Wednesday, September 30, 2009

Typhoon Onyok's Aftermath: Charity Is The Province of the Marketplace

This cordial comment from Dave Llorito of World Bank practically captures how the local community has responded to the recent calamity brought about by typhoon Ondoy,

``Despite the difficulties, the response to the crisis was immediate and heartwarming. Government, in particular the National Disaster Coordinating Council, immediately mobilized its rescue teams. Citizens’ groups, media organizations, civil society, universities, church organizations, and private business—organized through text messages and social media websites like Facebook and Twitter—responded by organizing their own volunteer teams to rescue trapped victims or bring food, water, clothes, medicine, and blankets. Help from the international community also poured in." (bold emphasis mine)

So have the entrepreneurs been "greedy" as earlier depicted by media and politicians? The answer is clearly no.

Remember it is in the vested interest of the private sector to be charitable.

This is not only due to self esteem or social purposes but for sustaining the economic environment.

Think of it, if retail store ABC's customer base have been blighted by the recent mass flooding, where a massive dislocation- population loss through death or permanent relocation to other places- would translate to an economic loss for the store, then, it would be in the interest of owners of store ABC to "charitably" or voluntarily provide assistance of various kind to the neighborhood in order to prevent such dislocation from worsening, or as a consequence from indifference, risks economic losses.

Hence, such acts of charity is of mutual benefit.

Moreover, charity is the province of the marketplace. That's because markets produce and provides the goods and services required by society to operate on. Whereas government essentially don't produce goods or services but generates revenues by picking on somebody else's pocket.

As Murray Rothbard wrote, ``it is hardly “charity” to take wealth by force and hand it over to someone else. Indeed, this is the direct opposite of charity, which can only be an unbought, voluntary act of grace."

Hence acts of government to redistribute reflects on politics and not of charity.

Tuesday, September 29, 2009

Price Freeze Policies Will Hurt Consumers

There is no better way to flaunt nonsensical populist policies than in the aftermath of a calamity.

This from today's

``Profiteering businessmen, beware.

``The Department of Trade and Industry (DTI) has placed a ceiling on all prices of basic commodities in supermarkets and wet markets to prevent unscrupulous business owners from taking advantage of the shortage of basic commodities in the wake of Storm “Ondoy” (international codename: Ketsana).

``During Monday’s emergency meeting of the National Price Coordinating Council, Trade Secretary Peter Favila said that apart from basic necessities, he would ask President Gloria Macapagal-Arroyo to freeze the prices of prime commodities, including batteries and construction materials."

One, the article paints entrepreneurs or business entities as generally "greedy" while governments as equitable. Yeah, right...that's why our government had been ranked as one of the worst in corruption in Asia.

Two, officials believe that they can subvert the natural laws of economics and allocate resources better than the marketplace.

They refuse to admit that governments are the least effective way to direct resources to its optimal use. They should learn from Cuba's failed collective agricultural policies.

Price controls or "anti price gouging regulations" in contrast to popular wisdom worsens, and does not enhance, society's predicament.


One, these regulations are likely to serve as disincentive for producers or providers of goods and services to sell. Probably, they would rather hoard the stuff.

Two, it prevents pricing signals to spur production or supply to respond to changes in demand.

Three, below market prices induces significant increases in demand.

As Henry Hazlitt explains in Economics in One Lesson,

``Now we cannot hold the price of any commodity below its market level without in time bringing about two consequences. The first is to increase the demand for that commodity. Because the commodity is cheaper, people are both tempted to buy, and can afford to buy, more of it. The second consequence is to reduce the supply of that commodity. Because people buy more, the accumulated supply is more quickly taken from the shelves of merchants. But in addition to this, production of that commodity is discouraged. Profit margins are reduced or wiped out. The marginal producers are driven out of business. Even the most efficient producers may be called upon to turn out their product at a loss.

``If we did nothing else, therefore, the consequence of fixing a maximum price for a particular commodity would be to bring about a shortage of that commodity. But this is precisely the opposite of what the government regulators originally wanted to do. For it is the very commodities selected for maximum price-fixing that the regulators most want to keep in abundant supply."

Fourth, black markets are likely to emerge out of the shortages.

Fifth, more regulations will breed more corruption. Some officials will probably keep a blind eye on entities selling at "high" prices but with a "take".

Lastly, restrictions in the marketplace will even lead to further restrictions, distortions and shortages in the economy.

Again from Henry Hazlitt, ``Some of these consequences in time become apparent to the regulators, who then adopt various other devices and controls in an attempt to avert them. Among these devices are rationing, cost-control, subsidies, and universal price-fixing."

For a professional academic economist serving as President of the country, who we presume is aware of these risks, the obvious knee jerk regulatory response reflects not for the economic wellbeing of its constituents, but as political advertisement for the coming elections.

Mark Mobius: The Stock Market Rally In Emerging Markets Has Legs

The UK's Telegraph interviews Templeton's Mark Mobius who says that emerging markets stocks will continue to rally.

This from the Business Insider,

``Templeton's Mark Mobius argues that the global rally still has legs. This is partly due to massive liquidity being created globally, via both government policy and derivatives.

``Moreover, Investors shouldn't time, nor flee from, any potential corrections along the way. More nerves of steel from the emerging markets perma-bull:

"Money supply is growing at a rapid pace, globally."

"Derivatives are not dead. There's $600 trillion dollars worth of derivatives out there."

"As you know, there are always corrections in a bull market. And the corrections can be very violent, and big... nobody knows when. And if you think that you're gonna catch it, forget it, because these things move very, very fast."

In short, guru Mark Mobius sees emerging markets in a secular bullmarket from which market "timing" could result to lost opportunities.

