Saturday, April 30, 2011

China’s Yuan Rises To Milestone High

In a seemingly desperate attempt to contain her homegrown bubble, China now resorts to the currency valve.

Reports the Bloomberg,

China’s yuan strengthened beyond 6.5 per dollar for the first time since 1993, supported by speculation the central bank will allow appreciation to help tame the fastest inflation in more than two years.

The currency’s seventh weekly gain, its longest winning streak since July 2008, may damp U.S. criticism of China’s exchange-rate policy before Vice Premier Wang Qishan heads to Washington next month for talks with Treasury Secretary Tim Geithner. Consumer prices in Asia’s biggest economy rose 5.4 percent from a year earlier in March, exceeding the government’s 4 percent goal for this year.

“Inflation is still higher than what the government would like to see,” said David Cohen, a Singapore-based economist at Action Economics, who previously worked for the Federal Reserve. “The central bank is tolerating faster currency appreciation to contain import costs.”...

The People’s Bank of China set the yuan’s reference rate at 6.4990 per dollar, the strongest level since July 2005. The currency is allowed to trade up to 0.5 percent on either side of the official rate.


Chart from Yahoo

If China continues to appreciate her currency then this means less recycling of her US dollar reserves into US treasuries.

But hot money flows, despite China’s capital controls, will still be a factor to China’s predicament.


The US Global Investor writes,

An influx of global funds seeking short-term returns, or hot money, into China moderates the impact of monetary tightening and increases inflationary pressure. The CEBM Group estimated the total amount of hot money influx was Rmb 930 billion in the first quarter, marginally above the historical high of Rmb 921.9 billion reached in the first quarter of 2008. This quarter’s hot money could offset the impact of 150 basis points of the required reserve ratio hike.

China’s rising interest rates and expectations of further appreciation could likely fuel more hot money flows.

All these attempts to macro manage China’s economy will eventually lead to adverse unintended consequences.

And in contrast to the consensus, once a bust or a bubble burst should occur, then I expect the yuan to suffer from a decline as consequence to the exodus of hot money.

That’s the scourge of the paper money system.

Cartoon of the Day: Diminishing Marginal Utility

From Graph Jam (hat tip Casey Research)


Keynesians On A Losing Streak

Keynesians have been on a losing streak. They have got it so wrong in predicting the direction of markets and inflation. And importantly, their policy prescriptions have likewise failed to achieve the purported economic recovery.


In a comparison between Reagan and Obama policies, the Wall Street Journal concludes, (bold emphasis mine)

The contrast in results between the current recovery and the Reagan years is instructive because the policy mix was so different. In the 1980s, the policy goals were to cut tax rates, reduce regulatory costs and uncertainty, let the private economy allocate capital free of political direction, and focus monetary policy on price stability rather than on reducing unemployment. This is the policy mix we need to rediscover if we are going to escape our current malaise and stop suffering from the Keynesian discount.

In reaction to this article, economist Tim Kane of the Kauffman Foundation writes, (bold emphasis original)

The great advantage of Keynesianism is also its great weakness. It is exceedingly simple. It's fair to think of monetary policy in simple terms: tighten money supply or loosen it? While there are surely nuances of financial oversight and regulation, the point is that fiscal policy is simply never going to be so simple. It wasn't simple in 1500, and it sure isn't simple now. Fiscal policy under modern Keynesianism is, in public policy discussion, reduced to precisely that crude metric: more deficit-based government expenditures/taxes or less. To say it misses the forest for the trees is also too simple. What it misses is the genotype for the phenotype. Or how about: it misses the recipe for the ingredients?...

The one dilemma I have is not whether modern Keynesianism is bankrupt (it is), but what that implies about the growth rate. When I heard Scott Sumner speak in January, I really had to wonder if I, let alone he, believed there was a bubble in 2008 or not. If it was a bubble, then we shouldn't expect GDP to "recover," nor can anyone blame politicians for the relatively weak recovery. Right? No, wrong, dead wrong. If it was a real recession and not a bubble, then clearly the policy response has failed. If instead it was a bubble, then the policy response has been an obscene waste of money. There is no way out for Keynesians now.

It’s no use to for liberals to make the excuse that “crisis has setback the pace of economic activity by a greater degree compared with other post-war recessions” for the failure of their policies to generate traction. That would signify as red herring.

That’s because the financial crisis had been the outcome of the same set of Keynesian policies employed to inflate the last bubble.

As Paul Krugman wrote in 2002 (New York Times) (bold emphasis mine)

The basic point is that the recession of 2001 wasn't a typical postwar slump, brought on when an inflation-fighting Fed raises interest rates and easily ended by a snapback in housing and consumer spending when the Fed brings rates back down again. This was a prewar-style recession, a morning after brought on by irrational exuberance. To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble.

Apparently Mr. Greenspan complied.

And the great Ludwig von Mises had been validated anew when he presciently wrote, (bold highlights mine)

There are still teachers who tell their students that “an economy can lift itself by its own bootstraps” and that “we can spend our way into prosperity.” But the Keynesian miracle fails to materialize; the stones do not turn into bread. The panegyrics of the learned authors who cooperated in the production of the present volume merely confirm the editor’s introductory statement that “Keynes could awaken in his disciples an almost religious fervor for his economics, which could be affectively harnessed for the dissemination of the new economics.”…

There is no use in arguing with people who are driven by “an almost religious fervor” and believe that their master “had the Revelation.” It is one of the tasks of economics to analyze carefully each of the inflationist plans, those of Keynes and Gesell no less than those of their innumerable predecessors from John Law down to Major Douglas. Yet, no one should expect that any logical argument or any experience could ever shake the almost religious fervor of those who believe in salvation through spending and credit expansion.

