Quote of the Day: The Saudi Arabian Government is the Ultimate Inspiration and Financial Benefactor of the Islamic State

A lengthy excerpt from analyst David Stockman from his latest article on the Middle East crisis:

The truth is, the long era of the so-called oil crisis never happened. It was only a convenient Washington invention that was used to justify statist regulation and subsidization of energy domestically and interventionist political and military policies abroad.

Back in the late 1970s as a member of the House Energy Committee I argued that the solution to high oil prices was the free market; and that if politicians really wanted to cushion the purely short-term economic blow of a Persian Gulf supply interruption the easy and efficient answer was not aircraft carriers, price controls and alternative energy subsidies, but the Texas and Louisiana salt domes that could be easily filled as a strategic petroleum reserve (called SPRO).

During the Reagan era we unleashed the energy pricing mechanisms from the bipartisan regime of price and allocation controls which had arisen in the 1970s and began a determined campaign to fill the SPRO. Thirty-five years later we have a full SPRO and a domestic and world economy that is chock-a-block with cheap energy because the pricing mechanism has done its job.

In fact, OPEC is dead as a doornail, and the real truth has now come out. Namely, there never was a real oil cartel. It was just the House of Saud playing rope-a-dope with Washington, and its national oil company trying to do exactly what every other global oil major does.

That is, invest and produce at rates which are calculated to maximize the present value of its underground reserves. And that includes producing upwards of 10 million barrels per day at present, even as the real price of oil has relapsed to 50 year ago levels.

What this also means is that Imperial Washington’s pro-Saudi foreign policy is a vestigial relic of the supreme economic ignorance that Henry Kissinger and his successors at the State Department and in the national security apparatus brought to the table decade after decade.

Had they understood the energy pricing mechanism and the logic of SPRO, the Fifth Fleet would never have been deployed to the Persian Gulf. There also never would have been any Washington intervention in the petty 1990 squabble between Saddam Hussein and the Emir of Kuwait over directional drilling in the Rumaila oilfield that straddled their historically artificial borders.

Nor would there have been any “crusader” boots trampling the allegedly sacred lands of Arabia or subsequent conversion of Bin-Laden’s fanatical Sunni mujahedeen, which the CIA had trained and armed in Afghanistan, to the al-Qaeda terrorists who perpetrated 9/11.

Needless to say, the massive US “shock and awe” invasion thereafter which destroyed the tenuous Sunni-Shiite-Kurd coexistence under the Baathist secularism of Saddam Hussein would not have happened, either. Nor would the neocon war mongers have ever become such a dominant force in Imperial Washington and led it to the supreme insanity of regime change in Libya, Syria, Yemen and beyond.

In short, the massive blowback and episodic eruptions of jihadist terrorism in Europe and even America that plague the world today would not have occurred save for the foolish policy of Fifth Fleet based energy policy.

Still, there is an even more deleterious consequence of the Kissinger Error. Namely, it has allowed the House of Saud, along with Bibi Netanyahu’s political machine, to egregiously mis-define the sectarian and tribal conflicts which rage in today’s middle-east.

The fact is, there is no such thing as generic Islamic terrorism. The overwhelming share of the world’s 1.3 billion or so Sunni Muslims are not remotely interested in Jihaddism.

Likewise, the 200 million adherents of the Shiite Muslim confession are not terrorists in any religious or ideological sense. There are about 60 million Shiite in India and Pakistan and their quarrel, if any, is rooted in antagonisms with Hindu-India, not the West or the US.

Similarly, the 80 million Shiite domiciled in Iran, southern Iraq, southern Lebanon and the Alawite communities of Syria have been host to sporadic terrorist tactics. But these occurred overwhelmingly in response to efforts by outside powers to occupy Shiite communities and lands.

That is certainly the case with the 20-year Israeli occupation of southern Lebanon, which gave rise to Hezbollah defense forces. It is also true of the Shiite uprisings in Baghdad and southern Iraq, which gave rise to the various militias that opposed the US occupation.

Moreover, post-1979 Iran has never invaded anyone, nor have the Shiite communities of northern Yemen, who are now being bombarded by Saudi pilots driving US supplied war planes and drones.

In short, there has never been a Shiite-based ideological or religious attack on the West. The anti-Americanism of the Iranian theocracy is simply a form of crude patriotism that arose out of Washington’s support for the brutal and larcenous regime of the Shah—–and which was reinforced during Iraq’s US aided invasion of Iran during the 1980s.

By contrast, the real jihadi terrorism in the contemporary world arose almost exclusively from the barbaric fundamentalism of the Sunni-Wahhabi branch of Islam, which is home-based in Saudi Arabia.

