Dutertenomics: The Golden Age of Free Money for Big Government, SM as BSP Chief? The Auto Industry’s Ecosystem

The woes of old strata-titled malls, including former household names and those in prime shopping districts, are well documented. Yet, investors were “swayed by optimistic projections by developers and agents” during the property boom into ploughing their money into the new ones in the belief that, over the long run, prices would appreciate in land-scarce Singapore, R’ST Research director Ong Kah Seng noted. “Back then, there was this desperate need to park money in property since interest rates were low,” he said, adding that rentals of strata-titled shops have dipped by about 15 to 25 per cent between 2014 and last year. There was also a belief that the suburban market, with a ready catchment of shoppers, is more resilient to the vicissitudes of the economic cycle. But Mr Cheong pointed out: “The rental evidence seems to point to the two paralleling each other. The more it mirrors each other in future, the more the belief that suburban malls are sturdier in rental support turns to myth.” Singapore: The Big Read: At some suburban malls, retailers confront the sound of silence, Today Online, January 21, 2017

In this issue:

Dutertenomics: The Golden Age of Free Money for Big Government, SM as BSP Chief? The Auto Industry’s Ecosystem

-USD Peso Below 50: Should SM Big Bosses Replace The BSP’s Monetary Board?

-Money is Free: The Golden Age of Infrastructure!

-Money Supply Matters: Spiking Bond Yields and Rampaging Real Economy Prices

-The Auto Industry’s Ecosystem Fundamentally Depends on Credit Expansion

Dutertenomics: The Golden Age of Free Money for Big Government, SM as BSP Chief? The Auto Industry’s Ecosystem

USD Peso Below 50: Should SM Big Bosses Replace The BSP Monetary Board?

SM’s chief honchos accomplished what the BSP masters have failed to do!

By declaring SM-2GO special block sales as “foreign trade” the USD-Peso belatedly responded by breaking below 50!

SM’s acquisition of 2GO was categorized as “foreign buying”. Such contradictory label came in curious coincidence with the two-day “foreign buying” spurt in many of the biggest market cap issues. Such buying binge incited a breakout of the Phisix from the 7,400 psychological level.

As anticipated: (see The Third Breakout Of 7,400: The Risk Of Complacency And Self-Delusion April 10, 2017)

This is regardless of whether such supposed statistical foreign inflows have been for real or had been meant as props. If it is the latter, then the markets should figure this misperception soon and accordingly adjust.

In the meantime, the implication is that the peso is bound to firm up over the short term.

There is a recent precedent. The May 2016 surge in foreign buying resulted in a significant peso rally of about 1.9% in two weeks. So a similar scenario may playout.

For a refresher, the week when the PSEi breached the 7,400 level (April 7), foreign buying spiked to Php 8.4 billion. At Php 3.48 billion, the SM-2GO special block sales accounted for 42% share of the week’s foreign inflows.

On April 4, or the day where the breakout occurred which interestingly overlapped with the PSE’s posting of SM-2GO deal, net foreign buying at the board of the PSEi 30 was only Php 576 million! The PSEi 30 registered a foreign buying for the week ending April 7 at Php 5.28 billion. The discrepancy between the PSEi 30 and the SM-2GO block sales are attributable to the foreign trade in the broader market (non-PSEi 30) and the other special block sales.

Since the PSE only registers the identity of participants, only the banking system and the BSP will truly ever know of the existence of “inflows” from the week’s transactions.

What this episode reveals have been that PSE registered foreign trades may not entirely account for as foreign trades from foreign funds, as commonly perceived. Instead, foreign trades also may represent offshore satellites of local firms.

As a reminder, foreign portfolio flows can serve as a tool to measure part of the demand of the peso.

And if the week’s inflows were hardly significant as presented in the PSE reports, then this shows how listed firms may havebecome complicit with authorities to address the weakening of the peso. Likewise, such actions could have been designed to engineer sustained pumps on the “most expensive stock market in Asia”!

Either SM’s big bosses should replace the BSP leaders, or that SM has transformed into an extension or a posse of the BSP.

Since the SM-2GO special block sales on April 4, the USD peso melted like ice to tumble by 1.48% in just 7 days, or through the close of the holiday (Holy Week) truncated trading week of April 12!

And mainstream analysts fell over each other to romanticize the glory of G-R-OW-T-H.

Yet net foreign buying shriveled to Php 219 million per day, for the three trading days of April 12, compared to Php 1.67 billion per day during the April 7 breakout. And foreign trade relapsed to net selling this week to the tune of Php 1.2 billion!

