The over-arching Sociopolitical systems require energy for their maintenance. If left without proper tending, they fall apart like a garden without attention. Increasing complexity carries with it increased cost per capita. Simple monarchies need much less maintenance than democracies, as voices are heard and justice grinds slowly. Investment in sociopolitical complexity often reaches a point of declining marginal returns, as time passes, interest wanes, justice disappoints. When debt saturation occurs, like today, the cost of maintenance and decline can be overwhelming. The complex system becomes vulnerable to collapse after great stresses and what Tainter calls perturbations, better thought of as disruptions or disturbances.
Stress and perturbation are a constant feature of any complex society, always occurring somewhere in its territory. The developed operating regulatory machinery is designed to deal with unplanned changes. Imagine spotty agricultural failures, border conflicts, large scale accidents, social eruptions, and disease outbreaks. Such localized stress tends to recur with regularity, and thus can be anticipated with preparations. To meet major unexpected stress surges, the society must have some form of net reserve. It can take the form of excess productive capacities in farm output, stored energy, or stockpiled minerals, or hoarded surpluses from past production, even reserve savings. Stress surges of great magnitude cannot be accommodated without such a reserve. A society beset by regular self-inflicted crises will be forced to draw upon its stored reserves too quickly. As declining marginal returns are experienced, the society must contend with rising systemic risk. The costs outweigh the yield put in reserve. Excess productive capacity will at some point be exhausted, and accumulated surpluses allocated to current operating needs will be used up. Even when the adversities are met and the surges are dealt with, a detriment to the system as a whole occurs. The society is weakened in the process, and made more vulnerable to the next crisis. Once a complex society develops the vulnerabilities of declining marginal returns, collapse might require the sufficient passage of time to render probable the occurrence of an insurmountable calamity.
More importantly, declining marginal returns make complexity a less attractive goal to maintain. The problem solving strategy takes a secondary role to instituting simpler systems. The society tends to accept the option for less costly and less sophisticated social forms. The alternative embraced eventually is an endorsed level of disintegration. This has occurred to the United States in grand style. As marginal returns deteriorate, tax rates rise with less benefit to the local level. Irrigation systems go untended, bridges and roads are not maintained, the frontier is not adequately defended, product liability is not protected, and fraud prevention is compromised. Notice in the US how cities exhaust their funds with pension programs, unable to provide proper services like police protection. Notice how the US has countless bridges and pipelines (water, sewer, energy) that have gone without proper care. The nation has turned too much attention to war.
As the process degrades, many of the social units that comprise a complex society no longer pursue the increased general advantage, and instead pursue a strategy of personal independence. Then begins a different pursuit of their own immediate goals rather than long-term goals of the networked hierarchy. They see little benefit coming from systemic contributions. Behavioral interdependence (constructive groups) yields way to broader independence (working on one's own). Shrinking resources are strained even more, as control slides away and is lost. The investment in regulatory systems is crucial, as efficiency devices. When they degrade into support systems for corruption, the system falters from its own rotten moral fabric and invites the seeds of rebellion. Eventually, perturbation occurs from within, as civil disobedience takes root. The lack of justice, the apparent predation by the upper hierarchy levels (bankers), and public frustration breeds anarchy like thousands of microdots within the society. See the home mortgage voluntary defaults. Justice is a delicate factor within a society. When justice is dealt, order tends to be preserved. When justice is absent, like for the big US banks, like for military aggression, the people object and depart from norms. The presence in the last two decades of bigger amplitudes in the crisis pain and cost, together with greater frequency of events in cycles, has combined to deplete the reserves of the nation. The Rubin Doctrine of surviving today even if taking aware reserves from tomorrow has assured much greater risk of systemic ruin. In my view, it has guaranteed ruin and collapse. See the Naked Capitalism for a thought provoking article. Complex systems are fascinating, especially when they enter a period of dysfunction.
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BOND OUTFLOWS
Huge outflows have struck from US-based bond funds, while the outflows continue for stock funds since may 2010. Even the flagship pimco bond fund saw net redemptions. The public is stepping aside as the usfed does its destructive work. No end is in sight for the stock fund outflows. A public boycott seems firmly in place. The new event is the largest bond fund outflow in almost 30 months. The Investment Company Institute reported that in the week ended December 15th, another massive outflow took place from domestic stock funds. It was the 33rd week in a row, amounting to an exit of $2.4 billion. Worse, taxable and municipal bonds saw a nasty shocker of $8.62 billion in outflows, which included another record $4.9 billion in muni bond outflows. Bond mutual funds had the biggest client withdrawals in more than two years, as a flight from fixed income investments has accelerated. The withdrawals were the largest since mid-October 2008, when investors pulled out $17.6 billion from bond funds. The US bond fund retreat showed acceleration signs, since the rise was from $1.66 billion the week before, according to the ICI report. So outflows are in progress for both US stocks and US bonds!! Year to date, investors have yanked $100 billion in funds from US-focused equity mutual funds, offset by a smaller $16 billion in comparable inflows into equity strategies via ETFunds. The $250 billion PIMCO Total Return Fund, managed by Bill Gross, had its first net withdrawals in two years in November as investors pulled $1.9 billion, according to Morningstar.
The public has grown jaded by stories of flash trading smears of the stock market, insider trading scandals, and incessant internal reports of stock support from the Working Group for Financial Markets. They sense stock prices are heavily manipulated and not a reflection of true value. They might on a wider basis believe that most US financial markets are either in ruins or corrupted. The vast record outflows accompany a rise in the S&P500 stock index, which is a clear signal of USGovt prop programs in a corrupt market. Ridiculous illogical and ludicrous interpretations continue to be disseminated about the USEconomy in recovery. The false story has become a billboard message of deception. We are told that investors are retreating from bond funds after signs of an economic recovery and a stock market rally, which have lifted interest rates broadly. The reality is something quite different. The selloff in USTreasurys happened exactly after the US Federal Reserve in November offered specific details on its pledge to purchase $600 billion in bond assets to revive the sluggish USEconomy. The 10-year USTreasury yields lie in the 3.2% to 3.4% range, much higher than the 2.49% in the first week of November. The bond market contradiction to the USFed monetization plan is without precedent in US bond market history, a grandiose insult.
The QE2 team is buying $100 billion in USTBonds per month, taking up the slack, without producing any decline in bond yields. The USFed is running a dangerous desperate gambit. Attempts to hold together the ustreasury market during its QE2 strongarm episode are underway. Obviously the USFed is the USTreasury market, with outsized USTBond purchases as part of its QE2 program. An approved posse of market specialists is buying hundreds of $billions of USTreasury securities on the open market. They are filling a vacuum. They are offsetting global creditors in abandonment. They bought in 2011 a full 75% of all USGovt debt issuance, just like Banana Republics!! They must keep the interest rates low. They must prevent a credit derivative blowup event. The USFed is fast losing all credibility, exhausting its power, testing its limits, fighting off demands for independent audits. The QE2 team seeks the best price available. However, due the fully advertised initiative and the heavy volume, is destined to pay a premium price. They have tipped their hand, as they buy $100 billion per month in USTreasurys. It is not possible to be a known buyer with a schedule and agenda, and execute favorable prices. An unexpected backfire occurred on the way to the QE2 launch. Bond yields fell sharply between August and November as the markets anticipated the new program. Bond yields have defiantly risen since details on QE2 were formally announced in November, delivering losses to the frontrunners in the autumn months. Too much doubt was left lingering on the volume of the program, and furthermore, whether a QE3 would launch. Bernanke actually hinted of a third launch, foolishly. The states need several hundred $billion, another monetization object.
GOLD & SILVER PREPARE FOR ANOTHER BREAKOUT
A major consolidation is taking place in the Gold price. A near total disconnect has occurred between the physical Gold & Silver markets and the control strings from the paper futures market held by the maestros. Grotesque shortages exist in silver. Difficulties in gold delivery are commonplace. The central banks and Bank For Intl Settlements scramble to keep gold & silver supplied to the exchanges, in order to avert openly visible defaults. A strong uptrend with rising moving averages is evident in Gold. The breakout in October has been consolidating for three full months, while Europe experiences its open sores of sovereign debt distress. Its price will soon encounter the uptrend lines for likely ignition. When a European aid package is assembled, whether of substance or not, merely if it seems credible, the Euro currency will rebound and the Gold bull will resume. In year 2011, the global monetary system will fracture in visible fashion. Its broken debt foundation will be the proximal cause. Gold is widely regarded as a reserve asset, no longer a stodgy secure asset for Arab sheiks. The dirtiest little secret might be that private Wall Street firm accounts own vast Gold bullion accounts, while their corporate banking entities in South Manhattan own the short futures positions, soon to be dumped on the USGovt in formal fashion. The greatest propulsion force to the Gold price is obviously the USFed and its grandiose QE2 initiative. Their purchase of $100 billion in USTBonds per month signifies that they are the USTreasury Bond market. PIMCO is worried sick about the unbridled monetization. The USFed monetized 75% of USGovt debt in 2011. When the USFed is done with QE2, they will argue for a QE3, probably to cover state debt shortfalls. The precedent has been set. The global currency war is in full swing. Simply put, the Gold price will rise when China is prepared to pay a higher price, after exhausting supply at lower prices.
The greatest offender in currency manipulation and currency undermine is the United States. It is essential that the USGovt continue to make accusations against foreign central bankers, in order to deflect attention. The problem is QE2, and the likelihood of a followup QE3. The USGovt is without permission forcing a debt writedown on foreign USTreasury creditors by installing inflation engines. See the commodity prices, led by food & energy. The USFed and USDept Treasury will proclaim victory by mid-summer, as price inflation begins to rage much hotter. They will call it economic growth. Check import price inflation from the last three months of 2011. Import prices rose 3.7% during that brief time. Not just emerging economies like China and Brazil are contending with price inflation. The US does too, but it calls it growth, since its economic trackers are much more accomplished decepticons. When job losses mount in the second half of 2011, the lies will be unmasked. The USFed is the greatest destoyer of working capital in the history of the world. Their balance sheet is negative $1 trillion and growing worse, their highly appropriate report card. Their wretched financial condition matches their decaying reputation. They are the buyer of worthless toxic bonds, the buyer of last resort. The housing market will NOT recover to bail them out.
USGOVT BUDGET BATTLES
Budget battles are sure to reveal the true fascist motives of those in power. The people will be denied while the war machine is preserved, guns & bombs over bread & butter, big banks over households. In fact, the defense budgets will not be reduced. Rather, defense contractors will be forced to eat cost overruns without volume cutbacks in weapon units at all. The war is sacred, the signature mark of the fascist state. The USGovt seems to have suddenly found religion in reducing the budget and its deeply engrained deficit. It is more superficial than from the heart with conviction. The new wave is all about perceptions. To be sure, some in the USCongress are worried sick and scared pale over the prospects of a structural $trillion deficit. A decade ago such a deficit magnitude would be considered a telltale signature of a Banana Republic nation sliding toward the Third World perilously. The budget battle with the new USCongress will be extremely revealing of the priorities for the Syndicate in full control of the USGovt and press networks. The budget process will in my view continue to place the war as a sacred priority not to be touched, not to be altered, not to be disrupted. In rough terms, the USGovt budget contains components 20.0% Defense, 21.0% Social Security & Medicare, and 14.0% Safety Net System.
In my view, the budget cuts will come exclusively from the people and their homes and work centers, their pensions, their Social Security & Medicare. Tax deduction removals and phaseouts will be a centerpiece. The war machine has given stress to the defense contractors, who will be expected to absorb cost overruns in weapons programs, according to recent Pentagon pronouncements. Enormous costs are involved with the war machine support. The base military budget is $536 billion. The extended budget for the wars adds another $170 billion in supplemental spending, which officials prefer to call Overseas Contingency Operations since it sounds more sophisticated.
The total sum, over $700 billion per year, is the sacred cost of the USMilitary. It includes hundreds of overseas bases, lavish embassies, and endless weapon systems, of types conventional, nuclear, and drones. The United States spends as much on annual military investment as the rest of the world combined, according to the Stockholm Intl Peace Research Institute. One must wonder if the wars are to produce enemies. The United States maintains troops at more than 560 bases and other sites abroad. The outsized yawning Defense spending is a primary cause for USGovt insolvency. It has a staggering deficit impact on the budget and the negative international image of the nation. Watch the unfolding events as the USGovt and USCongress grapple with spending cuts. They will avoid Pentagon and defense budget cuts with fierce opposition. This is a key part of the Fascist Business Model, as sacred as Wall Street largesse.
Harken back to the 1950 decade, during the post-WW2 glow. President Dwight Eisenhower once said, "Every gun that is made, every warship launched, every rocket fired signifies, in the final sense, a theft from those who hunger and are not fed, those who are cold and are not clothed." The words from Ike fell on deaf ears. Not until the last decade have his words rung shrill. He never met the current crowd in control, but he could see a path to their evolution, which he called the Military Industrial Complex. No disrespect is meant to soldiers who have sacrificed. One must wonder for what cause their sacrifice has been, and toward what outsized profits to defense and service contractors, even Syndicate bank accounts. Talk has already begun, that "out of respect for our fighting soldiers and veterans" who have served in active duty, the defense budget will be spared of cuts. Watch the priorities be revealed as the battle unfolds over the budget. In my view, the potential for defense cuts and huge savings is great but it will not be tapped. Instead the people will be asked to expect less aid, to rely upon less, to eat less, to expect less federal help, and endure poverty more.
SHADOW HOME INVENTORY
The standard inventory of homes comes from brokers and multilists. The hidden inventory of homes adds another 50% to 80% to the working supply, half of that from pending seizures, half from bank owned units festering on their balance sheets. Home prices cannot rise in such a deeply distressed climate. The unofficial shadow inventory is another one million homes. Any economist who overlooks the hidden supply of homes is a hack. The housing market cannot recovery for another two years, until it works off the hidden inventory. The problem is that the ongoing home foreclosures results in more bank seizures, and a steady source of renewed hidden inventory. Housing is a crippled market, one that acts like a gigantic millstone around the USEconomy. Housing prices will descend further in 2011, as the shadow inventory acts with powerful forces upon the Supply & Demand equation. It still applies despite any messianic proclamations from banking high priests or Wall Street marketing agents. The mainstream has finally begun to grasp the wreckage and ruin, but not that the housing sector will cause a systemic failure for the nation. It is most assuredly coming. The contradictions and shallow work of Roubini are worth a pass. His work has been ridiculed in the past by the Jackass, like a few months ago when he expected the gold market to turn down. Instead, it rose another 10% to 15% in a string of breakouts. Yet he is still revered, and sought as a guest on the financial networks.