Watch video below

Monday, September 28, 2009

TARP's Neil Barofsky: Far More Dangerous Today Than A Year Ago

Huffington Post interviews TARP's Neil Barofsky.

From Huffington Post: ``Neil Barofsky is the man who tracks the historic bailout known as the Troubled Asset Relief Program or TARP. Named in December, the 39-year-old special inspector general monitors a dozen separate ...

The interview ends with Mr. Barofsky's chilling message on the US financial system: ``We may be in a far more dangerous place today than we were a year ago"

Sunday, September 27, 2009

Investment Is Now A Gamble On Politics

``Central bank will not allow large banks to fail. This means that it will not allow the fractional reserve process to implode through bank failures and the contraction of the money supply.”- Gary North, 'Dr. Deflation' Changes His Mind After 27+ Years

What amounted to one month of rainfall gushed over the Philippine metropolis in just 6 hours! In the wake of typhoon Onyok, a vast part of Metro Manila have been turned into a virtual swamp, enough for the Philippine government to declare the affected areas in a state of calamity. According to news reports, the devastating floods from the typhoon Saturday, had been the worst in nearly 40 years.

From our perspective, this serves essentially as an example of a high impact, hard to predict rare event which classifies as a Black Swan, in terms of weather.

While one may argue that the approaching typhoon was predictable, the intensity of the rainfall, according to the local weather bureau, wasn’t.

In as much as Black Swans happens in nature, it also occurs in the marketplace. And this has been a contingent that we have been striving to prepare for, so as to achieve the entrepreneurial goal of optimizing profits via risk identification and damage control.

Of course Black Swans don’t just apply from the negative point of view but can also be seen from a positive light. Technological innovations are just vivid illustrations of these.

Nevertheless the important point is to identify where the larger distribution of risks lies as possible source of market based Black Swans.

Deflation’s Ipse-Dixitism

The recent weaknesses in many parts of the global financial marketplace have been used by the bear camp, mostly populated by the deflationistas, to extol on their “bear market rally” theme.

Figure 1: Falling Markets

For varied indicators as the falling Baltic Dry Index (BDI), Friday’s slump in oil (WTIC) and gold (GOLD), rallying US treasuries and the struggling enfeebled market leader in China’s Shanghai index seems to have all converged.

The bear camp argues that the rally has ended on the corroding effects of stimulus, recessionary forces regaining an upperhand, prices acting “way too far, too fast”, possible escalation of trade war and the demobilized consumers from exercising their extenuated spending powers.

While we don’t belong to the camp which advocates more inflation since we think inflation is immoral and generally baneful to the society, as a market participant we understand inflation to be a political process- where policymakers make political decisions of picking winners or salvaging select interest groups or industries or companies at the cost of the taxpayers.

As Henry Hazlitt wrote, `` For inflation does not come without cause. It is the result of policy. It is the result of something that is always within the control of government—the supply of money and bank credit. An inflation is initiated or continued in the belief that it will benefit debtors at the expense of creditors, or exporters at the expense of importers, or workers at the expense of employers, or farmers at the expense of city dwellers, or the old at the expense of the young, or this generation at the expense of the next. But what is certain is that everybody cannot get rich at the expense of everybody else. There is no magic in paper money.” (bold emphasis mine)

In other words, for as long as the governments attempt to vehemently prevent the required market adjustments from previously misdirected allocation of resources, mostly by promoting credit expansion and spending, and by government directly purchasing assets with “money from thin air”, they are undertaking inflationary programs.

Yet this avowed policy direction by global authorities to inflate and the penchant by several participants to adamantly insist of a deflationary outcome seem quite self contradictory.

Why the deflation risk is a bogeyman?

For one, we have noted that central banks have the capacity to match or even exceed the issuance of money to offset every outstanding liability a political economy has been blighted with, for as long as the banking system remains afloat.

Two, macro analysis looks at problems on oversimplified basis or from one dimensional aspect of product, labor and capital. Moreover, money is often seen as a constant, where marginal supply of additional money into the economy doesn’t impact prices.

In addition, macro analyses have been predisposed to models that apply only to selective and not on general conditions.

In the case where money is construed as a constant, this fitting remark from Professor Gary North, ``Whenever an economic theory of how the world works makes an exception for monetary theory, the proposed monetary theory is incorrect, or the general theory is incorrect, or both are incorrect.” (emphasis added)

Three, inflation is fallaciously anchored as mainly a consumer dynamic.

Fourth, deflationists disregard pricing levels from a relative perspective. For instance, deflationists tend to ignore the impact from technology’s early adopter buyers. More importantly, they gloss over the fundamental law of pricing based demand and supply allocations, where low prices extrapolate to higher demand.

Fifth, deflationists discount the transmission mechanism from monetary policies given today’s US dollar currency standard platform. Remember, 23 countries ( are pegged to the US dollar which means these countries are fundamentally importing Bernanke’s policies.

And since debt levels and capital structure vary from country to country, the impact of recessionary forces or debt deflation or consumer spending retrenchment from bubble afflicted economies will be different from those countries importing US policies. In addition, a further variance would be the effect from applying the same home based stimulus programs.

As CLSA’s high profile analyst Christopher Wood in a Bloomberg article, ``It’s wholly wrong to view Asia as a correlated train wreck with the U.S. consumer.”

Therefore, deflation in an absolute sense signifies as ipse dixitism or unsupported dogmatic assertion.

Unworthy Paradigms: Great Depression And Japan’s Lost Decade

Sixth, deflation proponents generally make comparisons with that of the Great Depression and the Japan experience even if both circumstances have been totally different from today.