The false religion has been exposed anew.

The Implication of Emerging Market Central Banks’ Buying of Gold

The revolt against the US dollar regime seems underway.

The Bloomberg reports, (bold highlights mine)

Central banks that were net sellers of gold a decade ago are buying the precious metal to reduce their reliance on the dollar as a reserve currency, signaling demand that may extend a record rally in prices....

In 2010, central banks became net buyers for the first time in two decades, adding 87 metric tons in official-sector purchases by countries including Bolivia, Sri Lanka and Mauritius, according to World Gold Council data. China, with more than $3 trillion in foreign-currency reserves, plans to set up new funds to invest in precious metals, Century Weekly reported this week. Russia purchased 8 tons of gold in the first quarter...

China, which has just 1.6 percent of its reserves in gold, may invest more than $1 trillion in bullion, Pento said. “China wants to be an international player, and they need to own more gold than they currently have.”...

As of April, China was the sixth-largest official holder of gold, with 1,054.1 tons, according to World Gold Council estimates. The U.S. has the most, with 8,133.5 tons, or 74.8 percent of the nation’s currency reserves, council data show.

Central-bank buying may have the same impact on gold as the introduction of exchange-traded funds, Cuggino said. Prices have more than tripled since the SPDR Gold Trust, the biggest ETF backed by bullion, was introduced in November 2004.

Central banks in emerging markets may aim to hold 2 percent to 8 percent of their foreign-currency reserves in gold, Francisco Blanch, the head of commodities research at Bank of America Merrill Lynch in New York, said in an interview.

If emerging market central banks sustain the shift of their dollar reserve stash for gold or other metals, then this means that US government will have to increasingly rely on their resident savings or on the US Federal Reserve to finance their fiscal deficits.

Otherwise, the US economy faces the risk of higher interest rates.


So far, while the nominal amount of US treasuries debt held by foreign central banks continue to climb; the annual rate of change has been falling since 2009. (chart courtesy of


BRICs and East Asia are major holders ‘financiers’ of long term US debts. (charts above and below from Wikipedia)


Yet about 28% of US debts has been owned by foreigners. The gist of these debts has been held by the Federal Reserve and intragovernmental Holdings whose trend has risen steadily since 1997.

Higher interest rates go against the implied guiding dogma of the incumbent authorities of the US Federal Reserve which has been anchored on low interest rates (ZIRP) to perpetuate permanently ‘quasi booms’.

Also higher interest rates can severely affect the balance sheets of the overleveraged banking system which may again result to another turmoil.

According to Wikipedia,

The U.S. banking sector's short-term liabilities as of October 11, 2008 are 15% of the GDP of the United States or 43% of its national debt, and the average bank leverage ratio (assets divided by net worth) is 12 to 1.

And given that the US government has spent and exposed her taxpayers to trillions of dollars worth to protect the banking industry, I expect the Federal Reserve to see the interests of the banking sector as a continuing political priority.

So going by the elimination process, I see the conditionality as:

-if emerging market central banks continue to reduce their US dollar exposure

-if savings of US residents would turn out to be inadequate to finance government deficits

-given the path dependency and political interests (priorities) of US government and

-the US government’s refusal to pare down spending

then the US Fed seems backed into a corner with further QEs (this may not happen immediately right after QE 2.0 in June, but any signs of weakness or volatility will likely prompt the FED for the next set of QE)

And more QEs extrapolate to higher gold prices, lower dollar, possibly higher equity prices (depending on the degree of the impact of CPI inflation) and more CPI inflation...all these signifying a feedback mechanism of the inflation cycle until CPI inflation turns into a nightmare.

Alternatively, the US can cut government spending and reduce debt, but that would be an anathema or a seeming taboo for politicians.

Friday, April 29, 2011

Graphic: Logic Is No Use Against Faith

Here is another gem from Jessica Hagy. She calls it “You can’t use logic against belief.”

She amazingly turns messages into revealing graphics which takes so many words for me to express.


Well, I call this blind faith analysis.

As I earlier wrote,

“applied to economic and political analysis, blind faith analysis is simply cart before the horse logic; of which the common characteristics are: they are full of factual errors, the frequent use of logical fallacies, deliberately misinterpretation of theories, ambiguous definitions and data mining or selective application of evidence.”

Capitulating Deflationists: David Rosenberg and Rick Ackerman

One by one members of the deflationist camp have been capitulating.

I earlier pointed to populist analyst John Mauldin and celebrity guru Nouriel Roubini.

Now, Pragmatic Capitalism’s Cullen Roche says this time it’s David Rosenberg’s turn.

From Mr. Roche

After trying to call the top in equities every other week for the last two years, David Rosenberg has finally thrown in the towel on the bearish calls. In his Wednesday research report he detailed why he believes equities have achieved a “holy grail” and should continue to move higher:

“On a very near-term basis, and despite my long-standing macro concern list, which has not gone away, it does look like the market is set to rise further. The technicals are suggesting as much, though I do await what Walter Murphy may have to say on the matter. I had said before that a breakout to new highs led by higher volume would be an important technical signpost. Well, we achieved that Holy Grail yesterday – both in level terms and with respect to the change. This is not throwing in the towel, it is an acknowledgment of what the market internals are flashing at the current time from a purely tactical and technical standpoint….