Nouriel Roubini offers some obvious commentary, followed by contradictory nonsense about a USEconomic recovery. His inconsistency earns him a 'C Minus' grade in his own class. The professor is a fool once again. Roubini acknowledges that the housing market is in a double dip, as prices can only go down. He brought attention to what he called below trend economic growth as baseline, but also two negative factors specific to the housing market. The first factor is the expiration of federal home buyer tax credits for first-time home buyers. The housing prices have been falling every month since the tax credit expired last May. He correctly identified the stolen demand from the future to take advantage of the home buyer credit. So he makes an obvious point. The second factor putting downward pressure on home prices is the ongoing chaos with mortgage documentation, and the related temporary moratorium by banks for mortgage foreclosure proceedings. The suspension appears to be ending. Aware of an imminent flood of housing supply, Roubini said "There has been an effective moratorium on foreclosures. The shadow inventory of not-yet-foreclosed homes, due to the moratorium, will surge in the next year. Supply will increase, demand will drop." Obvious points, enough to force a USEconomic recession without a remote chance otherwise.
Roubini remains a shallow economist without strong basis for his opinions, even plain contradictions. He does not expect a double dip recession, since he believes the USGovt kool-aid on doctored statistics. The dull blade Roubini said, "The rest of the economy is recovering. Most of the numbers are consistent with a growth rate of 2.7%, still below trend. So unemployment will likely remain above 9%. The EuroZone shock, long-term structural deficits, and state & local governments operating near bankruptcy are other ominous economic signs on the horizon. The 12 million households are already in negative equity and 8 million more have an Loan-to-Value between 95% and 100%. Thus even a 5% fall in home price will push an extra 8 million in negative equity with risk of millions walking away from their home, i.e. jingle mail." Without realization, he undermines his own assessment of slow USEconomic growth, and provides ample justification for a worse recession than already is in progress. His housing market observations contradict his economic outlook. He does not realize (or admit) that price inflation is running at over 7% right here, right now. Therefore the GDP estimates are all way high, exaggerated by 5% or more. The USEconomy is mired in a deep recession. Sadly, Roubini is a victim of the establishment, which ordered him to compromise his work in order to continue to occupy an important post. See the CNBC article.
The Great Roubini is awakening to the disaster in housing, but he does not yet grasp how it will result in a systemic USEconomic failure. He begins with a slow growth scenario, then cannot justify it, even to contradict it while discussing relevant factors. He will be one of the first shoddy economists to claim the USEconomy is in recovery, as price inflation accelerates, which will incorrectly be labeled it growth. My theory is simple. If the entire USEconomy depended upon the housing boom to expand from 2003 to 2007, then it will be capable of collapsing the same structures given the extreme vulnerability to debt. The vicious cycle will be powerful, unstoppable, and deadly. It has been game over since the September 2008 events when the US banking system collapsed and died, led by Lehman Brothers, Fannie Mae, and AIG. The weight of the continuing housing market decline, combined with strangulation in the banks with toxic debt paper and a surplus of home inventory, is easily sufficient to cause a systemic failure to the entire USEconomy. The big banks are stuck in mud at the cemetery gate. That failure is in progress with momentum. Guys like Roubini and Krugman will be the last to realize the collapse. They are celebrated cheerleaders within the system, compromised souls.
LABOR MARKET STEP-DOWN
The economic step-down is a hidden powerful effect in the de-industrialization of America. The job growth is not a sufficient condition for the USEconomy recovery. People are taking lesser jobs, with huge declines in income. Fewer opportunities exist, while survival demands tough decisions. The endless USEconomic recession has an ugly trademark. People are taking steep pay cuts, enduring lasting reductions in wages. People are taking jobs far below their skill levels. Between 2007 and 2009, more than half the full-time workers who lost jobs (held for at least three years) and found new jobs later reported wage declines, according to the USDept Labor. The detail is 36% of them reported the new job paid 20% less than the previous lost job. An effect rarely seen in recessions since the Great Depression, wages have taken a sharp and swift decline for a significant slice of the labor market. THIS IS A THIRD WORLD HARBINGER. It is worse for many others. The unemployment rolls include 14.5 million people, even 6.4 million stuck jobless for more than six months. A key part of earnings losses, according to the survey, is that workers skills acquired over the last two decades that are fast becoming outdated and obsolete. Then instead of gaining new skills for a higher paying job, they often settle for a lower wage and stop their job hunts, unable to benefit from training. Lack of retraining programs is a huge dropped ball by the USGovt, whose economists cannot find their hind parts with their hands. Research shows that children of displaced workers also suffer in a domino effect. Even those fortunate to remain on the same jobs have seen wage cuts. Many assume more duties too.
RETAIL LEADERS ON THE ROPES
Howard Davidowitz screams his case on the broad retail distress, with details. He warns of huge unresolved problems with commercial property loans, with great stress for landlords. A Paradigm Shift is underway, for smaller footprint shopping centers, as the United States footprint is double anything reasonable. The consumer model is fast breaking down. Davidowitz does not mince words, as he destroyed the illusion of a USEconomic recovery, pointing out absolutely no consumer renaissance. During a recent Bloomberg interview, retail expert Howard Davidowitz shattered the consensus klapptrapp, with quality content and logical thought. He said, "I am not surprised by the strength of retail sales, because I knew that 30% of consumers are responsible for retail sales, and these 30% did much better because of the performance of capital markets. I do not think it is indicative of anything going forward. I do not think the economy is going to get any better. If you look at our fiscal and monetary policy, we went two trillion dollars in the hole last year. Two trillion, to produce this, and unemployment went up to 9.8%! We have spent two trillion dollars. We are printing money. We are going bananas. Our the balance sheet, we have $2.6 trillion on there, and for what? Look at government securities, and mortgage backed securities. If interest rates go up a point Bernanke's bankrupt. Everything he has bought is underwater. All the mortgage bonds are underwater, the whole country is underwater. Does anyone see the issue now with why rising interest rates, aside from predicting a supposed recovery, may also, courtesy of its [greatly increased wrecked bond investments], actually predicts the insolvency of the Federal Reserve?" His comments are not a breath of fresh air, strewn with honesty.
Davidowitz provided several key observations on the supposed retail renaissance. Wal-Mart makes for 10% of US retail sales, has 150 million customers, and its stock it is down six consecutive quarters, not a good sign. Sears is the largest department store in America, but their stock is in terrible shape. Best Buy suffered a huge earnings miss. The financial loss recorded by ToysRUs increased last quarter. Supermarket chain A&P recently filed for bankruptcy. Department store chain Loehmanns just filed for bankruptcy. Charming Shoppes announced plans to close 100 stores. TJMaxx just liquidated AJRight. Davidowitz honed in on Sears for crucifixion. Sears is in the tank, ready to fold its tents in his opinion. Eddie Lampert took over the company recently from his hedge fund position, lacking any conceivable operational experience. He has engrained a policy that departs from price competition. He has not invested in capital equipment upgrades. He has sold his best stores. His online investment has not succeeded. The corporation is gutted, heading for the dumpster, then cemetery. If Lampert were smart, he would sell the company to a greater fool. A joke has surfaced, that A&P might merge with Stop & Shop, with a new corporate name of Stop & Pee, which would open enormous marketing potential.
In addition to dissecting the collapse of Sears, analyst Davidowitz observed what should be a loud glaring alarm signal for guys like Ackman and all those who are betting on the resurgence of the US mall storefront with vehicles like General Growth. The bulk of retail store traffic is moving online, where incidentally the only jobs created are those of packagers and quality control line people either in China or in some warehouse in Texas, California, or Florida. Davidowitz said, "Online sales have to lead you to question the whole retail selling strategy. We have 21 square feet of selling space for every man woman and child in this country. We already have double of what we need. With the explosion of online sales, what happens to all these retail malls and shopping centers which are marginals? Huge changes are going to be taking place as people continue shopping online. A revolution in retail is coming in both size and location of stores, a trend starting with the advent of much smaller Wal-Mart stores. In the end what to do with the retail space is going to be a huge question for retail in the next ten years. That is why Wal-Mart is starting to build smaller stores. That is why Wal-Mart is building more overseas than they are building here. It is going to be the biggest retail change that we have ever seen." The bulldozing of half the US retail malls will be a positive move for economic progress, but extremely disruptive.
The biggest losers in the maverick analyst's estimation will be commercial real estate landlords. Expect great pain for the REIT investments (stock trusts). Howard continues in his railing, making the point of commercial loans next collapsing, a point made by the Jackass for the last 18 months or more. He said "Landlords better start figuring it out pretty quick because they already have occupancy problems, rent problems, and everything else right now. I do not think the Commercial Real Estate (CRE) problems are fixed by any means. That is why we are going to close hundreds of community banks going forward. We are going to close hundreds more. Those CRE debts are coming due and they will not be able to be rolled over. We have lots of problems still coming up in the banking system, and the problems in the real estate issue is here for a long time. In other news, Kool Aid to be served in aisle 5 of the next door Sears box from now until permanent closing time." The man is solid as a rock in his retail analysis, accurate as a sharp knife, with no nonsense.
COMPLEX SOCIETIES & SYSTEMS
Complex societies do not last forever. They break down from internal stresses as often as from external. A society must maintain its system, with more energy expended when more complex. The reserves can be tapped repeatedly if crisis is not averted from regulatory machinery. In time, neglect enters the picture, as stresses break the fabric. Joseph Tainter is well-known for his classic book entitled "The Collapse of Complex Societies" despite his expertise as an archeologist. He must have done much thinking about the collapse of societies whose ruins he unearthed in massive digs. Tainter is on record with his developed thesis, born out of his dissatisfaction with prevailing collapse theories. His argument is straightforward. Human societies are problem solving organizations, which supply the necessities along with entertainment, as well as training to ensure continuation. The over-arching Sociopolitical systems require energy for their maintenance. If left without proper tending, they fall apart like a garden without attention. Increasing complexity carries with it increased cost per capita. Simple monarchies need much less maintenance than democracies, as voices are heard and justice grinds slowly. Investment in sociopolitical complexity often reaches a point of declining marginal returns, as time passes, interest wanes, justice disappoints. When debt saturation occurs, like today, the cost of maintenance and decline can be overwhelming. The complex system becomes vulnerable to collapse after great stresses and what Tainter calls perturbations, better thought of as disruptions or disturbances.
Stress and perturbation are a constant feature of any complex society, always occurring somewhere in its territory. The developed operating regulatory machinery is designed to deal with unplanned changes. Imagine spotty agricultural failures, border conflicts, large scale accidents, social eruptions, and disease outbreaks. Such localized stress tends to recur with regularity, and thus can be anticipated with preparations. To meet major unexpected stress surges, the society must have some form of net reserve. It can take the form of excess productive capacities in farm output, stored energy, or stockpiled minerals, or hoarded surpluses from past production, even reserve savings. Stress surges of great magnitude cannot be accommodated without such a reserve. A society beset by regular self-inflicted crises will be forced to draw upon its stored reserves too quickly. As declining marginal returns are experienced, the society must contend with rising systemic risk. The costs outweigh the yield put in reserve. Excess productive capacity will at some point be exhausted, and accumulated surpluses allocated to current operating needs will be used up. Even when the adversities are met and the surges are dealt with, a detriment to the system as a whole occurs. The society is weakened in the process, and made more vulnerable to the next crisis. Once a complex society develops the vulnerabilities of declining marginal returns, collapse might require the sufficient passage of time to render probable the occurrence of an insurmountable calamity.
More importantly, declining marginal returns make complexity a less attractive goal to maintain. The problem solving strategy takes a secondary role to instituting simpler systems. The society tends to accept the option for less costly and less sophisticated social forms. The alternative embraced eventually is an endorsed level of disintegration. This has occurred to the United States in grand style. As marginal returns deteriorate, tax rates rise with less benefit to the local level. Irrigation systems go untended, bridges and roads are not maintained, the frontier is not adequately defended, product liability is not protected, and fraud prevention is compromised. Notice in the US how cities exhaust their funds with pension programs, unable to provide proper services like police protection. Notice how the US has countless bridges and pipelines (water, sewer, energy) that have gone without proper care. The nation has turned too much attention to war.
As the process degrades, many of the social units that comprise a complex society no longer pursue the increased general advantage, and instead pursue a strategy of personal independence. Then begins a different pursuit of their own immediate goals rather than long-term goals of the networked hierarchy. They see little benefit coming from systemic contributions. Behavioral interdependence (constructive groups) yields way to broader independence (working on one's own). Shrinking resources are strained even more, as control slides away and is lost. The investment in regulatory systems is crucial, as efficiency devices. When they degrade into support systems for corruption, the system falters from its own rotten moral fabric and invites the seeds of rebellion. Eventually, perturbation occurs from within, as civil disobedience takes root. The lack of justice, the apparent predation by the upper hierarchy levels (bankers), and public frustration breeds anarchy like thousands of microdots within the society. See the home mortgage voluntary defaults. Justice is a delicate factor within a society. When justice is dealt, order tends to be preserved. When justice is absent, like for the big US banks, like for military aggression, the people object and depart from norms. The presence in the last two decades of bigger amplitudes in the crisis pain and cost, together with greater frequency of events in cycles, has combined to deplete the reserves of the nation. The Rubin Doctrine of surviving today even if taking aware reserves from tomorrow has assured much greater risk of systemic ruin. In my view, it has guaranteed ruin and collapse. See the Naked Capitalism for a thought provoking article. Complex systems are fascinating, especially when they enter a period of dysfunction.
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21 December 2010
GEAB N°50 is available! Global systemic crisis: Second half of 2011 - European context and US catalyst - Explosion of the Western public debt bubble
The second half of 2011 will mark the point in time when all the world’s financial operators will finally understand that the West will not repay in full a significant portion of the loans advanced over the last two decades. For LEAP/E2020 it is, in effect, around October 2011, due to the plunge of a large number of US cities and states into an inextricable financial situation following the end of the federal funding of their deficits, whilst Europe will face a very significant debt refinancing requirement (1), that this explosive situation will be fully revealed. Media escalation of the European crisis regarding sovereign debt of Euroland’s peripheral countries will have created the favourable context for such an explosion, of which the US “Muni” (2) market incidentally has just given a foretaste in November 2010 (as our team anticipated last June in GEAB No. 46 ) with a mini-crash that saw all the year’s gains go up in smoke in a few days. This time this crash (including the failure of the monoline reinsurer Ambac (3)) took place discreetly (4) since the Anglo-Saxon media machine (5) succeeded in focusing world attention on a further episode of the fantasy sitcom "The end of the Euro, or the financial remake of Swine fever" (6). Yet the contemporaneous shocks in the United States and Europe make for a very disturbing set-up comparable, according to our team, to the "Bear Stearn " crash which preceded Lehman Brothers’ bankruptcy and the collapse of Wall Street in September 2008 by eight months. But the GEAB readers know very well that major crashes rarely make headlines in the media several months in advance, so false alarms are customary (7)!