The Great Depression was a byproduct of an amalgam of:

-Massive monetary contraction (30%),

-Regime uncertainty or investors’ reluctance to participate in a perceived hostile atmosphere resulting from a string of adverse policies imposed, which appears to have threatened property rights and prevented the necessary price adjustments, such as wages.

To quote Benjamin Anderson from Robert Higgs’ Regime Uncertainty “The impact of these multitudinous measures—industrial, agricultural, financial, monetary, and other—upon a bewildered industrial and financial community was extraordinarily heavy”, and

-high taxes and protectionism amidst a recession which metamorphosed into a depression [see earlier post Lessons From The Great Depression: Taxes, Protectionism and Inflation].

Japan's stagnation, on the other hand, which has been popularly but erroneously known as suffering from deflation (technically defined as contracting money supply), had likewise been a consequence of a mélange of regulatory mess, particularly high tax regime, policies that propped up the legacy of obsolescent zombie industrial companies [see Asia: Policy Induced Decoupling, Currency Values Aren’t Everything], reluctance to liberalize due to cultural idiosyncrasies (bad management of companies due to interlocking relationships among companies and the ``disdainful of the idea of shareholder value and of traditional profit metrics” notes James Surowiecki) and the conflict of interest issues from Japan’s bureaucracy which embraced state capitalism.

The recently victorious Democratic Party of Japan (DPJ) declared it would reduce the latter’s influence, but the question is always HOW?

Moreover, Japan’s lost decade has been largely insulated from the world as most of its liabilities had been denominated in local currency. The culturally high savings quirk by the Japanese financed most of the failed boondoggles during the nearly 2 decade long of stagnation. However, demographic issues (which has been depleting savings) and current conditions (weaning off from the US consumers and reorienting trade towards China and Asia) imply that the old model is about to make a major transformation.

MAD “Mutually Assured Destruction” Policies

Seventh, deflationists often switch gears from using the monetary aspects to excess capacities or current account balances or non-monetary (usually trade) dimensions in rationalizing deflation on a global scale or data mine facts to fit their arguments.

For instance, the Global Savings Glut theory has been prevalently used as an attempt to shield the US from policy flaws which pins the blame on “currency manipulation” by Asian savers.

Hardly anyone from the mainstream incorporates the role of the US dollar, as the world’s de facto currency reserve, in the discourse of the origins of today’s imbalances.

Professor Robert Triffin rightly predicted more than 40 years ago of the accruing imbalances that a reserve currency would endure. That’s because of the incremental tensions which would amass from conflicts of national monetary policies vis-à-vis global monetary policies (provider of international liquidity). This is known as the Triffin dilemma, where the reserve currency can remain overvalued from which it would continue to accumulate deficits or undergo proportional devaluation in order to stabilize or shrink deficits [see previous discussion in The Nonsense About Current Account Imbalances And Super-Sovereign Reserve Currency].

So while the mainstream goes into a perpetual blaming spree alongside with their sanctimonious omniscient prescriptions, they don’t seem to realize that this has been the operating nature of reserve currencies, especially from a “paper money” standard.

Moreover, the recent trade dispute between US President Obama and China over increased tariffs over tires have breathed “protectionism” as an excuse for deflation.

Figure 2: BCA Research China: Tempest In A Teacup, For Now

While the risk of an escalation of a trade war appears plausible, I am predisposed to the view that these politically motivated actions has been designed to wangle some short term deal with vested interest groups, particularly the labor union-the United Steelworkers or protectionist policymakers.

However we share the optimism with BCA Research when they wrote, ``However, there are good reasons to believe that the recent tensions are likely to be contained. For one, the amount of trade in question is a tiny fraction of total trade flows between the two countries. Chinese sales of tires and steel pipes to the U.S. amount to about US$4 billion a year (compared to $US230 billion of total Chinese exports to the U.S.). Meanwhile, Beijing’s action in taking the trade dispute to the WTO shows China’s willingness to resolve disputes within the legal framework of international trade rather than via direct bilateral confrontation. Overall, the Obama administration’s seemingly toughened stance towards China-related trade issues is mainly a maneuver designed to garner domestic political support rather than an outright intention to wage a trade war. The biggest risk that could significantly heighten trade tensions and economic confrontation is if the U.S. government and lawmakers once again challenge China’s exchange rate policy and tax rebates for its exporters. Bottom line: Chinese authorities will likely continue to focus on the big picture of promoting domestic growth, so long as there is no systematic challenge to the country’s trade and foreign exchange policies to complicate its growth-boosting strategy.” (bold underscore mine)

Put differently, the Tire tariff was perhaps meant as diversionary tactic or as a concession in order to diffuse far larger protectionist tensions held by some quarters in the august halls of the US congress. In short, if we are right, the controversial enactment of the Tire tariff appears to be more symbolic than of a real risk.

In addition, it would also be plain naive to extrapolate for the US to arbitrarily lure China into a trade war when US officials are aware that the Chinese holds the largest share, about $800 billion (as of July), of US treasuries or nearly a quarter share of the foreign owned pie see figure 3.

Figure 3: Foreign Holders of US Treasuries

As the legendary trader Julian Robertson of Tiger Management says in a recent CNBC interview, ``“We’re totally dependent now on the Chinese and Japanese” [as posted in Julian Robertson: We are going to have to Pay the Piper].

In short, President Obama significantly depends on China, Japan and Asia’s largesse to sponsor his administration’s “borrow and spend” program.

This also means that it would be utter lunacy, if not suicidal, for Pres. Obama to engage in mutually assured destructive (MAD) policies, which should hurt more of the US than China. Further this would accelerate the inflationary process in the US (…unless this serves as an opportunity for the US to seize the moment from a hostile China response to be used as a Casus Belli to declare a default! But the US owes Japan and the rest of the world too.).