“…All that said, we had a breakout to new highs yesterday and this time, the volume rose on the major exchanges, not to mention rising above the 50 DMA on the Nasdaq, which is a clear sign that the big boys are putting money to work. This market continues to impressively climb a wall of worry. Market internals are too strong to ignore right now – the NYSE advancers beat decliners by a 3 to 1 ratio yesterday; the Dow transports soared 1.9%; and the small caps beat their major benchmarks. My overall macro concerns have not gone away, but these market facts on the ground are tough to ignore.”

Austrian economics Professor Gary North also points to the defection of Rick Ackerman after 30 years of adhering to the deflationist outlook. He follows Martin Weiss in 2009

Writes Professor North,

What I have always said is this: there is no deflationary factor in the structure of the capital markets to keep a central bank from destroying the currency unit. There are no deflationary forces that central banking cannot overcome if it chooses to destroy the currency unit.

Well, this represents the fundamental flaw of deflationists, which they have stubbornly refused to pay heed to... of course, until the markets have proven them constantly and profoundly wrong which eventually led to their apostasy.

Nevertheless as a saying goes it's better late than never.

George Soros Misrepresents F.A. Hayek

Billionaire and philanthropist George Soros attempts to pander to followers of the great F. A. Hayek, he writes,

Human beings act on the basis of their imperfect understanding — and their decisions have unintended consequences. That makes human affairs less predictable than natural phenomenon. So Hayek was right in originally opposing scientism.

At the time of the Economica articles, Popper was between Hayek and the socialist planners. He was just as opposed as Hayek to communism’s threat to individual liberty, but he advocated what he called piecemeal social engineering rather than laissez-faire.

Here I sided with Popper. But Popper and Hayek were not that far apart. I was influenced by both — and I also found fault with both.

By identifying Hayek’s inconsistency and political bias, I do not mean to demean him — but to improve our understanding of financial markets and other social phenomena.

When F. A. Hayek posited of a society that emerges from spontaneous order, what he meant was that there is no specific social or economic outcome set by anyone most especially by central planners, but of a system that emerges from interactions done by individuals.

To quote Hayek, (bold emphasis mine)

A spontaneous order is a system which has developed not through the central direction or patronage of one or a few individuals but through the unintended consequences of the decisions of myriad individuals each pursuing their own interests through voluntary exchange, cooperation, and trial and error.

Thus, it is plain nuts to say that Hayek has been plagued by political bias.

Political bias represents ideology which sees political and economic order as having specific socio-economic outcomes designed by various schools of thought on central planning, which is the opposite of what Hayek or his followers stand for.

Moreover, Soros says he is influenced by Hayek. But as Greg Ransom aptly points out,

Soros calls for a middle ground between Popper and Hayek, between the far left and Hayek. What Soros doesn’t explain is why there is no middle ground in his political activities — or why he funds so many fundamentally dishonest and hard left “Think Tanks”, people who have no problem mischaracterizing or even smearing the ideas of Hayek — and those who teach them — at the drop of a hat.

In short, what Soros says and what he does conflicts. It is Mr. Soros who seems to be plagued by inconsistencies and not Hayek.

Moreover, like typical believers in central planning, the common argument begins with a cart before the horse “strawman” argument; Soros favorite is to use “market fundamentalism” to typify Hayek’s supposed ideology.

Bob Wenzel exposes this fallacy,

The fact of the matter is that free market advocates understand that the free market system is about profits and losses, and that losses are just as important in directing an economy in a better direction as are profits. There is no belief that there are no errors in a market system.

In addition, to pin the blame on “inherent market instability” as the work of “market fundamentalism” or free market forces is totally misguided.

For instance, bubble cycles won’t occur without interventionism (inflationism), most especially from Central Banks. Since policies and regulations affect people's behavior and actions, the stimulus response mechanism constituting Soros' reflexivity theory comes to play.

In short, people respond to incentives which policies or regulations shape.

I would partly agree with Soros for his view on human action via the reflexivity theory (which I also use in analyzing the markets), but I think he has either misunderstood or misrepresented Hayek.

Quote of the Day: Spending People’s Money To Lobby For More of People’s Money

Prolific author Matt Ridley on government’s funding/financing of lobby groups to argue for more taxpayer funded political projects.

You don't take money off people to spend it on getting people to argue for more money to be taken off them.

Read more here.

It’s one way to buy the mainstream. And it’s another way for politicos to have one’s cake and eat it too while taxpayers get fried on their own lard.

Earnings Drive Stock Prices? Not From Thailand’s Experience

I have continually argued against the supposed causal relationship of “earnings drive stock prices”, which for me signifies as a popular myth with little relevance to market realties. [Read my Machlup-Livermore paradigm here here and here]

Thailand’s experience should be a noteworthy example.


This from World Bank data on Thailand’s Stock Exchange. (World Bank Thailand Economic Monitor)

The left window represents nominal profits of listed companies. The right window exhibits the % change of financial indicators in terms of Gross Profit, Return on Assets and Return on Equity.


The above is the 5- year chart of Thailand’s SET (courtesy of Bloomberg).

My observations:

Profits of SET listed companies suffered a decline for only ONE QUARTER, particularly, the fourth quarter of 2008. Yet the SET fell 55% for 16 months (green circle)!