Since the advent of 2017, there were only four weeks with registered foreign buying. The first two came in the closure of the 9-day pump from the close of December through the first week of January. Or, foreign buying was only at Php 2.27 billion for the first two weeks of January.  The second series had been the pre-Holy Week and Holy week pumps that spurred the 7,400 breakout!

And because foreign buying regressed into selling, the USD peso soared by .67% this week to Php 49.76 from the April 12 low of 49.43. The peso once again underperformed the Asian Pacific region this week.

The USD peso has hardly been changed from a year to date basis. Yet the USD peso has been the only outperformer in Asia year to date. Asian currencies have substantially appreciated against the USD.

Figure 1: SM’s Foreign Buying and UST holdings of the Philippine government

The BSP’s approach to the faltering peso has been to manage the supply-side. It has sold “foreign investments” while at the same time used forex derivatives (forward covers) to diminish its selling activities, as manifested in its GIR report. At February’s USD 36.9 billion, the Philippine government’s holdings of US treasuries has skidded to September 2015 levels based on the US Treasury data. Yet February’s numbers signified a modest improvement from January’s USD 36.5 billion.

On the other hand, as noted above, the “foreign inflows” partly due to SM-2GO deal affected the demand side of the peso.  

It is also unclear if the net foreign buying at the board of the PSE during the two weeks of April 7 and 12 were derived from foreign funds or from foreign satellite offices of local firms or a combination of both. Differently put, “inflows” may or may not have happened.

The key takeaway have been  that statistics can not only mislead the markets, but also serve as a tool for manipulation of the public’s perception.

  

Figure 2: Government Budget and BSP Net Claims on NG

Yet the amazing feature of today’s supposed popular ‘economic’ analysis has been the entrenched or deeply-rooted convictions of free lunches by the mainstream ‘experts’.

They believe that government spending can only have benefits. And costs from such actions are merely swept under the rug.

The Philippine national government’s (NG) deficit for February was at Php 23.724 billion as reported by the Bureau of Treasury. The two month aggregate was at Php 21.72 billion.

Yet NG borrowing swelled by Php 117 billion over the same period. The foreign side of the borrowing was mostly due to the peso’s weakness or “currency effect”. Domestic borrowing at Php 51 billion accounted for 43% of the total.

Moreover, the BSP’s net claim on central government bulged by Php 39.73 billion last February. For first two months, BSP holdings of National government liabilities accrued to Php 11.55 billion. The BSP’s aggressive financing of the NG has mirrored the state of deficits (lower window).

Yet the nominal rate of BSP’s use of the printing press to finance NG liabilities has been skyrocketing!

For 2017, the NG has now used both the debt market and BSP debt purchasing as means to finance deficit spending. The government appears to be raising funds in anticipation of the augmented spending.

Money is Free: The Golden Age of Infrastructure!

Moreover, the public is being sold the nostrum of the “golden age of infrastructure”.

The better term for this is free lunches or subsidies for the government and their cronies.

I have dealt with infrastructure snake oil elsewhere. [Example see Why the Duterte Government’s “Build, Build, Build” Signifies a Recipe for a Crisis November 6, 2017]

Yet there has hardly been any mention that infrastructure spending has done little to the economic weal of Japan and to China, the largest infrastructure spenders, except to build overcapacity and accrue mountains of RECORD debt.

In fact, China has become so addicted to debt that for the 1Q of 2017 Total Social Finance rocketed to US $1 T-R-I-L-L-I-O-N!

From Reuters: “For the first quarter, TSF reached a record 6.93 trillion yuan -- roughly equivalent to the size of Mexico's economy -- and well above last year's first quarter total. For analysts, that suggests a surge in off-balance sheet lending, likely in the less regulated shadow banking system, despite repeated attempts by authorities to target riskier lending in past years.”

At 1 yuan per .15 USD, that’s equivalent to USD 1.01 trillion! Annualized, this entails $ 4 T-R-I-L-L-I-O-N! That’s about 33% higher than last year USD 3 trillion!

And yet most of these massive debt accumulations have been due to infrastructures spending. According to Andrew Brown, a partner for macro and strategy at ShoreVest Capital Partners: “China created 139 per cent of GDP in new credit between the first quarter of 2009 and the third quarter of 2014 (when GDP growth peaked), far greater than what was created in other major credit bubbles globally. This unprecedented flow of new credit was predominantly in infrastructure and corporate credit. The result is that China’s corporate debt-to-GDP is too high and must be addressed, which authorities are now doing.”