Since there will be lesser access to savings globally, the court of last resort will be Chairman’s Bernanke’s printing press.

Here, Mr. Robertson estimates 15-20% annual inflation rates for the US once China and Japan desists from financing the US.

Scared Of One’s Own Shadows

Last and most importantly, deflationists belittle the role of central banking in the economy and the economic ideology underpinning the global political leadership.

In short, deflationists rule out the ramifications from the political aspects of government intervention in the economy.

It is also kindda odd to see some deflationist scared to wits about the prospects of deflation when they have been influenced by the same ideology that espouse on government intervention that paves way for the inflation-deflation boom bust cycles. It’s analogous to being afraid of one’s own shadow.

Deflation basically comes in two forms. One is a consequence of inflationary policies. The other is an outcome of productivity, which means economic output greater than the supply of money. This had been much of the case during the gold standard based, Industrial Revolution.

Nobel prize winner Friedrich A. Hayek in a speech about Choice In Currency, A Way To Stop Inflation eloquently describes the shift from stability into today’s woes,

``The chief root of our present monetary troubles is, of course, the sanction of scientific authority which Lord Keynes and his disciples have given to the age-old superstition that by increasing the aggregate of money expenditure we can lastingly ensure prosperity and full employment. It is a superstition against which economists before Keynes had struggled with some success for at least two centuries. It had governed most of earlier history. This history, indeed, has been largely a history of inflation; significantly, it was only during the rise of the prosperous modern industrial systems and during the rule of the gold standard, that over a period of about two hundred years (in Britain from about 1714 to 1914, and in the United States from about 1749 to 1939) prices were at the end about where they had been at the beginning. During this unique period of monetary stability the gold standard had imposed upon monetary authorities a discipline which prevented them from abusing their powers, as they have done at nearly all other times. Experience in other parts of the world does not seem to have been very different: I have been told that a Chinese law attempted to prohibit paper money for all times (of course, ineffectively), long before the Europeans ever invented it!”

So it is another deeply held erroneous belief that deflation is the greater evil, when 200 years of the gold standard brought about great prosperity. This is in contrast to today’s deepening intermittent boom bust cycles, which only enriches only certain segments of the society and hurts the rest of society when a bust transpires.

Deflation from an inflation bubble simply cleanses the system.

Yet the same camp of deflationists argues for more inflation.

From UK’s Prime Minister Gordon Brown (quoted by Bloomberg), ``The stimulus that we have still got to give the world economy is greater than the stimulus we have already had. What we want to do is safeguard a recovery from a recession we feared would develop into a depression.”

Moreover, the US Federal Reserve recently decided to extend and complete its $1.25 trillion buying program into the mortgage market. According to Bloomberg, ``The central bank has purchased $694 billion of mortgage- backed securities since January and plans to spend $556 billion more by April 2010 to keep interest rates down. The debt-buying is the biggest program in the Fed’s arsenal.”

Isn’t these powerful signal enough, a manifestation of both economic ideology and policy direction? It’s more than just words or propaganda, it reflects action in progress.

And as we argued in Governments Will Opt For The Inflation Route and last week’s A Deeply Embedded Inflation Psyche, for us, it has been a policy tool for the US Federal Reserve to juice up the stock market for the same reasons- economic ideology (to paint the impression of economic recovery by reanimating the irrational “animal spirits”) and policy direction.

As we previously pointed out, the US government today stands as THE mortgage market, why is this so? Aside from trying to “stabilize” the mortgage market, the US banking system holds tonnes of assorted mortgages on their balance sheets.

In short, the US government has been preventing the outright collapse of some important segments of its banking system by providing implicit guarantees on the banking system’s assets.

Moreover, the US government has also acquired ownership representation among the biggest financial institutions. This acts as another form of implicit guarantee.

Aside, the ownership accounts for interventions or interferences aimed at conveying its political objectives into the company’s business operations.

Further by undertaking quantitative easing, the US Federal Reserve reliquefies the marketplace by acting as market maker of the last resort to the illiquid markets.

If the US Federal Reserve hasn’t been the key influence of the stock market, why would issues, which accounted for most of the recent government rescues, have accrued most of the jump in the trading volume at the NYSE? (See figure 4)

Figure 4: William Hester: Without Phoenix Stocks, Volume Continues to Contract

According to William Hester of Hussman Funds (bold highlights mine), ``But almost the entire rise in volume during the last month and half has come from a handful of stocks. Examples include Fannie Mae, Freddie Mac, Citigroup, AIG, and Bank of America. These are just five. There are a couple of other stocks that are interchangeable with these companies and would produce similar results – but the characteristic they all share is that they are financial stocks that only recently were on the brink of collapse. And since the Government's rescue of these and other financial firms, the group has risen up from the ashes. For ease of reference, we'll call these Phoenix stocks.

``The rise in trading volumes in some of these stocks has been considerable. The shares of AIG now often trade with 15 times the volume they traded a year ago. Citigroup has traded at 12 times the amount from a year ago. This helps explain why the trades in these companies' shares are taking up a larger fraction of total share volume.”

Has US government zombie institutions been using their excess reserves or proceeds from the Fed’s QE reliquification program to trade their own shares or trade shares among themselves?

Figure 5: Andy Kessler: Monetary Base versus Dow Jones

Is it just merely a coincidence that monetary base has been growing while stock market has been rising (see figure 5)?

Some would argue, but the other money aggregates have turned south. However, what if banks haven’t been lending but instead speculating on assets?

Besides, there has been no clear agreement as to which of the monetary aggregates should serve as the true representative or as accurate indicator of money conditions in the US or globally. This makes the chart above “correlated but not causal”, as much as those arguing the opposite.