The one quarter of decline in profits looks more like an anomaly (from an external shock) than from a structural perspective (see right window showing financial indicators where % change were all positive despite the profit drop).

If stock market prices function as a discounting mechanism predicated on earnings, then what justifies a 55% slump for an extended duration of 16 months (about 6 quarters) when profits declined for only 1 quarter?

Conversely, profits immediately recovered during the 1st quarter of 2009, yet it took the SET about 5 months into 2009 to consolidate and ascend (green arrow on SET chart), so what happened to the discounting mechanism role played by prices, if stock price are driven by earnings?

Said differently, if it took 16 months to factor in one month decline in profits, then why has not the same discounting factor apply during the recovery or that profits have been recovering yet stock prices remained depressed, so what gives?

By the earnings drive stock prices logic, any decline should have been muted and short. Apparently, there hardly has been any solid evidence to prove that such correlation exists or that the causation of earnings drive stock prices is valid.

In addition, one might point to the rate of change of Gross profits, ROA and ROE as a reason (red arrow on % change of financial indicators).

If this is true, then the SET should be on a decline since 2005, because financial indicators have been on a decline over the same period. But the opposite happened, the SET boomed from 2004 (2006 in chart) until May 2007 (red arrow on SET chart)!

As Canadian born American writer Saul Bellow said

A great deal of intelligence can be invested in ignorance when the need for illusion is deep.

It’s one thing to believe, it’s another to get real.

Thursday, April 28, 2011

Volatility of China’s Food Prices Largely Due to Policies

In China, rising food prices have been blamed on speculators. Now that select food prices have slumped, particularly vegetables, the culpability has been assigned to speculators anew.

From Business China,

Farmers across China are suffering from unmarketable vegetables since the arrival of spring, hurt by an increase in output following speculation last year’s surge in demand would continue in 2011.

Last week, the average price of 19 kinds of vegetables in 286 wholesale markets nationwide was RMB 2.66 per kilogram, down 11.4% from the previous week, according to data from the Ministry of Agriculture.

Many farmers blamed oversupply as the main reason for the poor market. Due to climate factors, leaf vegetables from northern and southern China came onto the market almost at the same time, making the supply much higher than last year.

Speculators also played a major role in the price collapse, as they dumped vegetables that they had been hoarding onto the market.

Since the markets have always been the villains then obviously the government, as hero, would come to the rescue.

From the same article,

Chinese government authorities have stepped in to help the farmers and deal with the vegetable oversupply.

Some supermarkets, schools and company canteens are on a buying spree in east China's Shandong province as the government urged them to help relieve farmers from a glut of vegetables.

Municipal authorities should take immediate action to "help farmers tackle difficulties in selling their produce and maintain a stable market," said a notice from Shandong's commerce department released on April 22.

The Ministry of Commerce (MOFCOM) and the Ministry of Agriculture have also issued a notice to ask local authorities to take immediate action to "help farmers tackle difficulties in selling their produce and maintain a stable market".

Of course, the article has not been that candid.

A better explanation from the World Bank’s quarterly report on China comes with the supply side perspective, (bold emphasis mine)

In addition to normalizing the overall macro policy stance it took some measures to boost food supply and reduce the cost of production and logistics, including releasing grain from China’s large reserves, increasing subsidies to farmers, exempting transport of vegetables from road toll, and boosting food imports. More recently, this was followed by limiting the increase in domestic fuel prices arising from higher oil prices and applying moral suasion on manufacturers of food and consumer products.


So a combination of price controls, import liberalization, targeted subsidies and tax reliefs has been applied.

In essence, massive interventions has been employed to control inflation, from which the effects could likely be temporary, and could further add to the imbalances from the previous actions of China’s government to blow bubbles.

Importantly, if inflation is a monetary phenomenon as Milton Friedman would have it, then the bust in the vegetable market in China could be a symptom of the prevailing monetary policies...


Again from the World Bank, (bold emphasis mine)

Since October 2010 the government has raised benchmark interest rates 4 times and RRRs 7 times. Most importantly, quantitative guidance on bank credit, traditionally the backbone of monetary policy tightening, began to be reinforced, especially in early 2011. As a result, M2 growth came down from 19.5% in the fourth quarter to 16.6% on average in the first quarter, close to the target for the end of 2011, with a similar slowdown in bank lending. In recent years, total bank credit extention has been significantly larger than headline data suggests as banks expanded the use of credit instruments such as designated loans, trust loans and corporate paper, financed in part by trust and wealth management products that are not counted as deposits and are not part of M2, in order to evade lending quotas, capital requirements and RRRs.

China’s equity markets, specifically the Shanghai index appears to have recoiled after hitting the resistance levels as earlier discussed.


This is the interim price action of the Shanghai Composite bellwether. (chart from Bloomberg)

In my view, the current retracement of the Shanghai index could also be reflecting on the current monetary tightening environment.

If there should be a broader weakening of consumer and financial market prices then this would possibly prompt Chinese authorities to unleash their main Keynesian weapon--inflation.

I’d posit that since the stage of China’s inflation cycle looks more advanced than the rest of the world, then the ongoing developments in China’s financial markets needs to be closely monitored.

Video: Fight of the Century: Keynes vs. Hayek Round Two

Below is the sequel to the marvelous 'Fear The Boom And Bust- Keynes versus Hayek Rap Video' produced by John Papola and Professor Russ Roberts.