Yet this benighted form of medieval religious fanaticism survives only because the Saudi regime enforces it by the sword of its legal system; showers its domestic clergy with the bounty of its oil earnings; and exports hundreds of millions to jihadists in Syria, Iraq, Libya, Turkey, Iran, Egypt and numerous other hot spots in the greater middle east.

At the end of the day, the House of Saud is also the ultimate inspiration and financial benefactor of the Islamic State, as well. Had it not provided billions in weapons and aid to the Syrian rebels over the last five years, there would be no civil war in Syria today, nor would ISIS have been able to occupy the dusty, impoverished towns and villages of the Upper Euphrates Valley where it has established its blood-thirsty caliphate.

So this weekend’s execution of a Saudi Shiite cleric who never owned a gun or incited anything other than peaceful protest among the downtrodden Shiite communities of eastern Arabia is truly the final straw. It was a deliberate provocation by a reprehensible regime that has so thoroughly corrupted the War Party that it even managed to have Washington shill for its preposterous appointment to head of the UN Commission on Human Rights!

Quote of the Day: David Stockman: Good on you, Alexis Tsipras

Needless to say, repeated and predictable bailouts create enormous moral hazard and extirpate all remnants of financial discipline in financial markets and legislative chambers alike. Since 2010, the Greeks have done little more than pretend to restructure their state finances and private economy, and the Italians, Portuguese, Spanish and Irish have done virtually nothing at all. The modest uptick in the reported GDP of the latter two hopeless debt serfs are just unsustainable rounding errors—–flattered by the phony speculative boom in their debt securities that was temporarily fueled by Draghi’s money printing ukase that is presently in drastic retreat.

So this Monday morning push has come to shove; Angela Merkel and her posse of politicians and policy apparatchiks were not able to kick the can one more time after all.

Instead, the troika’s authoritarian bailout regime has stimulated political revolt throughout the continent. Tsipras’ defiance is only the leading indicator and initial actualization–the match that is lighting the fire of revolt..

But what it means is that there is now doubt, confusion and fear in the gambling halls. The punters who have grown rich on the one-way trades enabled by the money printing central banks and their fiscal bailout adjutants are being suddenly struck by the realization that the game might not be rigged after all.

So let the price discovery begin. In the days ahead, we will catalogue the desperate efforts of the regime to reassert its authority and control and to stabilize the suddenly turbulent casino.

In riding the central bank bubbles to unconscionable riches the big axes in the casino have falsely claimed to be doing “gods work”.

As they are now being forced to liquidate these inflated assets, they actually are.

Last fall one of the most detestable members of the regime, Jean-Claude Juncker, arrogantly issued the following boast.

“I say to all those who bet against Greece and against Europe: You lost and Greece won. You lost and Europe won.”

This morning that smug proclamation is in complete tatters. Good on you, Alexis Tsipras.

This is from financial analyst and U.S. politician who served as a Republican U.S. Representative from the state of Michigan and as the Director of the Office of Management and Budget under President Ronald Reagan David Stockman on the the heightened risks of Grexit, published at this website: the Contra Corner

It's interesting to see what seems as the unfolding cocktail of significant risks factors: the GREXIT and China's crashing stock markets. 

China's stocks as of yesterday confirmed its entry to the bear zone.  Also yesterday's slump makes it appear that Chinese central bank's recent rate cuts failed to do its supposed wonders. 

Of course, add to this the demand by local authorities of US commonwealth Puerto Rico to restructure public debts because of 'insolvency' (Reuters).

And as for latest call for FINANCIAL INCLUSION, Greece capital controls exposes (for instance bank holiday, limit on ATM withdrawals and the prospective deposit haircuts) why this looks great in theory (used as selling point to the public) but hardly what it seems in practice (because of the real intents of governments--which is to capture the public's resources via government controlled banks).

Causa Proxima: Will US Shale Oil Debt function as the Modern Day Equivalent of Housing Subprime Mortgages?

Every crisis requires a trigger, a causa proxima or events or “incidences which saps the confidence in the system” as historian Charles Kindleberger wrote in his classic book; Manias, panics and Crashes.

Could high yield debt from US Shale industry be the modern day equivalent of the US housing subprime mortgages of 2007-8?

I explored on this last weekend: Yet it’s a wonder how the oil and energy industry (also the material industry) will respond to still collapsing prices or how they will affect economic activities. So far, new oil and energy permits have plummeted 40% (!), and so with Shale permits down 15% for across all major oil formations last month. Shale oil at the Bakken oil field at North Dakota has seen prices even plunge to $49.69 last November 28 (!), according to a Bloomberg report. That’s way (24%) below the $65.63 WTIC oil quoted last Friday. Yet from 2007-2012, about 16% of job growth came from the oil gas industry which outperformed the other sectors, according to the EIA. If the oil industry retrenches this will impact jobs as well as other sectors attached to them.