Further, the boom in the bond markets has also revealed that credit has been expanding but has been short circuiting the banking system.

By going direct through the capital markets, credit intermediation hasn’t triggered the banking system’s fractional reserve platform, hence hasn’t been reflected in traditional monetary aggregates.

All told, deflation seems more like a bogeyman widely used to justify more politicization of the marketplace.

Investment Is Now A Gamble On Politics

There are two more very significant developments the deflationists have sorely missed.

The recent weakness in the markets in gold, commodity and China hasn’t triggered a meaningful jump in the US dollar index to confirm the debt destruction and the impotence of central banking, similar to the meltdown of last year.

Moreover, it hasn’t reflected a general tightening of credit conditions out of default fears…yet.

Figure 6: Danske Weekly Credit

As you can see from the Danske Charts above, major credit indicators have all turned lower or has materially improved, all of which hasn't been emitting any trace of “deflation” tremors.

Moreover, there have been reports that the Fed has been exploring ways to tap the funds from the money market to implement its exit strategy. According to the Yahoo Finance ``The Fed would borrow from the funds via reverse repurchase agreements involving some of the huge portfolio of mortgage-backed securities and U.S. Treasuries that it acquired as it fought the financial crisis, the newspaper reported, without citing any sources. This would drain liquidity from the financial system, helping to avoid a burst of inflation as the economy recovered”. (emphasis added)

Yet analyst like Zero Hedge’s Tyler Durden sees this as one of the many subterfuges employed by the FED to “reflate” the system.

This from Mr. Durden (bold highlights mine), ``And the Fed finds a way to screw everyone over yet again. Contrary to expectations that the Fed will use reverse repos to remove excess liquidity (which, by definition, such an action would) it appears that Bernanke's wily scam is to push even more money out of money market funds and into capital markets. Even though banks currently have about $800 billion in excess reserves which the Fed is paying interest on, and which would be a damn good source of liquidity extraction as the Fed considers to shrink its ever expanding balance sheet, the Chairman is rumored to be considering money market funds as a liquidity source…All in all, the Chairman is determined, come hell or high water, to part consumers with their savings: whether it be through zero deposit interest rates, through money market guarantee removals, through talk of inflation or, ultimately, through actions like these. After all, America has gotten to the point where the Fed is beating the drum on the need to keep blowing the capital market bubble bigger and bigger: anything less, and just as Madoff investors discovered, the entire pyramid collapsed overnight, and where people thought there was $50 billion, there was really $0.”

In addition, even while the Fed has declared that it would undertake the completion of its $1.25 trillion QE program by buying $556 billion more on mortgages, there seems to be a problem, it is only left with an estimated $10 billion for US treasuries which is expected to be expire by October.

This implies that should foreign central banks continue to recycle their surpluses on short term Treasury bills, the yield curve should soon steepen as the long end rises (on condition that the Fed holds course by not additionally monetizing US treasuries).

And rising treasury yields places further constraints or pressures to the financing of US government programs.

This from Professor Michael S. Rozeff (all bold underscore mine), ``The government will have problems funding its programs. It will be under pressure to raise taxes and cut back on its programs. Since it will be reluctant to do either, the problems will fall upon the dollar and on the government debt. This will place the government in an untenable position because the higher interest costs of the debt will add to the deficit. A negative feedback cycle will occur in which deficits cause higher interest costs which cause more deficits which cause higher interest costs, and so on. No amount of taxation can solve the government’s fiscal problem that lies ahead. Greater taxes will only make them worse by slowing the economy. That option is foreclosed.”

Ultimately, this brings us to the potential outcome of deflation-inflation debate.

Again Professor Rozeff, ``The two problems – the dollar and debt – are joined. If the FED tries to save the dollar, it affects government debt adversely. The FED can relieve pressure on the dollar by deflating its bloated balance sheet. To do that it needs to sell off the mortgage-backed securities that it has accumulated and not buy the rest that it is now in the process of buying. If it ever does sell off these securities, it will pressure the government debt market. This is very unlikely. Instead I expect it to pay interest on reserves, which will not solve its problems and will only add to the government deficit and start an exponential process of increase in interest paid. If the government tries to save the debt market by having the FED support it as it is now doing, that affects the dollar adversely. The central bank and the government are between a rock and a hard place. One or the other or both of the dollar and the debt are slated to have problems. Enactment of Obama’s health care and energy measures, even in diluted form, will confirm the existing course. Their rejection will be more favorable for the dollar and for government debt. As the political winds shift, so will the fortunes of the dollar and the government debt markets. Investment is now a gamble on politics.”

In short, the US government, not the US consumers, has become the ultimate driver of marketplace. And investing returns would mean reading accurately from political tea leaves.

And once emergent weaknesses in the marketplace becomes increasingly pronounced, governments will be expected, given their Keynesian interventionist ideology, to massively re-inflate the system to the point where the political option would translate to the extreme choice of ‘Mises moment’ endgame: relative deflation possibly via a default or a currency crisis.

The Constructive View From A Strong Peso And Hibernating Phisix

``What will that collapse look like? The bubbles this time will likely appear abroad. Parts of Asia and Latin America, a tiny fraction of the size of the US economy, are experiencing large capital inflows, low interest rates, and the beginnings of a major boom. Countries with intact banking systems and access to global capital markets will lead the next speculative wave. The United States will be pulled in—probably soon enough that we will all be surprised by a supposedly robust recovery, fed by continued low interest rates and loose credit. We all know these episodes end in tears, but they can be spectacular while they last. Simon Johnson, The Next Financial Crisis: It's Coming—and We Just Made It Worse

Instead of falling from the cliff, Asian markets have gone disparate ways.