The 'Fight of the Century: Keynes vs. Hayek Round Two' is themed on Keynes-Hayek debate over government spending (source: Cafe Hayek)

Price Controls Equals Russia’s Looming Gasoline Shortages

Basic laws of economics always prevail over ‘noble’ political edicts.

That’s how events are turning out in Russia.

From the Wall Street Journal, (bold highlights mine)

The world's biggest oil producer Russia is facing gasoline shortages in some parts of the country, as prices are kept artificially low, leading producers to cash in on higher fuel prices abroad.

Russian car-owners are seeing petrol stations halt operations across the country, following an order by Prime Minister Vladimir Putin in February to investigate steep increases in gasoline prices, which led producers to ship more fuel for exports.

Russia consumes about half of the 10 million barrels it produces a day domestically, but prices on oil products, including gasoline, are kept artificially low. The government's attempt to control gasoline prices is just one of several measures aimed at curbing inflation—a key political issue with elections less than a year away, as higher gasoline prices could hurt Mr. Putin's popularity.

Russia's antimonopoly agency has repeatedly accused the country's top oil producers such as OAO Rosneft, OAO Lukoil Holdings and TNK-BP Ltd. of increasing prices for diesel and jet fuel.

After gasoline prices rose at the end of last year and another 4% in January, Prime Minister Vladimir Putin in February warned the country's top oil executives against price fixing. Mr. Putin accused them of trying to "crudely exact maximum gains" and vowed more oversight of the fuel business, effectively capping prices. As a result, prices declined both in February and March, despite the continued surge in global crude prices.

"The domestic prices are being held artificially low due to pressure from regulatory authorities," TNK-BP's Chief Financial Officer Jonathan Muir said Wednesday.

As we earlier pointed out, the inflation cycle appears to be gradually playing out around the world.

The cycle goes: Government first engages in inflationism. Then government blames these (called as price gouging) on the ‘greed’ of speculators and market players. Finally the government imposes price controls. The effect: Price controls fuel more distortions (via shortages) which translates to more higher prices.

Governments essentially adapts the fallacy of “two wrongs make a right”, when denial only worsens the problem.

It’s vicious cycle practiced over 4 centuries that has always failed, yet political leaders everywhere never ever seem to learn. They are so predictable.

US Homeownership Shows The Bust Has Been Greater Than The Boom

Boom bust cycles are a net negative to a society.

The Wall Street Journal Blog narrates on the state of US Homeownership. (bold emphasis mine)

The release also showed that the housing bust has undone all of the gains in ownership rates that were much ballyhooed in the early and mid-2000s. The nation’s home ownership rate, at 66.4% in the first quarter, was down from 66.5% in the last three months of 2010 — the lowest level since 1998.

US homeownership fell more than the levels when the policy induced boom had been accelerated (meant to combat the dotcom bust during the advent of the new millennium). Thus, the damage incurred from the ensuing bust has been far greater than 'illusory' benefits of the boom.

As for China phobes: China played an insignificant role in the US housing bubble cycle engineered by the US government.

All these show that governments' penchant for blowing serial bubbles signify a path to a lower standard of living (poverty). As the great Murray N. Rothbard wrote,

“inflation reduces saving and investment, thus lowering society’s standard of living. It may even cause large-scale capital consumption”

Mainstream Media’s Increasing Attention To The Gold Standard

Below is an interesting perspective on gold from the Economist,

THE creditworthiness of a country used to be judged by the level of its gold reserves. Under the gold standard, a fall in reserves would lead to the central bank taking crisis measures. The country with the biggest reserves in the world is, not surprisingly, America, with 8,134 tonnes. But expressed in terms of reserves per person, the picture looks very different. It is no surprise to see Switzerland at the top of the list, but why is Lebanon in second place? Its reserves were purchased when the country was the Middle East’s financial centre in the 1960s and 1970s and safeguarded through the civil war years by legal restrictions and by central-bank governor Edmond Naim, who according to legend slept in the bank to protect the hoard. China does not feature in the list at all; but gold bugs fantasise about what might happen if the people’s republic were to swap just some of its mountain of Treasury bonds for bullion.

Default template

What’s interesting is that with gold prices over $1,500, there has been increasing instances of mainstream media’s reference to the gold standard.


Google Trends reveal of the upward trend in searches made on the “gold standard” (green trend line above window).

And at the bottom pane, in 2010-2011 (red circle) news reference volume has significantly improved compared with 2004-2007 and in 2008-2009.

Signs of things to come? Hmmmmm

Wednesday, April 27, 2011

Social Media Is Hayek’s Knowledge Theory At Work

Anyone who says or writes about social media and claims that today’s digital age is NOT about or related to Hayek’s Knowledge theory is dead wrong. They are either misrepresenting Hayek or have not read Hayek but has the chutzpah to make unfounded derogatory remarks.

The information age (third wave) is very much about the growing realization of Hayek’s Knowledge theory.


Friedrich von Hayek wrote, (bold emphasis mine)

The peculiar character of the problem of a rational economic order is determined precisely by the fact that the knowledge of the circumstances of which we must make use never exists in concentrated or integrated form but solely as the dispersed bits of incomplete and frequently contradictory knowledge which all the separate individuals possess. The economic problem of society is thus not merely a problem of how to allocate "given" resources—if "given" is taken to mean given to a single mind which deliberately solves the problem set by these "data." It is rather a problem of how to secure the best use of resources known to any of the members of society, for ends whose relative importance only these individuals know. Or, to put it briefly, it is a problem of the utilization of knowledge which is not given to anyone in its totality.