Net cash outflows from Mutual Funds investing in « Munis » (2007-11/2010) (in USD billions) - Withdrawals were higher than in October 2008 - Source: New York Times, 11/2010
In this GEAB issue, we therefore anticipate the progression of the terminal crash of Western public debt (in particular US and European debt) as well as ways to protect oneself. Furthermore, we analyze the very important structural consequences of the Wikileaks revelations on the United States’ international influence as well as their interaction with the global consequences of the US Federal Reserve’s QE II programme. This GEAB December issue is, of course, the opportunity to assess the validity of our anticipations for 2010, with a of 78% success rate for the year. We also develop strategic advice for Euroland (8) and the United States. And we publish the GEAB-$ index that will now allow us to synthetically follow the progress of US Dollar against major world currencies every month (9).
In this issue, we have chosen to present an excerpt of the forecast on the explosion of the Western public debt bubble.
Thus, the Western public debt crisis is growing very rapidly under the pressure of four increasingly strong limitations:
. the absence of economic recovery in the United States which strangles all public bodies (including the federal state (10)) accustomed to an easy flow of debt and significant tax revenues in recent decades (11)
. the accelerated structural weakening of the United States in monetary, financial as well as diplomatic (12) affairs which reduces their ability to attract world savings (13)
. the global drying up of sources of cheap finance, which precipitates the crisis of excessive debt in Europe’s peripheral countries (in Euroland like Greece, Ireland, Portugal, Spain, ... and the United Kingdom as well (14)) and is starting to touch key countries (USA, Germany, Japan) (15) in a context of very large European debt refinancing in 2011
. the transformation of Euroland into a new "sovereign" that gradually develops new rules for the continent’s public debts.
These four constraints generate varying phenomena and reactions in different regions / countries.
The European context: the price of the path from laxity to austerity will be partly paid for by investors
From the European side, we have thus witnessed the difficult, but ultimately incredibly fast, transformation of the Eurozone into a sort of semi-state entity, Euroland. The delays in the process weren’t only due to the poor quality of the political individuals concerned (16) as the interviews of the "forerunners" such as Helmut Schmidt, Valéry Giscard d'Estaing or Jacques Delors hammered on at length. They themselves never having had to face a historic crisis of this magnitude, a little modesty would have done them good.
These delays are equally due to the fact that current developments in the Eurozone are on a huge political scale (17) and conducted without any democratic political mandate: this situation paralyzes the European leaders who consequently spend their time denying that they are really doing what they do, i.e. namely, building a kind of political entity with its own economic, social and fiscal constituent parts, .... (18) Elected before the crisis erupted, they do not know that their voters (and the economic and financial players at the same time) would be largely satisfied with an explanation about the decisions being planned (19). Because most of major decisions to come are already identifiable, as we analyze in this issue.
Finally, it is a fact that the actions of these same leaders are dissected and manipulated by the main media specializing in economic and financial issues, none of which belong to the Eurozone, and all of which are, on the contrary, entrenched in the $ / £ zone where the strengthening of the euro is considered a disaster. This same media very directly contributes to blur the process underway in Euroland (20) even more.
However, we can see that this adverse effect decreases because between the "Greek crisis" and the "Irish crisis", the resulting Euro exchange rate volatility has weakened. For our team, in spring 2011, it will become an insignificant event. This only leaves, therefore, the issue of the quality of Euroland’s political personnel which will be profoundly changed beginning in 2012 (21) and, more fundamentally, the significant problem of the democratic legitimacy of the tremendous advances in European integration (22). But in a certain fashion, we can say that by 2012/2013, Euroland will have really established mechanisms which will have allowed it to withstand the shock of the crisis, even if it’s necessary to legitimize their existence retrospectively (23).
Comparison of yields on Euroland 10 year government bonds - Source: Thomson Reuters Datastream, 11/16/2010
In this regard, what will help accelerate the bursting of the Western public debt bubble, and what will occur concomitantly for its US catalyst, is the understanding by financial operators of what lies behind the "Eurobligations” (or E-Bonds) (24) debate which has begun to be talked about in recent weeks (25). It is from late 2011 (at the latest) that the merits of this debate will begin to be unveiled within the framework of the preparation for the permanent European Financial Stabilisation Fund (26). Although, what will suddenly appear for the majority of investors who currently speculate on the exorbitant rates of Greek, Irish,... debt is that Euroland solidarity will not extend to them, especially when the case of Spain, Italy or Belgium will start being posed, whatever European leaders say today (27).
In short, according to LEAP/E2020, we should expect a huge operation of sovereign debt transactions (amid a government debt global crisis) which will offer Euroland guaranteed Eurobligations at very low rates in exchange of national securities at high interest rates with a 30% to 50% discount since, in the meantime, the situation of the entire Western public debt market will have deteriorated. Democratically speaking, the newly elected Euroland leaders (28) (after 2012) will be fully authorized to effect such an operation, of which the major banks (including European ones (29)) will be the first victims. It is highly likely that some privileged sovereign creditors like China, Russia, the oil producing countries,... will be offered preferential treatment. They will not complain since the undertaking will result in their sizeable assets in Euros being guaranteed.
Charts at link
Net cash outflows from Mutual Funds investing in « Munis » (2007-11/2010) (in USD billions) - Withdrawals were higher than in October 2008 - Source: New York Times, 11/2010
In this GEAB issue, we therefore anticipate the progression of the terminal crash of Western public debt (in particular US and European debt) as well as ways to protect oneself. Furthermore, we analyze the very important structural consequences of the Wikileaks revelations on the United States’ international influence as well as their interaction with the global consequences of the US Federal Reserve’s QE II programme. This GEAB December issue is, of course, the opportunity to assess the validity of our anticipations for 2010, with a of 78% success rate for the year. We also develop strategic advice for Euroland (8) and the United States. And we publish the GEAB-$ index that will now allow us to synthetically follow the progress of US Dollar against major world currencies every month (9).
In this issue, we have chosen to present an excerpt of the forecast on the explosion of the Western public debt bubble.
Thus, the Western public debt crisis is growing very rapidly under the pressure of four increasingly strong limitations:
. the absence of economic recovery in the United States which strangles all public bodies (including the federal state (10)) accustomed to an easy flow of debt and significant tax revenues in recent decades (11)
. the accelerated structural weakening of the United States in monetary, financial as well as diplomatic (12) affairs which reduces their ability to attract world savings (13)
. the global drying up of sources of cheap finance, which precipitates the crisis of excessive debt in Europe’s peripheral countries (in Euroland like Greece, Ireland, Portugal, Spain, ... and the United Kingdom as well (14)) and is starting to touch key countries (USA, Germany, Japan) (15) in a context of very large European debt refinancing in 2011
. the transformation of Euroland into a new "sovereign" that gradually develops new rules for the continent’s public debts.
These four constraints generate varying phenomena and reactions in different regions / countries.
The European context: the price of the path from laxity to austerity will be partly paid for by investors
From the European side, we have thus witnessed the difficult, but ultimately incredibly fast, transformation of the Eurozone into a sort of semi-state entity, Euroland. The delays in the process weren’t only due to the poor quality of the political individuals concerned (16) as the interviews of the "forerunners" such as Helmut Schmidt, Valéry Giscard d'Estaing or Jacques Delors hammered on at length. They themselves never having had to face a historic crisis of this magnitude, a little modesty would have done them good.
These delays are equally due to the fact that current developments in the Eurozone are on a huge political scale (17) and conducted without any democratic political mandate: this situation paralyzes the European leaders who consequently spend their time denying that they are really doing what they do, i.e. namely, building a kind of political entity with its own economic, social and fiscal constituent parts, .... (18) Elected before the crisis erupted, they do not know that their voters (and the economic and financial players at the same time) would be largely satisfied with an explanation about the decisions being planned (19). Because most of major decisions to come are already identifiable, as we analyze in this issue.
Finally, it is a fact that the actions of these same leaders are dissected and manipulated by the main media specializing in economic and financial issues, none of which belong to the Eurozone, and all of which are, on the contrary, entrenched in the $ / £ zone where the strengthening of the euro is considered a disaster. This same media very directly contributes to blur the process underway in Euroland (20) even more.
However, we can see that this adverse effect decreases because between the "Greek crisis" and the "Irish crisis", the resulting Euro exchange rate volatility has weakened. For our team, in spring 2011, it will become an insignificant event. This only leaves, therefore, the issue of the quality of Euroland’s political personnel which will be profoundly changed beginning in 2012 (21) and, more fundamentally, the significant problem of the democratic legitimacy of the tremendous advances in European integration (22). But in a certain fashion, we can say that by 2012/2013, Euroland will have really established mechanisms which will have allowed it to withstand the shock of the crisis, even if it’s necessary to legitimize their existence retrospectively (23).
Comparison of yields on Euroland 10 year government bonds - Source: Thomson Reuters Datastream, 11/16/2010
In this regard, what will help accelerate the bursting of the Western public debt bubble, and what will occur concomitantly for its US catalyst, is the understanding by financial operators of what lies behind the "Eurobligations” (or E-Bonds) (24) debate which has begun to be talked about in recent weeks (25). It is from late 2011 (at the latest) that the merits of this debate will begin to be unveiled within the framework of the preparation for the permanent European Financial Stabilisation Fund (26). Although, what will suddenly appear for the majority of investors who currently speculate on the exorbitant rates of Greek, Irish,... debt is that Euroland solidarity will not extend to them, especially when the case of Spain, Italy or Belgium will start being posed, whatever European leaders say today (27).
In short, according to LEAP/E2020, we should expect a huge operation of sovereign debt transactions (amid a government debt global crisis) which will offer Euroland guaranteed Eurobligations at very low rates in exchange of national securities at high interest rates with a 30% to 50% discount since, in the meantime, the situation of the entire Western public debt market will have deteriorated. Democratically speaking, the newly elected Euroland leaders (28) (after 2012) will be fully authorized to effect such an operation, of which the major banks (including European ones (29)) will be the first victims. It is highly likely that some privileged sovereign creditors like China, Russia, the oil producing countries,... will be offered preferential treatment. They will not complain since the undertaking will result in their sizeable assets in Euros being guaranteed.
Charts at link
18 October 2010
Why the U.S. has Launched a New Financial World War -- And How the the Rest of the World Will Fight Back
By MICHAEL HUDSON
“Coming events cast their shadows forward.”
– Goethe
What is to stop U.S. banks and their customers from creating $1 trillion, $10 trillion or even $50 trillion on their computer keyboards to buy up all the bonds and stocks in the world, along with all the land and other assets for sale in the hope of making capital gains and pocketing the arbitrage spreads by debt leveraging at less than 1 per cent interest cost? This is the game that is being played today.
Finance is the new form of warfare – without the expense of a military overhead and an occupation against unwilling hosts. It is a competition in credit creation to buy foreign resources, real estate, public and privatized infrastructure, bonds and corporate stock ownership. Who needs an army when you can obtain the usual objective (monetary wealth and asset appropriation) simply by financial means? All that is required is for central banks to accept dollar credit of depreciating international value in payment for local assets. Victory promises to go to whatever economy’s banking system can create the most credit, using an army of computer keyboards to appropriate the world’s resources. The key is to persuade foreign central banks to accept this electronic credit.
U.S. officials demonize foreign countries as aggressive “currency manipulators” keeping their currencies weak. But they simply are trying to protect their currencies from being pushed up against the dollar by arbitrageurs and speculators flooding their financial markets with dollars. Foreign central banks find them obliged to choose between passively letting dollar inflows push up their exchange rates – thereby pricing their exports out of global markets – or recycling these dollar inflows into U.S. Treasury bills yielding only 1% and whose exchange value is declining. (Longer-term bonds risk a domestic dollar-price decline if U.S interest rates should rise.)
“Quantitative easing” is a euphemism for flooding economies with credit, that is, debt on the other side of the balance sheet. The Fed is pumping liquidity and reserves into the domestic financial system to reduce interest rates, ostensibly to enable banks to “earn their way” out of negative equity resulting from the bad loans made during the real estate bubble. But why would banks lend more under conditions where a third of U.S. homes already are in negative equity and the economy is shrinking as a result of debt deflation?
The problem is that U.S. quantitative easing is driving the dollar downward and other currencies up, much to the applause of currency speculators enjoying a quick and easy free lunch. Yet it is to defend this system that U.S. diplomats are threatening to plunge the world economy into financial anarchy if other countries do not agree to a replay of the 1985 Plaza Accord “as a possible framework for engineering an orderly decline in the dollar and avoiding potentially destabilizing trade fights.” The run-up to this weekend’s IMF meetings saw the United States threaten to derail the international financial system, bringing monetary chaos if it does not get its way. This threat has succeeded for the past few generations.
The world is seeing a competition in credit creation to buy foreign resources, real estate, public and privatized infrastructure, bonds and corporate stock ownership. This financial grab is occurring without an army to seize the land or take over the government. Finance is the new form of warfare – without the expense of a military overhead and an occupation against unwilling hosts. Indeed, this “currency war” so far has been voluntary among individual buyers and the sellers who receive surplus dollars for their assets. It is foreign economies that lose, as their central banks recycle this tidal wave of dollar “keyboard credit” back into low-yielding U.S. Treasury securities of declining international value.
For thousands of years tribute was extracted by conquering land and looting silver and gold, as in the sacking of Constantinople in 1204, or Incan Peru and Aztec Mexico three centuries later. But who needs a military war when the same objective can be won financially? Today’s preferred mode of warfare is financial. Victory in today’s monetary warfare promises to go to whatever economy’s banking system can create the most credit. Computer keyboards are today’s army appropriating the world’s resources.
The key to victory is to persuade foreign central banks to accept this electronic credit, bringing pressure to bear via the International Monetary Fund, meeting this last weekend. The aim is nothing as blatant as extracting overt tribute by military occupation. Who needs an army when you can obtain the usual objective (monetary wealth and asset appropriation) simply by financial means? All that is required is for central banks to accept dollar credit of depreciating international value in payment for local assets.