While China has taken quite a hit, some markets continue to streak upwards or has been drifting at its highest point (Thailand, Malaysia, Indonesia and India), some are slightly off the highs (Hong Kong, Taiwan and Korea) and some have been in consolidation (Japan, Philippines and Singapore).

Figure 7: PSE, Asian, ASEAN and Emerging Markets

The Philippine Phisix (PSEC) has peaked out during the advent of August, which means that the seasonal weakness of September have seen a rangebound movement instead of a material slowdown.

Other indicators as Asian Markets Ex-Japan (DJP2) and the ASEAN (FSEAX) index corroborates on the individual actions of key Asian markets.

Meanwhile, the actions in Emerging Markets (EEM) likewise underpin the prevailing buoyant sentiment.

As September closes, we expect the correcting market of China to bottom out, while the consolidating markets to possibly reaccelerate along with the present leaders, going towards the end of the year.

One interesting observation is that while the Phisix has gone into a seeming hibernation, the Peso has finally regained footing.

Figure 8: Yahoo Finance: USDollar vis-à-vis Philippine Peso

Early September we noted in “So What's Wrong With Philippine Peso?” how the Peso has lagged its major contemporaries/neighbors for unknown reasons.

We said then that ``The Peso’s woes can’t be about deficits (US has bigger deficits-nominally or as a % to GDP), or economic growth (we didn’t fall into recession, the US did), remittances (still net positive) or current account balances (forex reserves have topped $40 billion historic highs) or interest rates differentials (Philippines has higher rates)."

So in a liquidity driven setting, where markets are supposed to act in tidal mode, what seems suspect about the rigidity of the Peso-US dollar exchange rate could have been due to the Bangko Sentral ng Pilipinas’ (BSP) attempt to massage the Peso lower in order to keep media and political favorite class-the OFWs- delighted.

Yet perhaps, the tide has been too strong for our BSP interventionists to hold the barrier off from a policy induced debasement of the US dollar which has currently filtered over to a stronger Peso.

Nevertheless, a strengthening of the Philippine Peso and a weakening of the Phisix may seem patently incompatible under today’s circumstances.

Such conundrum would probably be resolved with the resumption of foreign money flows into the Phisix.

Unless we see a substantial global correction to signify liquidity constraints via a rising US dollar index, present conditions appear to be very constructive for both the Peso and the Phisix.

Saturday, September 26, 2009

Closing The Technology Divide Via Mobile Phones

The Technology Divide is narrowing.

This from the Economist, (all bold highlights mine)

``MOBILE phones have proved to be a boon for the poor world. An extra ten mobile phones per 100 people in a typical developing country boosts growth in GDP per person by 0.8 percentage points, according to a recent study. Mobile-phone subscriptions in poorer countries accounted for just a quarter of the global stock in 2000, but had risen to three-quarters of the 4 billion total by the start of this year. The next challenge is to expand the use of mobile technology to access the internet. Despite huge strides in producing cheap netbooks that connect via mobile networks, the mobile phone may still provide the cheapest way to access the internet in the developing world."

Communications functions as vital instrument in the dissemination of information from which establishes money prices via choice, action and coordination.

Hence, the trend of wider adoption of technology in emerging markets signifies of the prospects of enhanced productivity and much improved market efficiencies to a broader segment of world population. This should translate to more capital accumulation and upliftment of economic status for many.

If we should “follow the money” to ascertain rewarding investment themes then mobile and internet use could serve as great indicators for economic growth.

Rep. Alan Grayson: "Has the Federal Reserve Ever Tried to Manipulate the Stock Market?"

Rep Grayson questions Federal Reserve Council Scott Alvarez on possible attempts by the FED to directly or indirectly (via prime brokers) manipulate the stock market (Hat Tip: Zero Hedge)

Julian Robertson: We are going to have to Pay the Piper

CNBC interviews Julian Robertson of Tiger Management. (Hat tip: Pragmatic Capitalist)

Some important notes from Mr. Robertson:

Part I
-“We’re totally dependent now on the Chinese and Japanese”

-Inflation risk is very high

-15-20% inflation rates if the Chinese and Japanese stop financing the US

-Japanese may be forced to sell long term bonds for economic reasons

-We still haven’t attacked the problem-spend, spend, spend and borrow,borrow, borrow

Part II
-I am shorting bonds

-We are going to have to Pay the Piper and I don’t know when that is

-Interest rate are going to go up

-put brakes on the economy, earnings will go down like crazy

-If we have 20% interest rates, 20% inflation and market goes up 5% that’s not a good scenario

Thursday, September 24, 2009

Lessons From The Great Depression: Taxes, Protectionism and Inflation

Economist Art Laffer of the Laffer Curve fame gives us an enlightening perspective from the experiences of the Great Depression.

We will be quoting Art Laffer extensively from the Wall Street Journal,

1. Taxes and Protectionism were key factors...

``While Fed policy was undoubtedly important, it was not the primary cause of the Great Depression or the economy's relapse in 1937. The Smoot-Hawley tariff of June 1930 was the catalyst that got the whole process going. It was the largest single increase in taxes on trade during peacetime and precipitated massive retaliation by foreign governments on U.S. products. Huge federal and state tax increases in 1932 followed the initial decline in the economy thus doubling down on the impact of Smoot-Hawley. There were additional large tax increases in 1936 and 1937 that were the proximate cause of the economy's relapse in 1937.