Analyst David Stockman splendidly expounds on this (excerpted from Mr. Stockman’s Contra Corner)

The US housing mania… [bold original, italics mine]

At bottom, the leading edge of the housing mania was the implicit price of land. That’s what always get bid up to irrational heights when the central bank fiddles with free market pricing of capital and debt.

Even as land prices were being driven to irrational heights you didn’t need to spend night and day in arcane data dumps to document it. All you had to do was look at the stock price of the homebuilders.

As I documented in The Great Deformation, the combined market cap of the big six national homebuilders including DH Horton, Lennar, Hovnanian, Pulte, Toll Brothers and KBH Homes soared from $6.5 billion in 2000 to $65 billion by the 2005-2006 peak. Yet you only needed peruse the financial statements and disclosures of any of these high-flyers and one thing was screamingly evident. They weren’t homebuilders at all; they were land banks that did not own a single hammer or saw or employ a single carpenter or electrician.

Stated differently, the homebuilders’ soaring profits were nothing more than speculative gain on their land banks—gains driven by the cheap mortgage mania that had been unleashed by Greenspan when he slashed the so-called policy rate from 6% to 1% in hardly 30 months of foot-to-the-floor monetary acceleration between 2001 and 2004.

Indeed, that cluelessness amounted to willful negligence. DH Horton was the monster of the homebuilder midway—–a giant bucket shop that never built a single home, but did accumulate land and sell finished turnkey units by the tens of thousands each period. Did it not therefore occur to the monetary politburo that DH Horton had possibly not really generated a 11X gain in sustainable economic profits in hardly 5 years?

The Shale oil mania…

So now we come to the current screaming evidence of bubble finance—–the fact that upwards of $500 billion of junk bonds ($200B) and leveraged loans ($300 B) have surged into the US energy sector over the past decades—–and much of it into the shale oil and gas patch.

Folks, you don’t have to know whether the breakeven for wells drilled in the Eagleville Condy portion of the great Eagle Ford shale play is $80.28 per barrel, as one recent analysis documents, or $55 if you don’t count all the so-called “sunk costs” such as acreage leases and oilfield infrastructure. The point is, an honest free market would have never delivered up even $50 billion of leveraged capital—let alone $500 billion— at less than 400bps over risk-free treasuries to wildly speculative ventures like shale oil extraction. 

The fact is, few North American shale oil fields make money below $55/barrel WTI on a full cycle basis (lease cost, taxes, overhead, transport, lifting cost etc.). As shown below, that actually amounts to up to $10 less on a netback to the wellhead basis—–the calculation that drives return on drillings costs.

In short, as the oil market price takes its next leg down into the $50s/bbl. bracket, much of the  fracking patch will become a losing proposition. Moreover, given the faltering state of the global economy and the huge overhang of excess supply, it is likely that the current crude oil crash will be more like 1986, which was long-lasting, than 2008-09, which was artificially resuscitated by the raging money printers at the world’s central banks.

So why is there a shale patch depression in store? Because there is literally a no more toxic combination than the high fixed costs of fracked oil wells, which produce 90% of their lifetime output in less than two years, and the massive range of short-run uncertainty that applies to the selling price of the world’s most important commodity.

Surely, it doesn’t need restating, but here is the price path for crude oil over the past 100 months. That is to say, it went from $40 per barrel to $150, back to $40, up to $115 and now back to barely $60 in what is an exceedingly short time horizon.

Obviously, what we have here is another massive deformation of capital markets and the related flow of economic activity. The so-called “shale miracle” was not made in Houston with some technology help from Silicon Valley. The technology of horizontal drilling and well fracking with chemicals has been around for decades. What changed were the economics, and those  were made in the Eccles Building with some help from Wall Street.

As to the latter, was it not made clear by Wall Street’s mortgage CDO meth labs last time that when the central bank engages in deep and sustained financial repression that it produces a stampede for “yield” which is not warranted by any sensible relationship between risk and return? It should not have been even possible to sell a shale junk bond or CLO that was based on assets with an effective two year life, a revenue stream subject to wild commodity price swings and one thing even more unaccountable. Namely, that the enterprise viability of virtually every shale junk issuer has always been dependent upon an endless rise in the junk bond issuance cycle.

Stated differently, oil and gas shale E&P operators are drastic capital consumption machines. Due to the lightening fast decline rates of shale wells, firms must access more and more capital just to run in place. If they don’t flush money down the well bore, they die along with all the “sunk” capital that was previously put in place.

In the case of shale oil, for example, it is estimated that were drilling to stop for just one month, production in the Eagle Ford, Bakken and one or two other major provinces would drop by 250,000 barrels per day. After four months, the drop would be 1 million bbl./day and after a one-year, nearly half the current four million barrels of shale oil production would disappear.