But the world has seen the Plaza Accord derail Japan’s economy by obliging its currency to appreciate while lowering interest rates by flooding its economy with enough credit to inflate a real estate bubble. The alternative to a new currency war “getting completely out of control,” the bank lobbyist suggested, is “to try and reach some broad understandings about where currencies should move.” However, IMF managing director Dominique Strauss-Kahn, was more realistic. “I'm not sure the mood is to have a new Plaza or Louvre accord,” he said at a press briefing. “We are in a different time today.” On the eve of the Washington IMF meetings he added: “The idea that there is an absolute need in a globalised world to work together may lose some steam.” (Alan Beattie Chris Giles and Michiyo Nakamoto, “Currency war fears dominate IMF talks,” Financial Times, October 9, 2010, and Alex Frangos, “Easy Money Churns Emerging Markets,” Wall Street Journal, October 8, 2010.)
Quite the contrary, he added: “We can understand that some element of capital controls [need to] be put in place.”
The great question in global finance today is thus how long other nations will continue to succumb as the cumulative costs rise into the financial stratosphere? The world is being forced to choose between financial anarchy and subordination to a new U.S. economic nationalism. This is what is prompting nations to create an alternative financial system altogether.
The global financial system already has seen one long and unsuccessful experiment in quantitative easing in Japan’s carry trade that sprouted in the wake of Japan’s financial bubble bursting after 1990. Bank of Japan liquidity enabled the banks to lend yen credit to arbitrageurs at a low interest rate to buy higher-yielding securities. Iceland, for example, was paying 15 per cent. So Japanese yen were converted into foreign currencies, pushing down its exchange rate.
It was Japan that refined the “carry trade” in its present-day form. After its financial and property bubble burst in 1990, the Bank of Japan sought to enable its banks to “earn their way out of negative equity” by supplying them with low-interest credit for them to lend out. Japan’s recession left little demand at home, so its banks developed the carry trade: lending at a low interest rate to arbitrageurs at home and abroad, to lend to countries offering the highest returns. Yen were borrowed to convert into dollars, euros, Icelandic kroner and Chinese renminbi to buy government bonds, private-sector bonds, stocks, currency options and other financial intermediation. This “carry trade” was capped by foreign arbitrage in bonds of countries such as Iceland, paying 15 per cent. Not much of this funding was used to finance new capital formation. It was purely financial in character – extractive, not productive.
By 2006 the United States and Europe were experiencing a Japan-style financial and real estate bubble. After it burst in 2008, they did what Japan’s banks did after 1990. Seeking to help U.S. banks work their way out of negative equity, the Federal Reserve flooded the economy with credit. The aim was to provide banks with more liquidity, in the hope that they would lend more to domestic borrowers. The economy would “borrow its way out of debt,” re-inflating asset prices real estate, stocks and bonds so as to deter home foreclosures and the ensuing wipeout of the collateral on bank balance sheets.
This is occurring today as U.S. liquidity spills over to foreign economies, increasing their exchange rates. Joseph Stiglitz recently explained that instead of helping the global recovery, the “flood of liquidity” from the Federal Reserve and the European Central Bank is causing “chaos” in foreign exchange markets. “The irony is that the Fed is creating all this liquidity with the hope that it will revive the American economy. ... It’s doing nothing for the American economy, but it’s causing chaos over the rest of the world.” (Walter Brandimarte, “Fed, ECB throwing world into chaos: Stiglitz,” Reuters, Oct. 5, 2010, reporting on a talk by Prof. Stiglitz at Colombia University. )
Dirk Bezemer and Geoffrey Gardiner, in their paper “Quantitative Easing is Pushing on a String” , prepared for the Boeckler Conference, Berlin, October 29-30, 2010, make clear that “QE provides bank customers, not banks, with loanable funds. Central Banks can supply commercial banks with liquidity that facilitates interbank payments and payments by customers and banks to the government, but what banks lend is their own debt, not that of the central bank. Whether the funds are lent for useful purposes will depend, not on the adequacy of the supply of fund, but on whether the environment is encouraging to real investment.”
Quantitative easing subsidizes U.S. capital flight, pushing up non-dollar currency exchange rates
Federal Reserve Chairman Ben Bernanke’s quantitative easing may not have set out to disrupt the global trade and financial system or start a round of currency speculation that is forcing other countries to defend their economies by rejecting the dollar as a pariah currency. But that is the result of the Fed’s decision in 2008 to keep unpayably high debts from defaulting by re-inflating U.S. real estate and financial markets. The aim is to pull home ownership out of negative equity, rescuing the banking system’s balance sheets and thus saving the government from having to indulge in a Tarp II, which looks politically impossible given the mood of most Americans.
The announced objective is not materializing. The Fed’s new credit creation is not increasing bank loans to real estate, consumers or businesses. Banks are not lending – at home, that is. They are collecting on past loans. This is why the U.S. savings rate is jumping. The “saving” that is reported (up from zero to 3 per cent of GDP) is taking the form of paying down debt, not building up liquid funds on which to draw. Just as hoarding diverts revenue away from being spent on goods and services, so debt repayment shrinks spendable income.
So Bernanke created $2 trillion in new Federal Reserve credit. And now (October 2010) the Fed is proposing to increase the Fed’s money creation by another $1 trillion over the coming year. This is what has led gold prices to surge and investors to move out of weakening “paper currencies” since early September – and prompted other nations to protect their own economies accordingly.
It is hardly surprising that banks are not lending to an economy being shrunk by debt deflation. The entire quantitative easing has been sent abroad, mainly to the BRIC countries: Brazil, Russia, India and China. “Recent research at the International Monetary Fund has shown conclusively that G4 monetary easing has in the past transferred itself almost completely to the emerging economies … since 1995, the stance of monetary policy in Asia has been almost entirely determined by the monetary stance of the G4 – the US, eurozone, Japan and China – led by the Fed.” According to the IMF, “equity prices in Asia and Latin America generally rise when excess liquidity is transferred from the G4 to the emerging economies.”
Borrowing unprecedented amounts from U.S., Japanese and British banks to buy bonds, stocks and currencies in the BRIC and Third World countries is a self-feeding expansion. Speculative inflows into these countries are pushing up their currencies as well as their asset prices, but. Their central banks settle these transactions in dollars, whose value falls as measured in their own local currencies.
U.S. officials say that this is all part of the free market. “It is not good for the world for the burden of solving this broader problem … to rest on the shoulders of the United States,” insisted Treasury Secretary Tim Geithner on Wednesday.
So other countries are solving the problem on their own. Japan is trying to hold down its exchange rate by selling yen and buying U.S. Treasury bonds in the face of its carry trade being unwound as arbitrageurs are paying back the yen that they earlier borrowed to buy higher-yielding but increasingly risky sovereign debt from countries such as Greece. Paying back these arbitrage loans has pushed up the yen’s exchange rate by 12 per cent against the dollar so far during 2010. On Tuesday, October 5, Bank of Japan governor Masaaki Shirakawa announced that Japan had “no choice” but to “spend 5 trillion yen ($60 billion) to buy government bonds, corporate IOUs, real-estate investment trust funds and exchange-traded funds – the latter two a departure from past practice.”
This “sterilization” of unwanted financial speculation is precisely what the United States has criticized China for doing. China has tried more “normal” ways to recycle its trade surplus, by seeking out U.S. companies to buy. But Congress would not let CNOOC buy into U.S. oil refinery capacity a few years ago, and the Canadian government is now being urged to block China’s attempt to purchase its potash resources. This leaves little option for China and other countries but to hold their currencies stable by purchasing U.S. and European government bonds.
This has become the problem for all countries today. As presently structured, the international financial system rewards speculation and makes it difficult for central banks to maintain stability without forced loans to the U.S. Government that has long enjoyed a near monopoly in providing central bank reserves. As noted earlier, arbitrageurs obtain a twofold gain: the arbitrage margin between Brazil’s nearly 12 per cent yield on its long-term government bonds and the cost of U.S. credit (1 per cent), plus the foreign-exchange gain resulting from the fact that the outflow from dollars into reals has pushed up the real’s exchange rate some 30 per cent – from R$2.50 at the start of 2009 to $1.75 last week. Taking into account the ability to leverage $1 million of one’s own equity investment to buy $100 million of foreign securities, the rate of return is 3000 per cent since January 2009.
Brazil has been more a victim than a beneficiary of what is euphemized as a “capital inflow.” The inflow of foreign money has pushed up the real by 4 per cent in just over a month (from September 1 through early October). The past year’s run-up has eroded the competitiveness of Brazilian exports, prompting the government to impose 4 per cent tax on foreign purchases of its bonds on October 4 to deter the currency’s rise. “It’s not only a currency war,” Finance Minister Guido Mantega said on Monday. “It tends to become a trade war and this is our concern.” And Thailand’s central bank director Wongwatoo Potirat warned that his country was considering similar taxes and currency trade restrictions to stem the baht’s rise, and Subir Gokarn, deputy governor of the Reserve Bank of India announced that his country also was reviewing defenses against the “potential threat” of inward capital flows.”
Such inflows do not provide capital for tangible investment. They are predatory, and cause currency fluctuation that disrupts trade patterns while creating enormous trading profits for large financial institutions and their customers. Yet most discussions of exchange rate treat the balance of payments and exchange rates as if they were determined purely by commodity trade and “purchasing power parity,” not by the financial flows and military spending that actually dominate the balance of payments. The reality is that today’s financial interregnum – anarchic “free” markets prior to countries hurriedly putting up their own monetary defenses – provides the arbitrage opportunity of the century. This is what bank lobbyists have been pressing for. It has little to do with the welfare of workers.
The potentially largest speculative prize of all promises to be an upward revaluation of China’s renminbi. The House Ways and Means Committee is backing this gamble, by demanding that China raise its exchange rate by the 20 per cent that the Treasury and Federal Reserve are suggesting. A revaluation of this magnitude would enable speculators to put down 1 per cent equity – say, $1 million to borrow $99 million and buy Chinese renminbi forward. The revaluation being demanded would produce a 2000 per cent profit of $20 million by turning the $100 million bet (and just $1 million “serious money”) into $120 million. Banks can trade on much larger, nearly infinitely leveraged margins, much like drawing up CDO swaps and other derivative plays.
This kind of money already has been made by speculating on Brazilian, Indian and Chinese securities and those of other countries whose exchange rates have been forced up by credit-flight out of the dollar, which has fallen by 7 per cent against a basket of currencies since early September when the Federal Reserve floated the prospect of quantitative easing. During the week leading up to the IMF meetings in Washington, the Thai baht and Indian rupee soared in anticipation that the United States and Britain would block any attempts by foreign countries to change the financial system and curb disruptive currency gambling.
This capital outflow from the United States has indeed helped domestic banks rebuild their balance sheets, as the Fed intended. But in the process the international financial system has been victimized as collateral damage. This prompted Chinese officials to counter U.S. attempts to blame it for running a trade surplus by retorting that U.S. financial aggression “risked bringing mutual destruction upon the great economic powers.
From the gold-exchange standard to the Treasury-bill standard to “free credit” anarchy
Indeed, the standoff between the United States and other countries at the IMF meetings in Washington this weekend threatens to cause the most serious rupture since the breakdown of the London Monetary Conference in 1933. The global financial system threatens once again to break apart, deranging the world’s trade and investment relationships – or to take a new form that will leave the United States isolated in the face of its structural long-term balance-of-payments deficit.
This crisis provides an opportunity – indeed, a need – to step back and review the longue durée of international financial evolution to see where past trends are leading and what paths need to be re-tracked. For many centuries prior to 1971, nations settled their balance of payments in gold or silver. This “money of the world,” as Sir James Steuart called gold in 1767, formed the basis of domestic currency as well. Until 1971 each U.S. Federal Reserve note was backed 25 per cent by gold, valued at $35 an ounce. Countries had to obtain gold by running trade and payments surpluses in order to increase their money supply to facilitate general economic expansion. And when they ran trade deficits or undertook military campaigns, central banks restricted the supply of domestic credit to raise interest rates and attract foreign financial inflows.
As long as this behavioral condition remained in place, the international financial system operated fairly smoothly under checks and balances, albeit under “stop-go” policies when business expansions led to trade and payments deficits. Countries running such deficits raised their interest rates to attract foreign capital, while slashing government spending, raising taxes on consumers and slowing the domestic economy so as to reduce the purchase of imports.
What destabilized this system was war spending. War-related transactions spanning World Wars I and II enabled the United States to accumulate some 80 per cent of the world’s monetary gold by 1950. This made the dollar a virtual proxy for gold. But after the Korean War broke out, U.S. overseas military spending accounted for the entire payments deficit during the 1950s and ‘60s and early ‘70s. Private-sector trade and investment was exactly in balance.
By August 1971, war spending in Vietnam and other foreign countries forced the United States to suspend gold convertibility of the dollar through sales via the London Gold Pool. But largely by inertia, central banks continued to settle their payments balances in U.S. Treasury securities. After all, there was no other asset in sufficient supply to form the basis for central bank monetary reserves. But replacing gold – a pure asset – with dollar-denominated U.S. Treasury debt transformed the global financial system. It became debt-based, not asset-based. And geopolitically, the Treasury-bill standard made the United States immune from the traditional balance-of-payments and financial constraints, enabling its capital markets to become more highly debt-leveraged and “innovative.” It also enabled the U.S. Government to wage foreign policy and military campaigns without much regard for the balance of payments.
The problem is that the supply of dollar credit has become potentially infinite. The “dollar glut” has grown in proportion to the U.S. payments deficit. Growth in central bank reserves and sovereign-country funds has taken the form of recycling of dollar inflows into new purchases of U.S. Treasury securities – thereby making foreign central banks (and taxpayers) responsible for financing most of the U.S. federal budget deficit. The fact that this deficit is largely military in nature – for purposes that many foreign voters oppose – makes this lock-in particularly galling. So it hardly is surprising that foreign countries are seeking an alternative.
Contrary to most public media posturing, the U.S. payments deficit – and hence, other countries’ payments surpluses – is not primarily a trade deficit. Foreign military spending has accelerated despite the Cold War ending with dissolution of the Soviet Union in 1991. Even more important has been rising capital outflows from the United States. Banks lent to foreign governments from Third World countries, to other deficit countries to cover their national payments deficits, to private borrowers to buy the foreign infrastructure being privatized, foreign stocks and bonds, and to arbitrageurs to borrow at a low interest rate to buy higher-yielding securities abroad.