``In 1930-31, during the Hoover administration and in the midst of an economic collapse, there was a very slight increase in tax rates on personal income at both the lowest and highest brackets. The corporate tax rate was also slightly increased to 12% from 11%. But beginning in 1932 the lowest personal income tax rate was raised to 4% from less than one-half of 1% while the highest rate was raised to 63% from 25%. (That's not a misprint!) The corporate rate was raised to 13.75% from 12%. All sorts of Federal excise taxes too numerous to list were raised as well. The highest inheritance tax rate was also raised in 1932 to 45% from 20% and the gift tax was reinstituted with the highest rate set at 33.5%.

``But the tax hikes didn't stop there. In 1934, during the Roosevelt administration, the highest estate tax rate was raised to 60% from 45% and raised again to 70% in 1935. The highest gift tax rate was raised to 45% in 1934 from 33.5% in 1933 and raised again to 52.5% in 1935. The highest corporate tax rate was raised to 15% in 1936 with a surtax on undistributed profits up to 27%. In 1936 the highest personal income tax rate was raised yet again to 79% from 63%—a stifling 216% increase in four years. Finally, in 1937 a 1% employer and a 1% employee tax was placed on all wages up to $3,000.

``Because of the number of states and their diversity I'm going to aggregate all state and local taxes and express them as a percentage of GDP. This measure of state tax policy truly understates the state and local tax contribution to the tragedy we call the Great Depression, but I'm sure the reader will get the picture. In 1929, state and local taxes were 7.2% of GDP and then rose to 8.5%, 9.7% and 12.3% for the years 1930, '31 and '32 respectively.

``The damage caused by high taxation during the Great Depression is the real lesson we should learn. A government simply cannot tax a country into prosperity. If there were one warning I'd give to all who will listen, it is that U.S. federal and state tax policies are on an economic crash trajectory today just as they were in the 1930s. Net legislated state-tax increases as a percentage of previous year tax receipts are at 3.1%, their highest level since 1991; the Bush tax cuts are set to expire in 2011; and additional taxes to pay for health-care and the proposed cap-and-trade scheme are on the horizon."

2. Inflation (hidden taxes) Amidst A Depression

``...the U.S. in the early 1930s was on a gold standard where paper currency was legally convertible into gold. Both circulated in the economy as money. At the outset of the Great Depression people distrusted banks but trusted paper currency and gold. They withdrew deposits from banks, which because of a fractional reserve system caused a drop in the money supply in spite of a rising monetary base. The Fed really had little power to control either bank reserves or interest rates.

``The increase in the demand for paper currency and gold not only had a quantity effect on the money supply but it also put upward pressure on the price of gold, which meant that dollar prices of all goods and services had to fall for the relative price of gold to rise. The deflation of the early 1930s was not caused by tight money. It was the result of panic purchases of fixed-dollar priced gold. From the end of 1929 until early 1933 the Consumer Price Index fell by 27%.

``By mid-1932 there were public fears of a change in the gold-dollar relationship. In their classic text, "A Monetary History of the United States," economists Milton Friedman and Anna Schwartz wrote, "Fears of devaluation were widespread and the public's preference for gold was unmistakable." Panic ensued and there was a rush to buy gold.

``In early 1933, the federal government (not the Federal Reserve) declared a bank holiday prohibiting banks from paying out gold or dealing in foreign exchange. An executive order made it illegal for anyone to "hoard" gold and forced everyone to turn in their gold and gold certificates to the government at an exchange value of $20.67 per ounce of gold in return for paper currency and bank deposits. All gold clauses in contracts private and public were declared null and void and by the end of January 1934 the price of gold, most of which had been confiscated by the government, was raised to $35 per ounce. In other words, in less than one year the government confiscated as much gold as it could at $20.67 an ounce and then devalued the dollar in terms of gold by almost 60%. That's one helluva tax.

``The 1933-34 devaluation of the dollar caused the money supply to grow by over 60% from April 1933 to March 1937, and over that same period the monetary base grew by over 35% and adjusted reserves grew by about 100%. Monetary policy was about as easy as it could get. The consumer price index from early 1933 through mid-1937 rose by about 15% in spite of double-digit unemployment. And that's the story.

``The lessons here are pretty straightforward. Inflation can and did occur during a depression, and that inflation was strictly a monetary phenomenon."

Wednesday, September 23, 2009

Video: Rodney Dangerfield's First Economic Class

Hat tip:, Austrian Economics Blog

Did You Know? Media Landscape Is Changing Rapidly

The Economist on the fantastic rate of changes in media convergence...

``The surge of new technologies and social media innovations in today's environment is significantly altering the future media landscape for marketers. Consumer behaviour is changing and the way marketers reach their audience must also change. Marketers are searching for new ways to not only reach their customers, but to understand them, to peer inside their minds. As the level of consumer understanding increases, so can the knowledge of how best to reach them. However the plethora of tools at a marketers disposal is not easy to navigate and real learning comes from a real understanding of the future of media convergence.

``Media Convergence forum gathers a unique speaking faculty of thought leaders, marketing psychologists, technology experts, futurists, media and marketing professionals to look into the future to consider the ideas, technologies and tactics that tomorrow's best organisations will adopt.'

Since the embed video doesn't want to appear on the blog, pls. watch the video by clicking on the link

Chicken Tax: Example of Distortive Effects of Taxes and Regulations

This is a superb example of the distortive effects of taxation and regulations on the marketplace.

Fundamentally, regulations and taxes affect people's behavior. And market participants usually circumvent or go around regulations to resume their business, even in odd or perverse ways.

This From Wall Street Journal's To Outfox the Chicken Tax, Ford Strips Its Own Vans

(Bold highlights mine)

``BALTIMORE -- Several times a month, Transit Connect vans from a Ford Motor Co. factory in Turkey roll off a ship here shiny and new, rear side windows gleaming, back seats firmly bolted to the floor.