Well here is how technology enabled information gathering has been benefiting businesses, according to the New York Times, (bold highlights mine)

INFORMATION overload is a headache for individuals and a huge challenge for businesses. Companies are swimming, if not drowning, in wave after wave of data — from increasingly sophisticated computer tracking of shipments, sales, suppliers and customers, as well as e-mail, Web traffic and social-network comments. These Internet-era technologies, by one estimate, are doubling the quantity of business data every 1.2 years.

Yet the data explosion is also an enormous opportunity. In a modern economy, information should be the prime asset — the raw material of new products and services, smarter decisions, competitive advantage for companies, and greater growth and productivity.

Is there any real evidence of a “data payoff” across the corporate world? It has taken a while, but new research led by Erik Brynjolfsson, an economist at the Sloan School of Management at the Massachusetts Institute of Technology, suggests that the beginnings are now visible.

Mr. Brynjolfsson and his colleagues, Lorin Hitt, a professor at the Wharton School of the University of Pennsylvania, and Heekyung Kim, a graduate student at M.I.T., studied 179 large companies. Those that adopted “data-driven decision making” achieved productivity that was 5 to 6 percent higher than could be explained by other factors, including how much the companies invested in technology, the researchers said.

In the study, based on a survey and follow-up interviews, data-driven decision making was defined not only by collecting data, but also by how it is used — or not — in making crucial decisions, like whether to create a new product or service. The central distinction, according to Mr. Brynjolfsson, is between decisions based mainly on “data and analysis” and on the traditional management arts of “experience and intuition.”

Essentially this means that businesses don’t rely on top down flow of information. Instead, supported by the rapidly advancing computing capacity of the current generation of computers, data gathering has been decentralized—“increasingly sophisticated computer tracking of shipments, sales, suppliers and customers, as well as e-mail, Web traffic and social-network comments”—which operates on real time basis that allows the businesses to rapidly store and process data “how it is used” and thus employ a “data-driven decision making”

Not Hayek?

More from the late great Hayek,

If we can agree that the economic problem of society is mainly one of rapid adaptation to changes in the particular circumstances of time and place, it would seem to follow that the ultimate decisions must be left to the people who are familiar with these circumstances, who know directly of the relevant changes and of the resources immediately available to meet them. We cannot expect that this problem will be solved by first communicating all this knowledge to a central board which, after integrating all knowledge, issues its orders. We must solve it by some form of decentralization. But this answers only part of our problem. We need decentralization because only thus can we insure that the knowledge of the particular circumstances of time and place will be promptly used. But the "man on the spot" cannot decide solely on the basis of his limited but intimate knowledge of the facts of his immediate surroundings. There still remains the problem of communicating to him such further information as he needs to fit his decisions into the whole pattern of changes of the larger economic system.

Again Hayek’s Knowledge Theory extrapolated in today’s social media setting, from the New York Times anew (bold emphasis mine)

STILL, the software industry is making a big bet that the data-driven decision making described in Mr. Brynjolfsson’s research is the wave of the future. The drive to help companies find meaningful patterns in the data that engulfs them has created a fast-growing industry in what is known as “business intelligence” or “analytics” software and services. Major technology companies — I.B.M., Oracle, SAP and Microsoft — have collectively spent more than $25 billion buying up specialist companies in the field.

Well when Hayek said “further information as he needs to fit his decisions into the whole pattern of changes”, applied in today’s lingo they are called “business intelligence” or “analytics” software and services.

Get it? This is very much Hayek’s theory at work.

Experts who pretend that they know, don’t really know.

The presume superior knowledge out of self importance and deceptive conceit by relying on false theories and flawed models from which they extrapolate as foundations for their preferred political theory. (Let them bet on markets and see how they can predict them with consistency. I'll bet they'll be consistently wrong)

Again as Hayek once wrote,

All political theories assume, of course, that most individuals are very ignorant. Those who plead for liberty differ from the rest in that they include among the ignorant themselves as well as the wisest.

And that’s where the Hayek and statists camp differ. It’s in the admission of the knowledge problem.

Will Ron Paul Run For President in 2012?

I hope he does. Signs point to this though...

From the Bloomberg,

U.S. Representative Ron Paul of Texas announced today in Iowa that he is forming an exploratory committee for a third presidential campaign.

Paul, a longshot 2008 Republican presidential candidate whose anti-tax, anti-government politics struck a chord with a swath of voters and fueled fundraising, will make a decision on whether to run by the middle of next month, said Jesse Benton, his political director.

“There’s a lot of enthusiasm,” Benton said. Paul plans to participate in a Republican primary debate May 5 in South Carolina.

Before his 2008 bid, Paul ran for president in 1988 on the Libertarian Party ticket.

Paul, who heads the House Financial Services subcommittee that oversees the Federal Reserve and wrote a 2009 book “End the Fed,” has long pushed for legislation to increase scrutiny of the central bank. He joined with his son, Rand, who was elected as a Republican senator from Kentucky in November, to introduce legislation this year to require an audit of the Fed by the Government Accountability Office.

Of course I don’t expect Congressman Paul to win. I don’t even think that this could even be the primary goal for Mr. Paul.

As Jacob Huebert aptly points out in this great talk (above), Ron Paul could simply be raising the level of awareness of classical liberalism or libertarianism to the public as he has successfully done so in the past by running for the top post.