The corollary is that other countries’ balance-of-payments surpluses do not stem primarily from trade relations, but from financial speculation and a spillover of U.S. global military spending. Under these conditions the maneuvering for quick returns by banks and their arbitrage customers is distorting exchange rates for international trade. U.S. “quantitative easing” is coming to be perceived as a euphemism for a predatory financial attack on the rest of the world. Trade and currency stability are part of the “collateral damage” being caused by the Federal Reserve and Treasury flooding the economy with liquidity in their attempt to re-inflate U.S. asset prices. Faced with U.S. quantitative easing flooding the economy with reserves to “save the banks” from negative equity, all countries are obliged to act as “currency manipulators.” So much money is made by purely financial speculation that “real” economies are being destroyed.
The coming capital controls
The global financial system is being broken up as U.S. monetary officials change the rules they laid down nearly half a century ago. Prior to the United States going off gold in 1971, nobody dreamed that an economy – especially the United States – would create unlimited credit on computer keyboards and not see its currency plunge. But that is what happens under the Treasury-bill standard of international finance. Under this condition, foreign countries can prevent their currencies from rising against the dollar (thereby pricing their labor and exports out of foreign markets) only by (1) recycling dollar inflows into U.S. Treasury securities, (2) by imposing capital controls, or (3) by avoiding use of the dollar or other currencies used by financial speculators in economies promoting “quantitative easing.”
Malaysia successfully used capital controls during the 1997 Asian Crisis to prevent short-sellers from covering their bets. This confronted speculators with a short squeeze that George Soros says made him lose money on the attempted raid. Other countries are now reviewing how to impose capital controls to protect themselves from the tsunami of credit from flowing into their currencies and buying up their assets – along with gold and other commodities that are turning into vehicles for speculation rather than actual use in production. Brazil took a modest step along this path by using tax policy rather than outright capital controls when it taxed foreign buyers of its bonds last week.
If other nations take this route, it will reverse the policy of open and unprotected capital markets adopted after World War II. This trend threatens to lead to the kind of international monetary practice found from the 1930s into the ‘50s: dual exchange rates, one for financial movements and another for trade. It probably would mean replacing the IMF, World Bank and WTO with a new set of institutions, isolating U.S., British and Eurozone representation.
To defend itself, the IMF is proposing to act as a “central bank” creating what was called “paper gold” in the late 1960s – artificial credit in the form of Special Drawing Rights (SDRs). However, other countries already have complained that voting control remains dominated by the major promoters of arbitrage speculation – the United States, Britain and Eurozone. And the IMF’s Articles of Agreement prevent countries from protecting themselves, characterizing this as “interfering” with “open capital markets.” So the impasse reached this weekend appears to be permanent. As one report summarized matters: “‘There is only one obstacle, which is the agreement of the members,’ said a frustrated Kahn .”
Paul Martin, the former Canadian prime minister who helped create the G20 after the 1997-1998 Asian financial crisis, said “said the big powers were largely immune to being named andshamed.” And in a Financial Times interview Mohamed El Erian, a former senior IMF official and now chief executive of Pimco said, “You have a burst pipe behind the wall and the water is coming out. You have to fix the pipe, not just patch the wall.”
The BRIC countries are simply creating their own parallel system. In September, China supported a Russian proposal to start direct trading between the yuan and the ruble. It has brokered a similar deal with Brazil. And on the eve of the IMF meetings in Washington on Friday, October 8, Chinese Premier Wen stopped off in Istanbul to reach agreement with Turkish Prime Minister Erdogan to use their own currencies in tripling Turkish-Chinese trade to $50 billion over the next five years, effectively excluding the U.S. dollar. “We are forming an economic strategic partnership … In all of our relations, we have agreed to use the lira and yuan,” Mr. Erdogan said.
On the deepest economic lane, the present global financial breakdown is part of the price to be paid for the Federal Reserve and U.S. Treasury refusing to accept a prime axiom of banking: Debts that cannot be paid, won’t be. They tried to “save” the banking system from debt write-downs in 2008 by keeping the debt overhead in place. The resulting repayment burden continues to shrink the U.S. economy, while the Fed’s way to help the banks “earn their way out of negative equity” has been to fuel a flood of international financial speculation. Faced with normalizing world trade or providing opportunities for predatory finance, the U.S. and Britain have thrown their weigh behind the latter. Targeted economies understandably seeking alternative arrangements.
Michael Hudson is a former Wall Street economist. A Distinguished Research Professor at University of Missouri, Kansas City (UMKC), he is the author of many books, including Super Imperialism: The Economic Strategy of American Empire (new ed., Pluto Press, 2002) and Trade, Development and Foreign Debt: A History of Theories of Polarization v. Convergence in the World Economy. He can be reached via his website, mh@michael-hudson.com
“Coming events cast their shadows forward.”
– Goethe
What is to stop U.S. banks and their customers from creating $1 trillion, $10 trillion or even $50 trillion on their computer keyboards to buy up all the bonds and stocks in the world, along with all the land and other assets for sale in the hope of making capital gains and pocketing the arbitrage spreads by debt leveraging at less than 1 per cent interest cost? This is the game that is being played today.
Finance is the new form of warfare – without the expense of a military overhead and an occupation against unwilling hosts. It is a competition in credit creation to buy foreign resources, real estate, public and privatized infrastructure, bonds and corporate stock ownership. Who needs an army when you can obtain the usual objective (monetary wealth and asset appropriation) simply by financial means? All that is required is for central banks to accept dollar credit of depreciating international value in payment for local assets. Victory promises to go to whatever economy’s banking system can create the most credit, using an army of computer keyboards to appropriate the world’s resources. The key is to persuade foreign central banks to accept this electronic credit.
U.S. officials demonize foreign countries as aggressive “currency manipulators” keeping their currencies weak. But they simply are trying to protect their currencies from being pushed up against the dollar by arbitrageurs and speculators flooding their financial markets with dollars. Foreign central banks find them obliged to choose between passively letting dollar inflows push up their exchange rates – thereby pricing their exports out of global markets – or recycling these dollar inflows into U.S. Treasury bills yielding only 1% and whose exchange value is declining. (Longer-term bonds risk a domestic dollar-price decline if U.S interest rates should rise.)
“Quantitative easing” is a euphemism for flooding economies with credit, that is, debt on the other side of the balance sheet. The Fed is pumping liquidity and reserves into the domestic financial system to reduce interest rates, ostensibly to enable banks to “earn their way” out of negative equity resulting from the bad loans made during the real estate bubble. But why would banks lend more under conditions where a third of U.S. homes already are in negative equity and the economy is shrinking as a result of debt deflation?
The problem is that U.S. quantitative easing is driving the dollar downward and other currencies up, much to the applause of currency speculators enjoying a quick and easy free lunch. Yet it is to defend this system that U.S. diplomats are threatening to plunge the world economy into financial anarchy if other countries do not agree to a replay of the 1985 Plaza Accord “as a possible framework for engineering an orderly decline in the dollar and avoiding potentially destabilizing trade fights.” The run-up to this weekend’s IMF meetings saw the United States threaten to derail the international financial system, bringing monetary chaos if it does not get its way. This threat has succeeded for the past few generations.
The world is seeing a competition in credit creation to buy foreign resources, real estate, public and privatized infrastructure, bonds and corporate stock ownership. This financial grab is occurring without an army to seize the land or take over the government. Finance is the new form of warfare – without the expense of a military overhead and an occupation against unwilling hosts. Indeed, this “currency war” so far has been voluntary among individual buyers and the sellers who receive surplus dollars for their assets. It is foreign economies that lose, as their central banks recycle this tidal wave of dollar “keyboard credit” back into low-yielding U.S. Treasury securities of declining international value.
For thousands of years tribute was extracted by conquering land and looting silver and gold, as in the sacking of Constantinople in 1204, or Incan Peru and Aztec Mexico three centuries later. But who needs a military war when the same objective can be won financially? Today’s preferred mode of warfare is financial. Victory in today’s monetary warfare promises to go to whatever economy’s banking system can create the most credit. Computer keyboards are today’s army appropriating the world’s resources.
The key to victory is to persuade foreign central banks to accept this electronic credit, bringing pressure to bear via the International Monetary Fund, meeting this last weekend. The aim is nothing as blatant as extracting overt tribute by military occupation. Who needs an army when you can obtain the usual objective (monetary wealth and asset appropriation) simply by financial means? All that is required is for central banks to accept dollar credit of depreciating international value in payment for local assets.
But the world has seen the Plaza Accord derail Japan’s economy by obliging its currency to appreciate while lowering interest rates by flooding its economy with enough credit to inflate a real estate bubble. The alternative to a new currency war “getting completely out of control,” the bank lobbyist suggested, is “to try and reach some broad understandings about where currencies should move.” However, IMF managing director Dominique Strauss-Kahn, was more realistic. “I'm not sure the mood is to have a new Plaza or Louvre accord,” he said at a press briefing. “We are in a different time today.” On the eve of the Washington IMF meetings he added: “The idea that there is an absolute need in a globalised world to work together may lose some steam.” (Alan Beattie Chris Giles and Michiyo Nakamoto, “Currency war fears dominate IMF talks,” Financial Times, October 9, 2010, and Alex Frangos, “Easy Money Churns Emerging Markets,” Wall Street Journal, October 8, 2010.)
Quite the contrary, he added: “We can understand that some element of capital controls [need to] be put in place.”
The great question in global finance today is thus how long other nations will continue to succumb as the cumulative costs rise into the financial stratosphere? The world is being forced to choose between financial anarchy and subordination to a new U.S. economic nationalism. This is what is prompting nations to create an alternative financial system altogether.
The global financial system already has seen one long and unsuccessful experiment in quantitative easing in Japan’s carry trade that sprouted in the wake of Japan’s financial bubble bursting after 1990. Bank of Japan liquidity enabled the banks to lend yen credit to arbitrageurs at a low interest rate to buy higher-yielding securities. Iceland, for example, was paying 15 per cent. So Japanese yen were converted into foreign currencies, pushing down its exchange rate.
It was Japan that refined the “carry trade” in its present-day form. After its financial and property bubble burst in 1990, the Bank of Japan sought to enable its banks to “earn their way out of negative equity” by supplying them with low-interest credit for them to lend out. Japan’s recession left little demand at home, so its banks developed the carry trade: lending at a low interest rate to arbitrageurs at home and abroad, to lend to countries offering the highest returns. Yen were borrowed to convert into dollars, euros, Icelandic kroner and Chinese renminbi to buy government bonds, private-sector bonds, stocks, currency options and other financial intermediation. This “carry trade” was capped by foreign arbitrage in bonds of countries such as Iceland, paying 15 per cent. Not much of this funding was used to finance new capital formation. It was purely financial in character – extractive, not productive.
By 2006 the United States and Europe were experiencing a Japan-style financial and real estate bubble. After it burst in 2008, they did what Japan’s banks did after 1990. Seeking to help U.S. banks work their way out of negative equity, the Federal Reserve flooded the economy with credit. The aim was to provide banks with more liquidity, in the hope that they would lend more to domestic borrowers. The economy would “borrow its way out of debt,” re-inflating asset prices real estate, stocks and bonds so as to deter home foreclosures and the ensuing wipeout of the collateral on bank balance sheets.
This is occurring today as U.S. liquidity spills over to foreign economies, increasing their exchange rates. Joseph Stiglitz recently explained that instead of helping the global recovery, the “flood of liquidity” from the Federal Reserve and the European Central Bank is causing “chaos” in foreign exchange markets. “The irony is that the Fed is creating all this liquidity with the hope that it will revive the American economy. ... It’s doing nothing for the American economy, but it’s causing chaos over the rest of the world.” (Walter Brandimarte, “Fed, ECB throwing world into chaos: Stiglitz,” Reuters, Oct. 5, 2010, reporting on a talk by Prof. Stiglitz at Colombia University. )
Dirk Bezemer and Geoffrey Gardiner, in their paper “Quantitative Easing is Pushing on a String” , prepared for the Boeckler Conference, Berlin, October 29-30, 2010, make clear that “QE provides bank customers, not banks, with loanable funds. Central Banks can supply commercial banks with liquidity that facilitates interbank payments and payments by customers and banks to the government, but what banks lend is their own debt, not that of the central bank. Whether the funds are lent for useful purposes will depend, not on the adequacy of the supply of fund, but on whether the environment is encouraging to real investment.”
Quantitative easing subsidizes U.S. capital flight, pushing up non-dollar currency exchange rates
Federal Reserve Chairman Ben Bernanke’s quantitative easing may not have set out to disrupt the global trade and financial system or start a round of currency speculation that is forcing other countries to defend their economies by rejecting the dollar as a pariah currency. But that is the result of the Fed’s decision in 2008 to keep unpayably high debts from defaulting by re-inflating U.S. real estate and financial markets. The aim is to pull home ownership out of negative equity, rescuing the banking system’s balance sheets and thus saving the government from having to indulge in a Tarp II, which looks politically impossible given the mood of most Americans.
The announced objective is not materializing. The Fed’s new credit creation is not increasing bank loans to real estate, consumers or businesses. Banks are not lending – at home, that is. They are collecting on past loans. This is why the U.S. savings rate is jumping. The “saving” that is reported (up from zero to 3 per cent of GDP) is taking the form of paying down debt, not building up liquid funds on which to draw. Just as hoarding diverts revenue away from being spent on goods and services, so debt repayment shrinks spendable income.
So Bernanke created $2 trillion in new Federal Reserve credit. And now (October 2010) the Fed is proposing to increase the Fed’s money creation by another $1 trillion over the coming year. This is what has led gold prices to surge and investors to move out of weakening “paper currencies” since early September – and prompted other nations to protect their own economies accordingly.
It is hardly surprising that banks are not lending to an economy being shrunk by debt deflation. The entire quantitative easing has been sent abroad, mainly to the BRIC countries: Brazil, Russia, India and China. “Recent research at the International Monetary Fund has shown conclusively that G4 monetary easing has in the past transferred itself almost completely to the emerging economies … since 1995, the stance of monetary policy in Asia has been almost entirely determined by the monetary stance of the G4 – the US, eurozone, Japan and China – led by the Fed.” According to the IMF, “equity prices in Asia and Latin America generally rise when excess liquidity is transferred from the G4 to the emerging economies.”
Borrowing unprecedented amounts from U.S., Japanese and British banks to buy bonds, stocks and currencies in the BRIC and Third World countries is a self-feeding expansion. Speculative inflows into these countries are pushing up their currencies as well as their asset prices, but. Their central banks settle these transactions in dollars, whose value falls as measured in their own local currencies.
U.S. officials say that this is all part of the free market. “It is not good for the world for the burden of solving this broader problem … to rest on the shoulders of the United States,” insisted Treasury Secretary Tim Geithner on Wednesday.