Even more, as authorities superficially attempt to curb lending, the response to such restrictions has been to ramp up credit uptake from the shadow banks, which has now ballooned to a whopping $8.5 trillion!

So whatever G-R-O-W-T-H one sees out there, not just in China but around the globe, such has mostly accounted for the spillover effects of China’s massive credit expansion. Remember, Chinese monetary and fiscal stimulus emerged when international market turmoiled in January 2016.

Of course, I have no idea of the exact limits of the accretion of such imbalances. All I know is that what is unsustainable won’t last. And from here, there will be a tipping point from which all these will unravel.

Back to the Infrastructure mirage.

Japan’s ODA hasn’t signified a free lunch either. Part of the previous projects to the Philippines constituted loans. And up to what extent of the infrastructure financing would imply for a quid pro quo with Japanese multinationals???? And who would be their local partners?

Here’s the thing. The maintenance of the current or existing infrastructures has hardly been adequate. Most seem in a state of decrepitude. Yet just how would these new projects fulfill their role as economic elixirs????

And since all such spending will have to be FUNDED, just who pays for these? And at what price? Surging deficits will likely be financed by hikes in tax rates, or through a surge in debt issuance or by BSP financing. It may be a combo of these. And these would come without costs?

The public is being seduced with elixirs instead of allowing people to trade freely!

Wait until those tax revenues falter. Such grand plans would come to a screeching halt!

Most importantly, since in the realm of politics populist thinking fixates on the short-term, the easiest way to respond to scarcity is to simply throw money at every problem.

The same applies to the mounting number of murder victims from the war on drugs. Lay waste to the segment of the population who doesn’t conform to the values and preferences of the master.

And because China’s government has built military structures at the contested areas at the South China Sea, the Philippine government’s response is to propose Php 1.6 billion of tourism spending.

Never mind the heightened risk of military confrontation, money is free!

Money Supply Matters: Spiking Bond Yields and Rampaging Real Economy Prices

Last year’s record deficit, which was financed by the BSP, in conjunction with massive gorging of debt by the private sector bears a cost. That’s aside from the previous outgrowth of money supply in 2013-2014.  

Presently, as the banking system’s credit expansion zooms (for February, industrial production 17.61% and household 24.65%), Philippine money supply continues to rip, (for February M1 was at 15%, M2 at 12.5% and M3 at 12.6%).

Supply doesn’t matter? Or supply has no relevance in determining exchange rate values?

Figure 3: Real Economy Prices, Spiraling Yields and a Flattening Yield Curve

The Philippine government and the establishment think that free lunches will stay forever, or comes with no end in sight. That’s a pie in the sky!

Even from the government’s own numbers, real economy prices have been running berserk! Except for the policy sensitive CPI, General Whole prices and General Retail prices have soared beyond the 2014 highs! March CPI was at 3.4%.

That’s even if these numbers reflect a semblance of reality. My personal observation is that prices increases have been way beyond these numbers.

To recall, the 10 consecutive months of money supply growth at 30+++% ignited the previous 2014 price spikes.

Present inflation numbers suggest that domestic liquidity rates have been materially understated. 

And remember, real economy price spikes of 2014 morphed into a political controversy. The rocketing of garlic pricesprompted for Senate hearings in early July. Traders were blamed for the hoarding.

Then the BSP began their tightening streak by raising policy rates at the end of the same month.

Today, price inflation has once again transcended to a political issue. This time the alleged rice hoarding by traders has served as the convenient whipping boy

While SM was able to jolt USD peso lower, domestic bond yields were hardly persuaded.

To the contrary, bond yields at the shorter end have risen more than the longer end. The end result has been to flatten the yield curve (see lower left). The implication of a flattening curve is monetary tightening. And monetary tightening translates to the risk of a substantial deceleration of the NGDP rates. And like in 2015, this again will impact the top-line revenues, earnings, and general economy prices.

And if the latter occurs what will happen to the already burgeoning rates of vacancies in the ongoing race to build shopping malls and in real estate projects?

Perhaps, the BSP will once again pry open this narrowing spread. But if they do, at what costs will such actions bring about?

Or will there be a replay of 2014, where the BSP will undertake the next series of policy tightening?

Or has the BSP been freaked out or severely traumatized by the deflation scare of 2015 for them just to permit price inflation to rage and or tolerate the razing of the peso?

All actions have consequences.

The Auto Industry’s Ecosystem Fundamentally Depends on Credit Expansion

Here’s more.

Two weeks back I also pointed out of the discrepancy in the statistical data of auto sales growth and auto loans.