``Their first stop in America is a low-slung, brick warehouse where those same windows, never squeegeed at a gas station, and seats, never touched by human backsides, are promptly ripped out.

``The fabric is shredded, the steel parts are broken down, and everything is sent off along with the glass to be recycled.

``Why all the fuss and feathers? Blame the "chicken tax."

``The seats and windows are but dressing to help Ford navigate the wreckage of a 46-year-old trade spat. In the early 1960s, Europe put high tariffs on imported chicken, taking aim at rising U.S. sales to West Germany. President Johnson retaliated in 1963, in part by targeting German-made Volkswagens with a tax on imports of foreign-made trucks and commercial vans.

``The 1960s went the way of love beads and sitar records, but the chicken tax never died. Europe still has a tariff on imports of U.S. chicken, and the U.S. still hits delivery vans imported from overseas with a 25% tariff. American companies have to pay, too, which puts Ford in the weird position of circumventing U.S. trade rules that for years have protected U.S. auto makers' market for trucks.

``The company's wiggle room comes from the process of defining a delivery van. Customs officials check a bunch of features to determine whether a vehicle's primary purpose might be to move people instead. Since cargo doesn't need seats with seat belts or to look out the window, those items are on the list. So Ford ships all its Transit Connects with both, calls them "wagons" instead of "commercial vans." Installing and removing unneeded seats and windows costs the company hundreds of dollars per van, but the import tax falls dramatically, to 2.5 percent, saving thousands."

Read the rest here

(Hat tip: Mark Perry)

Tuesday, September 22, 2009

Global Stock Market: Investors Recover $18.31Trillion

Fascinating charts from Bespoke. It shows of how global stock markets have "V"-igorously bounced.

This from Bespoke, ``At its peak in 2007, total world market cap was $62.57 trillion. By the lows this March, world market cap had dropped to $25.6 trillion! That's a loss of $36.97 trillion in stocks globally. Since the March lows, however, world market cap has risen $18.31 trillion back up to $43.9 trillion.

Again from Bespoke, ``In the US, market cap has risen $4.88 trillion from its low of $8.09 trillion in March. The peak in total US stock market value was $19.14 trillion in 2007, and the current value of all US stocks is $12.97 trillion. The US accounts for 29.5% of total stock market value in the world."

Additional comments:

1) It has been a rising tide lift all boats phenomenon which clearly has been a manifestation of liquidity driven markets.

2) global stock markets are about 30% away from full recovery.

3) US markets still account for one third of stock market value, albeit on a downtrend. This phenomenon is similarly seen in developed economies.

chart from

In contrast, emerging markets continues to capture a larger share in the global market cap due to secular forces which has been punctuated by the recent crisis.

According to Manas Chakravarty of livemint, ``The decline in the share of the global pie of the advannced economies is not just due to the current crisis but is a long term trend. According to projections from Credit Suisse, the percentage share of global consumption of the US will decline from 30.2% in 2007 to 20.8% by 2020. In sharp contrast, the share of Chinese consumption is projected to improve from a mere 5.3% of global consumption in 2007 to 21.1% by 2020. India’s consumption, which was 2% of global consumption in 2007, is forecast to rise to 5.3% by 2020. By 2020, according to the Credit Suisse forecasts, China will be the largest contributor to global consumption and India will be the fourth largest."

I think it is more than that. Asia and emerging markets likely move towards less dependence on the banking sector and expand utilization of the capital markets to deepen the financing intermediation within the economy and the region.

Of course there is also the issue of the divergent impact from inflationary policies on developed economies relative to emerging markets and Asia.

Monday, September 21, 2009

Consumer Electronics, Energy and the Jevons Paradox

The explosion of consumer electronics globally has been putting pressure on energy consumption.

This from the New York Times,

``Electricity use from power-hungry gadgets is rising fast all over the world. The fancy new flat-panel televisions everyone has been buying in recent years have turned out to be bigger power hogs than some refrigerators.

``The proliferation of personal computers, iPods, cellphones, game consoles and all the rest amounts to the fastest-growing source of power demand in the world. Americans now have about 25 consumer electronic products in every household, compared with just three in 1980.

``Worldwide, consumer electronics
now represent 15 percent of household power demand, and that is expected to triple over the next two decades, according to the International Energy Agency, making it more difficult to tackle the greenhouse gas emissions responsible for global warming.

``To satisfy the demand from gadgets will require
building the equivalent of 560 coal-fired power plants, or 230 nuclear plants, according to the agency.

``Most energy experts see only one solution: mandatory efficiency rules specifying how much power devices may use.

``Appliances like refrigerators are covered by such rules in the United States. But efforts to cover consumer electronics like televisions and game consoles
have been repeatedly derailed by manufacturers worried about the higher cost of meeting the standards. That has become a problem as the spread of such gadgets counters efficiency gains made in recent years in appliances.

``In 1990, refrigerator efficiency standards went into effect in the United States. Today, new refrigerators are fancier than ever, but their power consumption has been slashed by about 45 percent since the standards took effect. Likewise, thanks in part to standards, the average power consumption of a new washer is nearly 70 percent lower than a new unit in 1990."

Read the rest here.

In short, regulations which try to conserve energy by forcing technologically based efficiency on consumer electronics has resulted to an unintended consequence-exploding demand.

This is the Jevons Paradox or the Jevons effect at work.

From, ``In economics, the Jevons Paradox (sometimes called the Jevons effect) is the proposition that technological progress that increases the efficiency with which a resource is used, tends to increase (rather than decrease) the rate of consumption of that resource. It is historically called the Jevons Paradox as it ran counter to popular intuition."

Hat Tip: Paul Kedrosky