So other countries are solving the problem on their own. Japan is trying to hold down its exchange rate by selling yen and buying U.S. Treasury bonds in the face of its carry trade being unwound as arbitrageurs are paying back the yen that they earlier borrowed to buy higher-yielding but increasingly risky sovereign debt from countries such as Greece. Paying back these arbitrage loans has pushed up the yen’s exchange rate by 12 per cent against the dollar so far during 2010. On Tuesday, October 5, Bank of Japan governor Masaaki Shirakawa announced that Japan had “no choice” but to “spend 5 trillion yen ($60 billion) to buy government bonds, corporate IOUs, real-estate investment trust funds and exchange-traded funds – the latter two a departure from past practice.”
This “sterilization” of unwanted financial speculation is precisely what the United States has criticized China for doing. China has tried more “normal” ways to recycle its trade surplus, by seeking out U.S. companies to buy. But Congress would not let CNOOC buy into U.S. oil refinery capacity a few years ago, and the Canadian government is now being urged to block China’s attempt to purchase its potash resources. This leaves little option for China and other countries but to hold their currencies stable by purchasing U.S. and European government bonds.
This has become the problem for all countries today. As presently structured, the international financial system rewards speculation and makes it difficult for central banks to maintain stability without forced loans to the U.S. Government that has long enjoyed a near monopoly in providing central bank reserves. As noted earlier, arbitrageurs obtain a twofold gain: the arbitrage margin between Brazil’s nearly 12 per cent yield on its long-term government bonds and the cost of U.S. credit (1 per cent), plus the foreign-exchange gain resulting from the fact that the outflow from dollars into reals has pushed up the real’s exchange rate some 30 per cent – from R$2.50 at the start of 2009 to $1.75 last week. Taking into account the ability to leverage $1 million of one’s own equity investment to buy $100 million of foreign securities, the rate of return is 3000 per cent since January 2009.
Brazil has been more a victim than a beneficiary of what is euphemized as a “capital inflow.” The inflow of foreign money has pushed up the real by 4 per cent in just over a month (from September 1 through early October). The past year’s run-up has eroded the competitiveness of Brazilian exports, prompting the government to impose 4 per cent tax on foreign purchases of its bonds on October 4 to deter the currency’s rise. “It’s not only a currency war,” Finance Minister Guido Mantega said on Monday. “It tends to become a trade war and this is our concern.” And Thailand’s central bank director Wongwatoo Potirat warned that his country was considering similar taxes and currency trade restrictions to stem the baht’s rise, and Subir Gokarn, deputy governor of the Reserve Bank of India announced that his country also was reviewing defenses against the “potential threat” of inward capital flows.”
Such inflows do not provide capital for tangible investment. They are predatory, and cause currency fluctuation that disrupts trade patterns while creating enormous trading profits for large financial institutions and their customers. Yet most discussions of exchange rate treat the balance of payments and exchange rates as if they were determined purely by commodity trade and “purchasing power parity,” not by the financial flows and military spending that actually dominate the balance of payments. The reality is that today’s financial interregnum – anarchic “free” markets prior to countries hurriedly putting up their own monetary defenses – provides the arbitrage opportunity of the century. This is what bank lobbyists have been pressing for. It has little to do with the welfare of workers.
The potentially largest speculative prize of all promises to be an upward revaluation of China’s renminbi. The House Ways and Means Committee is backing this gamble, by demanding that China raise its exchange rate by the 20 per cent that the Treasury and Federal Reserve are suggesting. A revaluation of this magnitude would enable speculators to put down 1 per cent equity – say, $1 million to borrow $99 million and buy Chinese renminbi forward. The revaluation being demanded would produce a 2000 per cent profit of $20 million by turning the $100 million bet (and just $1 million “serious money”) into $120 million. Banks can trade on much larger, nearly infinitely leveraged margins, much like drawing up CDO swaps and other derivative plays.
This kind of money already has been made by speculating on Brazilian, Indian and Chinese securities and those of other countries whose exchange rates have been forced up by credit-flight out of the dollar, which has fallen by 7 per cent against a basket of currencies since early September when the Federal Reserve floated the prospect of quantitative easing. During the week leading up to the IMF meetings in Washington, the Thai baht and Indian rupee soared in anticipation that the United States and Britain would block any attempts by foreign countries to change the financial system and curb disruptive currency gambling.
This capital outflow from the United States has indeed helped domestic banks rebuild their balance sheets, as the Fed intended. But in the process the international financial system has been victimized as collateral damage. This prompted Chinese officials to counter U.S. attempts to blame it for running a trade surplus by retorting that U.S. financial aggression “risked bringing mutual destruction upon the great economic powers.
From the gold-exchange standard to the Treasury-bill standard to “free credit” anarchy
Indeed, the standoff between the United States and other countries at the IMF meetings in Washington this weekend threatens to cause the most serious rupture since the breakdown of the London Monetary Conference in 1933. The global financial system threatens once again to break apart, deranging the world’s trade and investment relationships – or to take a new form that will leave the United States isolated in the face of its structural long-term balance-of-payments deficit.
This crisis provides an opportunity – indeed, a need – to step back and review the longue durée of international financial evolution to see where past trends are leading and what paths need to be re-tracked. For many centuries prior to 1971, nations settled their balance of payments in gold or silver. This “money of the world,” as Sir James Steuart called gold in 1767, formed the basis of domestic currency as well. Until 1971 each U.S. Federal Reserve note was backed 25 per cent by gold, valued at $35 an ounce. Countries had to obtain gold by running trade and payments surpluses in order to increase their money supply to facilitate general economic expansion. And when they ran trade deficits or undertook military campaigns, central banks restricted the supply of domestic credit to raise interest rates and attract foreign financial inflows.
As long as this behavioral condition remained in place, the international financial system operated fairly smoothly under checks and balances, albeit under “stop-go” policies when business expansions led to trade and payments deficits. Countries running such deficits raised their interest rates to attract foreign capital, while slashing government spending, raising taxes on consumers and slowing the domestic economy so as to reduce the purchase of imports.
What destabilized this system was war spending. War-related transactions spanning World Wars I and II enabled the United States to accumulate some 80 per cent of the world’s monetary gold by 1950. This made the dollar a virtual proxy for gold. But after the Korean War broke out, U.S. overseas military spending accounted for the entire payments deficit during the 1950s and ‘60s and early ‘70s. Private-sector trade and investment was exactly in balance.
By August 1971, war spending in Vietnam and other foreign countries forced the United States to suspend gold convertibility of the dollar through sales via the London Gold Pool. But largely by inertia, central banks continued to settle their payments balances in U.S. Treasury securities. After all, there was no other asset in sufficient supply to form the basis for central bank monetary reserves. But replacing gold – a pure asset – with dollar-denominated U.S. Treasury debt transformed the global financial system. It became debt-based, not asset-based. And geopolitically, the Treasury-bill standard made the United States immune from the traditional balance-of-payments and financial constraints, enabling its capital markets to become more highly debt-leveraged and “innovative.” It also enabled the U.S. Government to wage foreign policy and military campaigns without much regard for the balance of payments.
The problem is that the supply of dollar credit has become potentially infinite. The “dollar glut” has grown in proportion to the U.S. payments deficit. Growth in central bank reserves and sovereign-country funds has taken the form of recycling of dollar inflows into new purchases of U.S. Treasury securities – thereby making foreign central banks (and taxpayers) responsible for financing most of the U.S. federal budget deficit. The fact that this deficit is largely military in nature – for purposes that many foreign voters oppose – makes this lock-in particularly galling. So it hardly is surprising that foreign countries are seeking an alternative.
Contrary to most public media posturing, the U.S. payments deficit – and hence, other countries’ payments surpluses – is not primarily a trade deficit. Foreign military spending has accelerated despite the Cold War ending with dissolution of the Soviet Union in 1991. Even more important has been rising capital outflows from the United States. Banks lent to foreign governments from Third World countries, to other deficit countries to cover their national payments deficits, to private borrowers to buy the foreign infrastructure being privatized, foreign stocks and bonds, and to arbitrageurs to borrow at a low interest rate to buy higher-yielding securities abroad.
The corollary is that other countries’ balance-of-payments surpluses do not stem primarily from trade relations, but from financial speculation and a spillover of U.S. global military spending. Under these conditions the maneuvering for quick returns by banks and their arbitrage customers is distorting exchange rates for international trade. U.S. “quantitative easing” is coming to be perceived as a euphemism for a predatory financial attack on the rest of the world. Trade and currency stability are part of the “collateral damage” being caused by the Federal Reserve and Treasury flooding the economy with liquidity in their attempt to re-inflate U.S. asset prices. Faced with U.S. quantitative easing flooding the economy with reserves to “save the banks” from negative equity, all countries are obliged to act as “currency manipulators.” So much money is made by purely financial speculation that “real” economies are being destroyed.
The coming capital controls
The global financial system is being broken up as U.S. monetary officials change the rules they laid down nearly half a century ago. Prior to the United States going off gold in 1971, nobody dreamed that an economy – especially the United States – would create unlimited credit on computer keyboards and not see its currency plunge. But that is what happens under the Treasury-bill standard of international finance. Under this condition, foreign countries can prevent their currencies from rising against the dollar (thereby pricing their labor and exports out of foreign markets) only by (1) recycling dollar inflows into U.S. Treasury securities, (2) by imposing capital controls, or (3) by avoiding use of the dollar or other currencies used by financial speculators in economies promoting “quantitative easing.”
Malaysia successfully used capital controls during the 1997 Asian Crisis to prevent short-sellers from covering their bets. This confronted speculators with a short squeeze that George Soros says made him lose money on the attempted raid. Other countries are now reviewing how to impose capital controls to protect themselves from the tsunami of credit from flowing into their currencies and buying up their assets – along with gold and other commodities that are turning into vehicles for speculation rather than actual use in production. Brazil took a modest step along this path by using tax policy rather than outright capital controls when it taxed foreign buyers of its bonds last week.
If other nations take this route, it will reverse the policy of open and unprotected capital markets adopted after World War II. This trend threatens to lead to the kind of international monetary practice found from the 1930s into the ‘50s: dual exchange rates, one for financial movements and another for trade. It probably would mean replacing the IMF, World Bank and WTO with a new set of institutions, isolating U.S., British and Eurozone representation.
To defend itself, the IMF is proposing to act as a “central bank” creating what was called “paper gold” in the late 1960s – artificial credit in the form of Special Drawing Rights (SDRs). However, other countries already have complained that voting control remains dominated by the major promoters of arbitrage speculation – the United States, Britain and Eurozone. And the IMF’s Articles of Agreement prevent countries from protecting themselves, characterizing this as “interfering” with “open capital markets.” So the impasse reached this weekend appears to be permanent. As one report summarized matters: “‘There is only one obstacle, which is the agreement of the members,’ said a frustrated Kahn .”
Paul Martin, the former Canadian prime minister who helped create the G20 after the 1997-1998 Asian financial crisis, said “said the big powers were largely immune to being named andshamed.” And in a Financial Times interview Mohamed El Erian, a former senior IMF official and now chief executive of Pimco said, “You have a burst pipe behind the wall and the water is coming out. You have to fix the pipe, not just patch the wall.”
The BRIC countries are simply creating their own parallel system. In September, China supported a Russian proposal to start direct trading between the yuan and the ruble. It has brokered a similar deal with Brazil. And on the eve of the IMF meetings in Washington on Friday, October 8, Chinese Premier Wen stopped off in Istanbul to reach agreement with Turkish Prime Minister Erdogan to use their own currencies in tripling Turkish-Chinese trade to $50 billion over the next five years, effectively excluding the U.S. dollar. “We are forming an economic strategic partnership … In all of our relations, we have agreed to use the lira and yuan,” Mr. Erdogan said.
On the deepest economic lane, the present global financial breakdown is part of the price to be paid for the Federal Reserve and U.S. Treasury refusing to accept a prime axiom of banking: Debts that cannot be paid, won’t be. They tried to “save” the banking system from debt write-downs in 2008 by keeping the debt overhead in place. The resulting repayment burden continues to shrink the U.S. economy, while the Fed’s way to help the banks “earn their way out of negative equity” has been to fuel a flood of international financial speculation. Faced with normalizing world trade or providing opportunities for predatory finance, the U.S. and Britain have thrown their weigh behind the latter. Targeted economies understandably seeking alternative arrangements.
Michael Hudson is a former Wall Street economist. A Distinguished Research Professor at University of Missouri, Kansas City (UMKC), he is the author of many books, including Super Imperialism: The Economic Strategy of American Empire (new ed., Pluto Press, 2002) and Trade, Development and Foreign Debt: A History of Theories of Polarization v. Convergence in the World Economy. He can be reached via his website, mh@michael-hudson.com
11 March 2010
Theory of Positive Thinking
Hat tip to Charles Powell. The divergence between economic conditions in Australia, hitched as it is to China and India and the US and UK is amazing. I would hazard a guess that things will be worse here on a six month outlook, but who can be sure.
I’ve seldom seen so much rubbish written by people who ought to know better in a single day. Many able people have heaped the scorn and incredulity on three articles, one a piece on Rahm Emanuel slotted to run in the Sunday New York Times Magazine, another an artfully packed laudatory piece on Timothy Geithner by John Cassidy in the New Yorker and a more even handed looking one (I stress “looking”) in the Atlantic.
Ed Harrison has skillfully shredded parsed the Geithner pieces . Simon Johnson thrashed the New Yorker story. A key paragraph below:
The main feature of the plan, of course, was – following the stress tests – to communicate effectively that there was a government guarantee behind every major bank or quasi-bank in the United States. Of course this works in the short-term – investors like such guarantees. But there’s a good reason we usually don’t guarantee all financial institutions – or act happy when other countries do the same. Unconditional bailouts lead to trouble, encouraging reckless risk-taking and undermining responsible governance. You can’t run any form of reasonable market system when some big players hold “get out of bankruptcy free” cards.
Banking expert Chris Whalen was so disturbed by the numerous distortions in the New Yorker piece that he had already fired off a long letter to the editor by the time I pinged him, with these starting paragraphs:
Jack Cassidy tells us that “Timothy Geithner’s financial plan is working—and making him very unpopular.” Unfortunately this is completely wrong. Cassidy’s comment just illustrates why the New Yorker has fallen into such obscurity, namely because it is more Vanity Fair than its vivacious sibling and unable to perform critical journalism.