And what even caught my eye in the February data was of the enormous disparity between auto sales (+7.5%) and consumer auto loans (+34.57%).

This shows that February auto loans sales may have been distorted (via delayed postings, again possibly due to new rules). Or that the persistent (still) blistering growth rates meant that borrowed money had been diverted to the other areas.

But the question is where? To stocks? To property?

It turned out that such anomaly may have been due to distortions from sales posting. That’s because March sales vaulted 32.83% year on year to bring lift the quarterly growth back to 23%.

The Chamber of Automotive Manufacturers (CAMPI) implicitly admitted to what I have been saying here all along: “robust sales due to new model introductions, aggressive marketing promotions and attractive financing offers”.

In short, car sales growth has principally been driven by easy money.

The business ecosystem of the auto industry fundamentally DEPENDs on easy money or credit expansion.

Profits and earnings of distributors and producers DEPEND on credit used for the promotion of auto sales.

The same profits and earnings of distributors and producers from easy money financed auto sales are used for business spending, or in particular, capacity expansions to meet projected sales.

Access to credit may magnify such business spending by the distributors and producers

Sales of vendor-suppliers of capital goods are thus beneficiaries of business spending by auto distributors and producers

Hence, sales, profits, earnings and consumption of the direct capex suppliers DEPEND on easy money financed auto sales.

Of course, access to credit may broaden business and consumption spending of directly linked capex suppliers

Furthermore, sales, profits, earnings and consumption of the chain link of indirect capex suppliers DEPEND on easy money financed auto sales.

In the same way, access to credit may increase business and consumption spending of the chain link of indirect capexsuppliers.

The same profits, earnings, and credit of auto distributors and producers from easy money financed auto sales are used for consumption. Consumption spending are channeled through household needs, retail outlets, hotels, travels and other non-household consumption activities

Hence sales, profits, earnings and consumption of suppliers and providers of household needs, retail outlets, hotels, travels and other enterprises of non-household consumption activities DEPEND on easy money financed auto sales.

In the same way, access to credit may amplify business and consumption spending of the suppliers and providers of household needs, retail and other enterprises of consumption based enterprises

Jobs and wages of employees of the auto industry DEPEND on easy money financed auto sales. Such consumption activities are directed at household needs, retail outlets, hotels, travels and other non-household consumption activities

As in the above, access to credit may augment employee’s consumption spending.

Hence once again, sales, profits, earnings and consumption of suppliers and providers of household needs, retail outlets, hotels, travels and other enterprises of non-household consumption activities DEPEND on easy money financed auto sales.

The same economic concept applies to the indirect chain links of suppliers and providers of household needs, retail outlets, hotels, travels and other enterprises of non-household consumption activities.

Non-capex business spending derive from the same profits, earnings, and credit of auto distributors and producers from easy money financed auto sales

Sales of vendor-suppliers of non-capital or operational goods or services are also beneficiaries of business spending by auto distributors and producers for operations

Ergo, sales, profits and earnings, and consumption of the direct non-capex suppliers DEPEND on easy money financed auto sales.

And like the above, access to credit may extend business and consumption spending of direct non-capex suppliers

Furthermore, sales, profits and earnings, and consumption of the chain link of indirect non-capex suppliers DEPEND on easy money financed auto sales.

In the same plane, access to credit may expand business and consumption spending of the chain link of indirect non-capexsuppliers

Of course, the same economic process involves financial entities providing credit for consumer auto sales, auto distributors and producers, capex and operations suppliers and employees. This applies to the indirect chain of entities attached to financial entities (shareholders, depositors and etc…)

Most importantly, the government taxes also DEPEND on easy money financed auto sales mostly from transactions and income of auto distributors and producers, direct and indirect capex and operations suppliers, as well as. auto industry employees. This applies to the chain of providers of consumption goods and services for all the above.

Statistics will register only those entities with direct access to credit. Some of them may not even be accurate.

But the interdependencies and interconnectedness from the business ecosystem can’t be observed merely from numbers but from economic logic and from the understanding of the process workflow.

Therefore, this tell us that once easy money policies end, or once auto sales growth hit a wall, the effects will ripple across many industries that are directly or indirectly attached or leveraged to them. There are many reasons for auto sales to hit their limits, they may emanate from insufficient income or balance sheet constraints, job losses, industry saturation levels, or price pressures in the real economy or political or policy based dislocations.

The bottom line, playing around with statistics or manipulations of the market may work over short-term.

But eventually, the sins from inflationism via the erosion of real savings, and misdirection of resources would translate to a bust phase of the business cycle.

We maybe close to this point.