The US is hardly a libertarian society (the youthful Mr. Huebert points to some 14% of the population as libertarians) which essentially makes Mr. Paul’s winning the Presidency seemingly against the odds.

However bringing the libertarianism platform to the political arena gradually opens the eyes of the public to the essence of liberty.

Aside, Mr. Huebert cites the internet as another complimentary driving force to Ron Paul as increasing the public’s interest on libertarianism.

One would note that since it is innate for people to look for role models, many libertarians may have seen Ron Paul as having assumed this function.

Besides classical liberalism or libertarianism requires some serious ruminations on economics and philosophy, something which most people appear averse at.

Great minds discuss ideas; Average minds discuss events; Small minds discuss people, said former US First Lady Eleanor Roosevelt.

Yet ideas are hardly the favored topic of mainstream media. Where ideas mattered, it could be seen in the context of social compassion but whose application implies compulsion to achieve this goal. (of course this would be embellished by math models)

Nevertheless the last word from hopefully Presidential candidate Ron Paul, (bold highlights mine)

To believe in liberty is not to believe in any particular social and economic outcome. It is to trust in the spontaneous order that emerges when the state does not intervene in human volition and human cooperation. It permits people to work out their problems for themselves, build lives for themselves, take risks and accept responsibility for the results, and make their own decisions.

Why I Would Not Subscribe To San Miguel’s Offering

I generally do not subscribe to IPOs or secondary listings because I am not a fan of it. As I pointed out here (July 2007) and here, their successes mostly depend on the performances of the broader market where new share listings basically reflect on market sentiment.

Since new listings are sentiment based, they frequently signify faddishness, and in fact, serve as dependable indicators of the whereabouts of the phases of the bubble cycle.

On that note, the fund raising campaign by San Miguel via equity and the exchange bond seems to have raised a buzz. I sense a bandwagon type of enthusiasm especially from short term traders or punters.

Nevertheless here is Finance Asia’s splendid take (or may I say takedown) of the San Miguel Corporation [SMC] offering, (bold highlights mine)

San Miguel Corp, the Philippine conglomerate whose businesses range from beer and food to oil, power and infrastructure, is set to raise $880 million from a concurrent sale of shares and exchangeable bonds. The fundraising is slightly larger than the $850 million indicated by the company earlier this month and could increase to $970 million if the $20 million greenshoe on the international tranche of the equity portion, and the upsize option on the domestic tranche, are both exercised in full.

Even at the base size, this is the largest follow-on capital raising in the Philippines ever. It is also the first ever combined equity and equity-linked deal in this market.

However, in return for the larger size, the company and its controlling shareholder, Top Frontier, had to compromise on price, as most of the investors who came into the equity portion of the deal were highly price sensitive. Having initially set a price range of Ps140 to Ps160 before the international bookbuilding kicked off on April 14, the indicative price was lowered to Ps110 to Ps140 two days before the close and eventually fixed at Ps110. This translated into a 28.1% discount to the latest market price of Ps153.

The final deal also falls well short of vice-chairman Ramon Ang’s talk of a sale of 1 billion shares back in December. Based on the share price at the time, that suggested a deal size of about $3 billion.

The exchangeable bonds did price at the issuer-friendly end with a 2% coupon and yield and a 25% exchange premium, but because it used the same Ps110 as the reference price, it was viewed as generous relative to other recent equity-linked deals. Indeed, investors were much keener on the bonds, which attracted a final order book of $2.8 billion. By comparison, the demand for the equity portion reached only $500 million, which clearly shows that the deal would have failed had it not been for the concurrent EB. Or seen the other way, the bookrunners were able to turn a difficult situation into a successful capital-raising by using the EB to draw in investors.

The deal was marketed as a way to invest into the broader Philippine economy, but evidently investors were not that comfortable with San Miguel’s aggressive expansion into new industries such as power, mining, energy, infrastructure telecommunications and banking, during the past few years. For one, it makes the stock more difficult to value, and there may also be concerns that it is spreading itself too thin.

San Miguel’s precipitate corporate makeover occurred prior to the Philippine presidential elections, which for me, put to question the motives behind such actions by the controlling interests, as I pointed out earlier.

Then the timing of the Supreme Court’s validation of Danding Cojuangco’s ownership may also have some influence on this.

To get some clue...

Again from Finance Asia...

Some 75% of the equity portion consisted of existing shares that were sold by Top Frontier, which owned 67.2% of San Miguel before the transaction and controlled 88.4% of the votes. San Miguel also owns a 49% stake in Top Frontier, making this a classic cross-shareholding situation. The EB was sold by San Miguel itself.

Cross (interlocking) holdings like SMCs’ smacks of corporate legal maneuverings similar to Japan Inc which describes as a “high degree of collusion between Japan's corporate and political sectors led to corruption throughout the system and contributed to the downfall of the overvalued Nikkei.”

Whether applied to Korea’s Chaebol or Japan’s Kiretsu such ownership structure types have functioned as traditional havens for the aforementioned collusion.

So in my view, yes the marketing has purportedly been about returns from equity ownership (well like all politics everything is about everyone else’s benefit) but behind the scenes the incentives, for this offering, could be political more than financial.

I’d further say that the San Miguel’s business model turnabout from beverage and consumer goods to industries as energy, infrastructure and mining seems like a manifestation of the socio-standings and the philosophy of the company’s top honchos.