In fact, the banking system is continuing to sink under bad loans and even worse securities losses. Telling the public that the banks are “fixed” is irresponsible. Unfortunately this false perception is widespread, including among major media such as CNBC and also with a number of my clients in the hedge fund world.
And from Marshall Auerback, who had a ringside view of the aftermath of the Japanese bubble:
Cassidy’s article brings to mind a retort by Chou En Lai when he was asked about the success of the French Revolution. He said, “It’s too early to tell”. Yet here we have John Cassidy from the New Yorker and Joshua Green from The Atlantic both making the assumption that the Geithner plan “worked”. This whole line about “taxpayers to recover bailout money” is based on an accounting fraud, because accounting abuses are the primary means by which TARP recipients have repaid bailout money — putting us at greater risk. That may seem paradoxical, but the rush to repay is driven by a desire to have unrestrained executive bonuses (a very bad thing associated with far greater accounting fraud and failures — requiring future, larger taxpayer bailouts) and accounting abuses produce the (fictional) ability to repay the United States (primarily by failing to recognize existing losses). The TARP recipients weakened their financial condition, and increased moral hazard, when they rushed to repay the TARP funds. Both factors increase the risk of making more expensive future bailouts more likely.
Yves here. The reason that people who can discern clearly what is afoot are so deeply disturbed is simple, and all the comments touch on it. The campaign to defend Geithner and Emanuel, both architects of the administration’s finance friendly policies has gone beyond what most people would see as spin into such an aggressive effort to manipulate popular perceptions that it is not a stretch to call it propaganda.
This strategy, of relying on propaganda to mask their true intent, has become inevitable, given the strategic corner the Obama Adminstration has painted itself in. And this campaign has become increasingly desperate as the inconsistency between the Adminsitration’s “product positioning” and observable reality become increasingly evident.
Recall how we got here. Early in 2009, the banking industry was on the ropes. Both the stock and the credit default swaps markets said that many of the big players were at serious risk of failure. Commentators debated whether to nationalize Citibank, Bank of America, and other large, floundering institutions.
The case for bold action was sound. The history of financial crises showed that the least costly approach is to resolve mortally wounded organizations, install new management, set strict guidelines, and separate out the bad loans and investments in order to restructure and sell them. An IMF study of 124 banking crises concluded that regulatory forbearance, the term of art for letting impaired banks soldier on, found:
The typical result of forbearance is a deeper hole in the net worth of banks, crippling tax burdens to finance bank bailouts, and even more severe credit supply contraction and economic decline than would have occurred…
Shuttering sick banks is hardly a radical idea; the FDIC does it on a routine basis. So the difference here was not in the nature of the exercise, but its operational complexity.
This juncture was a crucial window of opportunity. The financial services industry had become systematically predatory. Its victims now extended well beyond precarious, clueless, and sometimes undisciplined consumers who took on too much debt via credit cards with gotcha features that successfully enticed into a treadmill of chronic debt, or now infamous subprime and option-ARM mortgages.
Over twenty years of malfeasance, from the savings and loan crisis (where fraud was a leading cause of bank failures) to a catastrophic set of blow-ups in over the counter derivatives in 1994, which produced total losses of $1.5 trillion, the biggest wipeout since the 1929 crash, through a 1990s subprime meltdown, dot com chicanery, Enron and other accounting scandals, and now the global financial crisis, the industry each time had been able to beat neuter meaningful reform. But this time, the scale of the damage was so great that it extended beyond investors to hapless bystanders, ordinary citizens who were also paying via their taxes and job losses. And unlike the past, where news of financial blow-ups was largely confined to the business section, the public could not miss the scale of the damage and how it came about, and was outraged.
The widespread, vocal opposition to the TARP was evidence that a once complacent populace had been roused. Reform, if proposed with energy and confidence, wasn’t a risk; not only was it badly needed, it was just what voters wanted.
But incoming president Obama failed to act. Whether he failed to see the opportunity, didn’t understand it, or was simply not interested is moot. Rather than bring vested banking interests to heel, the Obama administration instead chose to reconstitute, as much as possible, the very same industry whose reckless pursuit of profit had thrown the world economy off the cliff. There would be no Nixon goes to China moment from the architects of the policies that created the crisis, namely Treasury Secretary Timothy Geithner, Federal Reserve Chairman Ben Bernanke, and Director of the National Economic Council Larry Summers.
Defenders of the administration no doubt will content that the public was not ready for measures like the putting large banks like Citigroup into receivership. Even if that were true (and the current widespread outrage against banks says otherwise), that view assumes that the executive branch is a mere spectator, when it has the most powerful bully pulpit in the nation. Other leaders have taken unpopular moves and still maintained public support.
Obama’s repudiation of his campaign promise of change, by turning his back on meaningful reform of the financial services industry, in turn locked his Administration into a course of action. The new administration would have no choice other that working fist in glove with the banksters, supporting and amplifying their own, well established, propaganda efforts.
Thus Obama’s incentives are to come up with “solutions” that paper over problems, avoid meaningful conflict with the industry, minimize complaints, and restore the old practice of using leverage and investment gains to cover up stagnation in worker incomes. Potemkin reforms dovetail with the financial service industry’s goal of forestalling any measures that would interfere with its looting. So the only problem with this picture was how to fool the now-impoverished public into thinking a program of Mussolini-style corporatism represented progress.
How did the Administration and financial services message control teams work together?
The first was the refusal to consider investigations of any kind. Obama is widely reported to have studied the early days of Franklin Delano Roosevelt’s administration for inspiration; it would be impossible for him to miss the dramatic steps FDR took, including supporting the continuation of a Senate Banking Committee investigation into the misdeeds of the Roaring Twenties, the Pecora Commission. The Pecora Commission not only kept the bankers on the defensive, but it also did the forensic work into the abuses. It was critical to bring the nefarious practices to light to devise durable and lasting reforms.
Why were there no inquiries into how the firms that needed bailouts got themselves into a mess? This was an obvious and comparatively easy avenue of inquiry which would make a great deal of useful background accessible and identified issues for further examination. For instance, after the rescue of UBS, the Swiss Federal Banking Commission required UBS to provide an extensive report of what went wrong, and also had the bank make considerable portions of that information public, via a special report to its shareholders. Yet no US firm has been asked to make any explanation of how it managed its affairs so badly as to require extensive public support to keep from failing.
The choice here was obvious. A refusal to investigate was tantamount to a refusal to reform. A good understanding of what had happened was essential, not merely to develop sound new rules, but also to keep the industry from muddying the waters, which would be easy to do, given how complex and opaque many of the products are
More compelling evidence of the Administration’s lack of interest in reining in the money-changers came via Treasury Secretary Timothy Geithner’s first presentation on his reform plan, which was more accurately a plan to have a plan. It was widely criticized for its sketchiness, but most observers missed the true significance. Had the Obama transition team done any serious thinking about the financial crisis? Obviously not, because you don’t need to think too hard if the game plan is to go back to business as usual to the extent possible. Geither’s presentation came nearly three weeks after Obama was sworn in, and all its initiatives were Bush/Paulson wine in new bottles: a new go at the failed idea of having the government overpay for bad bank assets; “stress tests” to put more discipline around the process of handing out TARP funds to the needy; and a mortgage modification program which pretended to be able to square the circle of saving borrowers without taking on investors in mortgage securitizations.
Geithner’s not-much-of-a-plan exemplified the second tool in the Obama campaign to sell doing as little as possible to the financiers: the Theory of Positive Thinking.
.
That notion has a proud tradition in America and was much in evidence in the run-up to the crisis. It promises that the economy will be fine as long as everyone thinks happy thoughts about it. For instance, I noted in a March 2007 blog post that while the tone of the Financial Times as of March 2007 had become generally grim, the US had become a Tinkerbell market, where valuations are held aloft by faith, and participants conspire to stoke true belief. And as the crisis wore on, other magical personages intervened. As a hedge fund manager who writes as Augustus Melmotte noted,
The market responded with enthusiasm to reports that the Tooth Fairy has agreed to acquire Lehman. The purchase price has not yet been determined and will be set by Dick Fuld wishing upon a star, clicking his heels three times, and being transported back to that magical place where Lehman still sells for over $70 per share….. Meanwhile, the SEC has announced an investigation of mean, evil, bad short-seller David Einhorn. …. Einhorn reportedly suggested that the Tooth Fairy does not exist and that wishing upon a star is not a wholly reliable price discovery mechanism. Christopher Cox, chairman of the SEC, said, “Vicious rumors attacking the Tooth Fairy will not be tolerated. Our entire financial system and indeed the American way of life depend on the Tooth Fairy and wishing upon a star…” The SEC is reportedly planning to set up re-education camps for short-sellers.
Remember that the US has an entire cable channel devoted to the Theory of Positive Thinking, namely CNBC, and a goodly portion of the financial media falls into CNBC-style cheerleading with more than occasional abandon.
Now it is true that this idea has a kernel of truth. John Maynard Keynes attributed the Depression to a change in investor “liquidity preferences,” which meant they had suddenly become very risk averse and preferred to hold cash until they felt conditions had improved, with devastating consequences for economic activity. Uncertainty can morph into a self-reinforcing downcycle. But it is one thing to use confidence boosting as a tool, quite another to regard it as a magic bullet. Merely clapping our hands all together will not cure the long-standing ailments in the economy.
Moreover, the Theory of Positive Thinking has been used, upon occasion, to suggest that conditions will only deteriorate if the public examines the financial services industry critically. It isn’t hard to see whose interests benefit from that posture.
Now it is hard to prove in a tidy way that the tone of financial press coverage had shifted suddenly, and decisively, to optimism as of early March. But many professional investors in my circle started regularly talking of cheerleading. Two Wall Street veterans, Sandy Lewis and William Cohan, weighed in on this pattern at the New York Times:
Whether at a fund-raising dinner for wealthy supporters in Beverly Hills, or at an Air Force base in Nevada, or at Charlie Rose’s table in New York City, President Obama is conducting an all-out campaign to try to make us feel a whole lot better about the economy as quickly as possible… We’re concerned that nothing has really been fixed. We’re doubly concerned that people appear to feel the worst of the storm is over — and in this, they are aided and abetted by a hugely popular and charismatic president and by the fact that the Dow has increased by 35 percent or so since Mr. Obama started to lay out his economic plans in March.
This result relied on more than mere dint of personality. A Pew Research Center study found that roughly government and businesses originated over half the economics-related news after the crisis. Obama himself “dominated” the key images and ideas. The reporting had a clear arc. The early coverage focused on the struggles over the stimulus plan and the banking industry plans, and as those faded, so did coverage of the crisis in any form. The tacit assumption was that the crisis was over, and the performance of the supposedly forward looking stock market was proof. But as anyone with a modicum of detachment could see, the market was a false positive, treating an aversion of utter disaster as an imminent return to normalcy.
The stock market has rallied over 60% from its early March lows, enabling the wounded banks to sell new equity to the public and avoid further contentious taxpayer-funded rescue measures. But the justification for the soft glove treatment of the banking classes, that what was good for them would prove to be good for everyone else, has proven to be wildly false. When the Dow levitated over 10,000, mainstream news outlets celebrated the event, with nary a mention of the continued train wreck in the real economy. As Matt Taibbi observed, “the dichotomy between the economic health of ordinary people and the traditional ‘market indicators’ is not merely a non-story, it is a sort of taboo — unmentionable in major news coverage.”
But banking boosterism has succeeded all too well, allowing Team Obama to fantasize that it can get away with creating Potemkin prosperity in lieu of waging the pitched battles needed to lay the groundwork for the real thing.
Indeed, the adoption of the Theory of Positive Thinking has virtually guaranteed that nothing will change, unless there is sufficient deterioration in the real economy or the financial markets to provide compelling counter-evidence. One example is the “paying back the TARP” charade. As the banks continued to post improved earnings, no matter how phony they were, they argued that they were now healthy and should be allowed to pay back the TARP funding that had been crucial to their survival. The reason they were so keenly motivated to do should have been reason enough to deny their request: namely, that they wanted to escape restraints on executive compensation, virtually the only demand that the government had made. But overpaying staff and keeping too little in the way of risk reserves was precisely the behavior that led to the near collapse of the financial system. Going back to business as usual would virtually guarantee more looting of major financial firm and another series of collapses.
But the Obama administration miscalculated badly. First, it bought the financiers’ false promise that massive subsidies to them would kick start a economy. But economists are now estimating that it is likely to take five years to return to pre-crisis levels of unemployment. Obama took his eye off the ball. A Democratic President’s most important responsibility is job creation. It is simply unacceptable to most Americans for Wall Street to be reaping record profits and bonuses while the rest of the country is suffering. Second, it assumed finance was too complicated to hold the attention of most citizens, and so the (non) initiatives under way now would attract comparatively little scrutiny. But as public ire remains high, the press coverage has become almost schizophrenic. Obvious public relations plants, like Ben Bernanke designation as Time Magazine’s Man of the Year (precisely when his confirmation is running into unexpected opposition) and stories in the New York Times that incorrectly reported some Goldman executive bonus cosmetics as meaningful concessions have co-existed with reports on the abject failure of Geithner’s mortgage modification program. While mainstream press coverage is still largely flattering, the desperation of the recent PR moves versus the continued public ire and recognition of where the Adminsitrations’s priorities truly lie means the fissures are becoming a gaping chasm.
So with Obama’s popularity falling sharply, it should be no surprise that the Administration is resorting to more concerted propaganda efforts. It may have no choice. Having ceded so much ground to the financiers, it has lost control of the battlefield. The banking lobbyists have perfected their tactics for blocking reform over the last two decades. Team Obama naively cast its lot with an industry that is vastly more skilled in the the dark art of the manufacture of consent than it is.
http://www.nakedcapitalism.com/2010/03/the-empire-continues-to-strike-back-team-obama-propaganda-campaign-reaches-fever-pitch.html
I’ve seldom seen so much rubbish written by people who ought to know better in a single day. Many able people have heaped the scorn and incredulity on three articles, one a piece on Rahm Emanuel slotted to run in the Sunday New York Times Magazine, another an artfully packed laudatory piece on Timothy Geithner by John Cassidy in the New Yorker and a more even handed looking one (I stress “looking”) in the Atlantic.
Ed Harrison has skillfully shredded parsed the Geithner pieces . Simon Johnson thrashed the New Yorker story. A key paragraph below:
The main feature of the plan, of course, was – following the stress tests – to communicate effectively that there was a government guarantee behind every major bank or quasi-bank in the United States. Of course this works in the short-term – investors like such guarantees. But there’s a good reason we usually don’t guarantee all financial institutions – or act happy when other countries do the same. Unconditional bailouts lead to trouble, encouraging reckless risk-taking and undermining responsible governance. You can’t run any form of reasonable market system when some big players hold “get out of bankruptcy free” cards.
Banking expert Chris Whalen was so disturbed by the numerous distortions in the New Yorker piece that he had already fired off a long letter to the editor by the time I pinged him, with these starting paragraphs:
Jack Cassidy tells us that “Timothy Geithner’s financial plan is working—and making him very unpopular.” Unfortunately this is completely wrong. Cassidy’s comment just illustrates why the New Yorker has fallen into such obscurity, namely because it is more Vanity Fair than its vivacious sibling and unable to perform critical journalism.
In fact, the banking system is continuing to sink under bad loans and even worse securities losses. Telling the public that the banks are “fixed” is irresponsible. Unfortunately this false perception is widespread, including among major media such as CNBC and also with a number of my clients in the hedge fund world.
And from Marshall Auerback, who had a ringside view of the aftermath of the Japanese bubble:
Cassidy’s article brings to mind a retort by Chou En Lai when he was asked about the success of the French Revolution. He said, “It’s too early to tell”. Yet here we have John Cassidy from the New Yorker and Joshua Green from The Atlantic both making the assumption that the Geithner plan “worked”. This whole line about “taxpayers to recover bailout money” is based on an accounting fraud, because accounting abuses are the primary means by which TARP recipients have repaid bailout money — putting us at greater risk. That may seem paradoxical, but the rush to repay is driven by a desire to have unrestrained executive bonuses (a very bad thing associated with far greater accounting fraud and failures — requiring future, larger taxpayer bailouts) and accounting abuses produce the (fictional) ability to repay the United States (primarily by failing to recognize existing losses). The TARP recipients weakened their financial condition, and increased moral hazard, when they rushed to repay the TARP funds. Both factors increase the risk of making more expensive future bailouts more likely.
Yves here. The reason that people who can discern clearly what is afoot are so deeply disturbed is simple, and all the comments touch on it. The campaign to defend Geithner and Emanuel, both architects of the administration’s finance friendly policies has gone beyond what most people would see as spin into such an aggressive effort to manipulate popular perceptions that it is not a stretch to call it propaganda.
This strategy, of relying on propaganda to mask their true intent, has become inevitable, given the strategic corner the Obama Adminstration has painted itself in. And this campaign has become increasingly desperate as the inconsistency between the Adminsitration’s “product positioning” and observable reality become increasingly evident.
Recall how we got here. Early in 2009, the banking industry was on the ropes. Both the stock and the credit default swaps markets said that many of the big players were at serious risk of failure. Commentators debated whether to nationalize Citibank, Bank of America, and other large, floundering institutions.
The case for bold action was sound. The history of financial crises showed that the least costly approach is to resolve mortally wounded organizations, install new management, set strict guidelines, and separate out the bad loans and investments in order to restructure and sell them. An IMF study of 124 banking crises concluded that regulatory forbearance, the term of art for letting impaired banks soldier on, found:
The typical result of forbearance is a deeper hole in the net worth of banks, crippling tax burdens to finance bank bailouts, and even more severe credit supply contraction and economic decline than would have occurred…
Shuttering sick banks is hardly a radical idea; the FDIC does it on a routine basis. So the difference here was not in the nature of the exercise, but its operational complexity.
This juncture was a crucial window of opportunity. The financial services industry had become systematically predatory. Its victims now extended well beyond precarious, clueless, and sometimes undisciplined consumers who took on too much debt via credit cards with gotcha features that successfully enticed into a treadmill of chronic debt, or now infamous subprime and option-ARM mortgages.
Over twenty years of malfeasance, from the savings and loan crisis (where fraud was a leading cause of bank failures) to a catastrophic set of blow-ups in over the counter derivatives in 1994, which produced total losses of $1.5 trillion, the biggest wipeout since the 1929 crash, through a 1990s subprime meltdown, dot com chicanery, Enron and other accounting scandals, and now the global financial crisis, the industry each time had been able to beat neuter meaningful reform. But this time, the scale of the damage was so great that it extended beyond investors to hapless bystanders, ordinary citizens who were also paying via their taxes and job losses. And unlike the past, where news of financial blow-ups was largely confined to the business section, the public could not miss the scale of the damage and how it came about, and was outraged.
The widespread, vocal opposition to the TARP was evidence that a once complacent populace had been roused. Reform, if proposed with energy and confidence, wasn’t a risk; not only was it badly needed, it was just what voters wanted.
But incoming president Obama failed to act. Whether he failed to see the opportunity, didn’t understand it, or was simply not interested is moot. Rather than bring vested banking interests to heel, the Obama administration instead chose to reconstitute, as much as possible, the very same industry whose reckless pursuit of profit had thrown the world economy off the cliff. There would be no Nixon goes to China moment from the architects of the policies that created the crisis, namely Treasury Secretary Timothy Geithner, Federal Reserve Chairman Ben Bernanke, and Director of the National Economic Council Larry Summers.
Defenders of the administration no doubt will content that the public was not ready for measures like the putting large banks like Citigroup into receivership. Even if that were true (and the current widespread outrage against banks says otherwise), that view assumes that the executive branch is a mere spectator, when it has the most powerful bully pulpit in the nation. Other leaders have taken unpopular moves and still maintained public support.
Obama’s repudiation of his campaign promise of change, by turning his back on meaningful reform of the financial services industry, in turn locked his Administration into a course of action. The new administration would have no choice other that working fist in glove with the banksters, supporting and amplifying their own, well established, propaganda efforts.
Thus Obama’s incentives are to come up with “solutions” that paper over problems, avoid meaningful conflict with the industry, minimize complaints, and restore the old practice of using leverage and investment gains to cover up stagnation in worker incomes. Potemkin reforms dovetail with the financial service industry’s goal of forestalling any measures that would interfere with its looting. So the only problem with this picture was how to fool the now-impoverished public into thinking a program of Mussolini-style corporatism represented progress.
How did the Administration and financial services message control teams work together?
The first was the refusal to consider investigations of any kind. Obama is widely reported to have studied the early days of Franklin Delano Roosevelt’s administration for inspiration; it would be impossible for him to miss the dramatic steps FDR took, including supporting the continuation of a Senate Banking Committee investigation into the misdeeds of the Roaring Twenties, the Pecora Commission. The Pecora Commission not only kept the bankers on the defensive, but it also did the forensic work into the abuses. It was critical to bring the nefarious practices to light to devise durable and lasting reforms.
Why were there no inquiries into how the firms that needed bailouts got themselves into a mess? This was an obvious and comparatively easy avenue of inquiry which would make a great deal of useful background accessible and identified issues for further examination. For instance, after the rescue of UBS, the Swiss Federal Banking Commission required UBS to provide an extensive report of what went wrong, and also had the bank make considerable portions of that information public, via a special report to its shareholders. Yet no US firm has been asked to make any explanation of how it managed its affairs so badly as to require extensive public support to keep from failing.
The choice here was obvious. A refusal to investigate was tantamount to a refusal to reform. A good understanding of what had happened was essential, not merely to develop sound new rules, but also to keep the industry from muddying the waters, which would be easy to do, given how complex and opaque many of the products are
More compelling evidence of the Administration’s lack of interest in reining in the money-changers came via Treasury Secretary Timothy Geithner’s first presentation on his reform plan, which was more accurately a plan to have a plan. It was widely criticized for its sketchiness, but most observers missed the true significance. Had the Obama transition team done any serious thinking about the financial crisis? Obviously not, because you don’t need to think too hard if the game plan is to go back to business as usual to the extent possible. Geither’s presentation came nearly three weeks after Obama was sworn in, and all its initiatives were Bush/Paulson wine in new bottles: a new go at the failed idea of having the government overpay for bad bank assets; “stress tests” to put more discipline around the process of handing out TARP funds to the needy; and a mortgage modification program which pretended to be able to square the circle of saving borrowers without taking on investors in mortgage securitizations.
Geithner’s not-much-of-a-plan exemplified the second tool in the Obama campaign to sell doing as little as possible to the financiers: the Theory of Positive Thinking.
.
That notion has a proud tradition in America and was much in evidence in the run-up to the crisis. It promises that the economy will be fine as long as everyone thinks happy thoughts about it. For instance, I noted in a March 2007 blog post that while the tone of the Financial Times as of March 2007 had become generally grim, the US had become a Tinkerbell market, where valuations are held aloft by faith, and participants conspire to stoke true belief. And as the crisis wore on, other magical personages intervened. As a hedge fund manager who writes as Augustus Melmotte noted,
The market responded with enthusiasm to reports that the Tooth Fairy has agreed to acquire Lehman. The purchase price has not yet been determined and will be set by Dick Fuld wishing upon a star, clicking his heels three times, and being transported back to that magical place where Lehman still sells for over $70 per share….. Meanwhile, the SEC has announced an investigation of mean, evil, bad short-seller David Einhorn. …. Einhorn reportedly suggested that the Tooth Fairy does not exist and that wishing upon a star is not a wholly reliable price discovery mechanism. Christopher Cox, chairman of the SEC, said, “Vicious rumors attacking the Tooth Fairy will not be tolerated. Our entire financial system and indeed the American way of life depend on the Tooth Fairy and wishing upon a star…” The SEC is reportedly planning to set up re-education camps for short-sellers.
Remember that the US has an entire cable channel devoted to the Theory of Positive Thinking, namely CNBC, and a goodly portion of the financial media falls into CNBC-style cheerleading with more than occasional abandon.
Now it is true that this idea has a kernel of truth. John Maynard Keynes attributed the Depression to a change in investor “liquidity preferences,” which meant they had suddenly become very risk averse and preferred to hold cash until they felt conditions had improved, with devastating consequences for economic activity. Uncertainty can morph into a self-reinforcing downcycle. But it is one thing to use confidence boosting as a tool, quite another to regard it as a magic bullet. Merely clapping our hands all together will not cure the long-standing ailments in the economy.
Moreover, the Theory of Positive Thinking has been used, upon occasion, to suggest that conditions will only deteriorate if the public examines the financial services industry critically. It isn’t hard to see whose interests benefit from that posture.
Now it is hard to prove in a tidy way that the tone of financial press coverage had shifted suddenly, and decisively, to optimism as of early March. But many professional investors in my circle started regularly talking of cheerleading. Two Wall Street veterans, Sandy Lewis and William Cohan, weighed in on this pattern at the New York Times:
Whether at a fund-raising dinner for wealthy supporters in Beverly Hills, or at an Air Force base in Nevada, or at Charlie Rose’s table in New York City, President Obama is conducting an all-out campaign to try to make us feel a whole lot better about the economy as quickly as possible… We’re concerned that nothing has really been fixed. We’re doubly concerned that people appear to feel the worst of the storm is over — and in this, they are aided and abetted by a hugely popular and charismatic president and by the fact that the Dow has increased by 35 percent or so since Mr. Obama started to lay out his economic plans in March.
This result relied on more than mere dint of personality. A Pew Research Center study found that roughly government and businesses originated over half the economics-related news after the crisis. Obama himself “dominated” the key images and ideas. The reporting had a clear arc. The early coverage focused on the struggles over the stimulus plan and the banking industry plans, and as those faded, so did coverage of the crisis in any form. The tacit assumption was that the crisis was over, and the performance of the supposedly forward looking stock market was proof. But as anyone with a modicum of detachment could see, the market was a false positive, treating an aversion of utter disaster as an imminent return to normalcy.
The stock market has rallied over 60% from its early March lows, enabling the wounded banks to sell new equity to the public and avoid further contentious taxpayer-funded rescue measures. But the justification for the soft glove treatment of the banking classes, that what was good for them would prove to be good for everyone else, has proven to be wildly false. When the Dow levitated over 10,000, mainstream news outlets celebrated the event, with nary a mention of the continued train wreck in the real economy. As Matt Taibbi observed, “the dichotomy between the economic health of ordinary people and the traditional ‘market indicators’ is not merely a non-story, it is a sort of taboo — unmentionable in major news coverage.”
But banking boosterism has succeeded all too well, allowing Team Obama to fantasize that it can get away with creating Potemkin prosperity in lieu of waging the pitched battles needed to lay the groundwork for the real thing.
Indeed, the adoption of the Theory of Positive Thinking has virtually guaranteed that nothing will change, unless there is sufficient deterioration in the real economy or the financial markets to provide compelling counter-evidence. One example is the “paying back the TARP” charade. As the banks continued to post improved earnings, no matter how phony they were, they argued that they were now healthy and should be allowed to pay back the TARP funding that had been crucial to their survival. The reason they were so keenly motivated to do should have been reason enough to deny their request: namely, that they wanted to escape restraints on executive compensation, virtually the only demand that the government had made. But overpaying staff and keeping too little in the way of risk reserves was precisely the behavior that led to the near collapse of the financial system. Going back to business as usual would virtually guarantee more looting of major financial firm and another series of collapses.
But the Obama administration miscalculated badly. First, it bought the financiers’ false promise that massive subsidies to them would kick start a economy. But economists are now estimating that it is likely to take five years to return to pre-crisis levels of unemployment. Obama took his eye off the ball. A Democratic President’s most important responsibility is job creation. It is simply unacceptable to most Americans for Wall Street to be reaping record profits and bonuses while the rest of the country is suffering. Second, it assumed finance was too complicated to hold the attention of most citizens, and so the (non) initiatives under way now would attract comparatively little scrutiny. But as public ire remains high, the press coverage has become almost schizophrenic. Obvious public relations plants, like Ben Bernanke designation as Time Magazine’s Man of the Year (precisely when his confirmation is running into unexpected opposition) and stories in the New York Times that incorrectly reported some Goldman executive bonus cosmetics as meaningful concessions have co-existed with reports on the abject failure of Geithner’s mortgage modification program. While mainstream press coverage is still largely flattering, the desperation of the recent PR moves versus the continued public ire and recognition of where the Adminsitrations’s priorities truly lie means the fissures are becoming a gaping chasm.
So with Obama’s popularity falling sharply, it should be no surprise that the Administration is resorting to more concerted propaganda efforts. It may have no choice. Having ceded so much ground to the financiers, it has lost control of the battlefield. The banking lobbyists have perfected their tactics for blocking reform over the last two decades. Team Obama naively cast its lot with an industry that is vastly more skilled in the the dark art of the manufacture of consent than it is.
http://www.nakedcapitalism.com/2010/03/the-empire-continues-to-strike-back-team-obama-propaganda-campaign-reaches-fever-pitch.html
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