Beverage and consumer goods dealt with market based competition whereas the latter industries mostly represents political concessions. In short, political operators would intuitively elect for political business platforms; because these are not subject to competition but acquired through privileges from political alliances or networks.

Earlier, I negatively weighed on San Miguel’s shift in its business model (outside the political context).

More clues from Finance Asia,

Aside from raising funds that can be invested into the company’s emerging infrastructure business, a key purpose of the deal was to increase the free-float and put the San Miguel stock back on the radar screens of international institutions. According to the Philippine Stock Exchange, the free-float was only 8% before the offering, which meant the deal had to be marketed pretty much as an initial public offering with an extensive roadshow, pre-deal research and a discount to other Philippine conglomerates. Investors also looked at the equity on an absolute valuation basis, rather than as a discount versus the current market price.

To get the maximum effect on the free-float, San Miguel initially planned to sell only shares. However, this turned out to be too much of a challenge, and so the plan was revised to include the exchangeable bonds at attractive terms as well. To ensure the company would still achieve its free-float objective, the EB was designed to be equity-like and to maximise the possibility of conversion. Hence the favourable premium.

At the end of the day, much ado about San Miguel's offering, unknown to many, falls short of the owners’ expectations, which is another reason why I should not get one.

Besides, in looking at the SMC’s chart...

clip_image002 would seem easy to get enchanted on something that has already massively exploded. That’s reading past performance into the future (in behavioral finance-this is called as anchoring).


The above shows where the offering has been made (red horizontal line). Needless to say for chartist SMC chart would translate to a breakdown.

Nevertheless, the sellers (Top Frontier) obviously made quick buck here: buying at php 75 per share and selling at 110 per share or about 46% returns [gross maybe 40% net] (after a big push in SMC's price- their push?) on a holding period of 1 year and a quarter—Not bad for the “largest follow on capital raising” billion peso deal!

Of course, as I earlier stated, San Miguel’s price direction will flow with the overall market.

So SMC can sell you the meme about exposure to the Philippine economy, but at the end of the day SMC's price actions will reflect on the phases of bubble cycle than the company's so-called fundamentals.

And part of the typified trait of bubble cycles is political money hyping up stock prices...Japan Inc. and the US mortgage bubble should be great reminders.

That said, investing in stocks or in financial markets has the greater fool theory always in play.

[As a side note: I am not implying that SMC subscribers are the greater fool. The greater fool is the one usually left holding the empty bag -or the old maid-which means that this applies to all issues, IPO or not]

The point is it pays to be prudent.

Tuesday, April 26, 2011

IMF Predicts The End of the “Age of America” in 2016

From the Marketwatch,

The International Monetary Fund has just dropped a bombshell, and nobody noticed.

For the first time, the international organization has set a date for the moment when the “Age of America” will end and the U.S. economy will be overtaken by that of China.

And it’s a lot closer than you may think.


According to the latest IMF official forecasts, China’s economy will surpass that of America in real terms in 2016 — just five years from now.

Put that in your calendar.

It provides a painful context for the budget wrangling taking place in Washington right now. It raises enormous questions about what the international security system is going to look like in just a handful of years. And it casts a deepening cloud over both the U.S. dollar and the giant Treasury market, which have been propped up for decades by their privileged status as the liabilities of the world’s hegemonic power...

Naturally, all forecasts are fallible. Time and chance happen to them all. The actual date when China surpasses the U.S. might come even earlier than the IMF predicts, or somewhat later. If the great Chinese juggernaut blows a tire, as a growing number fear it might, it could even delay things by several years. But the outcome is scarcely in doubt.

This is more than a statistical story. It is the end of the Age of America. As a bond strategist in Europe told me two weeks ago, “We are witnessing the end of America’s economic hegemony.”

We have lived in a world dominated by the U.S. for so long that there is no longer anyone alive who remembers anything else. America overtook Great Britain as the world’s leading economic power in the 1890s and never looked back.

Well that indeed is a bold prediction coming from the multilateral institution which failed to predict the emergence of the 2008 financial crisis.

IMF’s over reliance on econometric models makes them greatly dependent on constants as basis for their predictions. Constants do not exist in the world of human action and even in the environment (e.g. Japan’s science models failed to predict the last disaster).

In addition constant based models tend to generate linear progressions which means that methodological calculations greatly depends on data from past performances, thus subjecting them to flagrant errors from black swan ‘fat tail’ events.

I’d say that this supposed end of the “age of America” and the contemporaneous "rise of China" strongly depends on some major interrelated factors: bubble cycles, inflationism, the political resolution of the grand unwieldy fiscal deficits, state of economic freedom, and the progress of technological innovation and the scale of transition of the global economy to the information age.

Say for instance, if China’s bubble does unravel before 2016, then the IMF’s clock could suffer a substantial reversal.

To reminisce, many saw Japan as a contender to the US crown in the 1980s. Events turned out that the much heralded Japan Incorporated had been an illusion of prosperity and success brought about by funny money. Events could turn out the same for China. I am not saying it will, but it could.

Also, policies that “kick the can down the road” via inflationism may increase the fat tail risk of hyperinflation for the US, or even for the rest of the world if everyone embraces competitive devaluation as a common national monetary policy.

In other words, predicting the end of the Age of America is not going to be that simple. IMF should predict first, NOW before the Presidential primary, who will be the President of the US in 2012.

Events are as fluid as people adapt and respond to social and environmental changes.