That’s why all of a sudden there is so much strum and drang about “breakeven” pricing. Obviously, new drilling is not going to go to zero under any imaginable price scenario, but for all practical purposes the shale revolution could shut down just as fast as did the housing boom in 2006-2007. In effect, the shale financing boom presumed that both the junk bond cycle and the oil price cycle had been eliminated.

Needless to say, they have not. So the impending “correction” may well be as swift and violent as was the housing bust.

The coming shale oil bust…

Indeed, in the short-run the shale crash could be worse. The fantastic, debt-fueled drilling spree of the past 5-years is now sunk and will produce rising levels of production for a few quarters until rig activity is sharply curtailed and some of the better capitalized operators stop drilling in order to avoid lease expiration writeoffs.

So as the WTI market price is driven toward $50/ barrel, recall that the netback to the producer is significantly less. In the case of the biggest shale oil province, the Bakken, the netback to the well-head is upwards of $11 below WTI.  Accordingly, cash flow will plunge and that source of drilling funds will evaporate with it.

But the big down-leg is coming in the junk market. This time around, Wall Street has been even more reckless in its underwriting than it was with toxic securitized mortgages. Barely six months ago it sold $900 million of junk bonds for CCC rated Rice Energy.  The latter operates in the Marcellus gas shale trend but that makes the story even more preposterous.

These bonds were sold at barely 400 bp over the 10-years treasury, and the issue was 4X oversubscribed. That is, there was upwards of $4 billion of demand for the bottom of the barrel securities of a shale speculator that had generated the following results during its 15 quarters as a public filer with the SEC. To wit, it had produced $100 million of cumulative operating cash flow versus $1.2 billion of CapEx. In short, if the junk bond market dies, Rice Energy is a goner soon thereafter.

The transmission mechanism: From debt to the economy…

As the global boom cools, oil demand withers, the junk market craters, and the shale patch tumbles into depression, someone might actually note the chart below.

Its been another central bank parlor trick. The job count in the 45 non-shale states last Friday was 400,000 lower than it was at the end of 2007. That’s right, not one new job—even part-time or in the HES complex—- for the last seven years.

All the new jobs have been in the 5 shale states. That is, they were manufactured by the Fed’s tidal wave of cheap capital and the central bank fueled global recovery which created the illusion that $100 oil was here to stay.

But it isn’t and neither is the shale boom, the shale jobs or the shale investment spike, which counts for a good share of overall CapEx growth since the crisis.

Yes, indeed. The monetary politburo did it again.

Doubling Down on Hope Based Policies: EU Plans to Turn $26 Billion Into $390 Billion

The other day I wrote:

Finally, observe that the Eurozone’s current ferocious stock market rally comes in the face of a frantic doubling down on policies by the ECB—two interest rate cuts, negative deposit rates, TLRO, QE based on covered bonds and asset bonds with promises to include corporate bonds and sovereign debt.

While stock markets have been on a sizzling winning streak, EU politicians-bureaucrats have been working round the clock to “jumpstart” the region's faltering economic growth by throwing “free money” and by promising to dispatch even more money at the privileged segments of the economy.  

Funny but aren’t stocks supposed to function as discounting mechanism on future income streams? Apparently this doesn’t seem to be the case anymore, as bad fundamentals or news has now become a fodder for manic buying.  This means stock markets, like Pavlov’s dogs, have become “conditioned” or programmed to exercise reflex buying in response to HOPE from political canard. Stock markets have become propaganda tools for the government.

And yet again we see dangling of even more HOPE based policies in the face of economic deterioration.

From the Bloomberg:

The European Union is planning a 21 billion-euro ($26 billion) fund to share the risks of new projects with private investors, two EU officials said.

The new entity is designed to have an impact of about 15 times its size, making it the anchor of the EU’s 300 billion-euro investment program, according to the officials, who asked not to be named because the plans aren’t final. European Commission President Jean-Claude Juncker is due to announce the three-year initiative this week.

The commission will pledge as much as 16 billion euros in guarantees for the vehicle, which will also include 5 billion euros from the European Investment Bank, the officials said. Loans, lending guarantees and stakes in equity and debt will be part of its toolbox, with the goal to jumpstart private risk-taking so that stalled projects can get off the ground.

Juncker’s investment plan aims to combine EU resources and regulatory changes “to crowd in more private investment in order to make real investments a reality,” EU Vice President Jyrki Katainen said on Nov. 14 in Bratislava. The plan is one element of the EU’s economic strategy and “not a magic wand with which we will be able to miraculously invest ourselves out of a difficult economic climate,” he said.

Europe is struggling to spur economic growth as it emerges only slowly from waves of crisis. The 18-nation euro area is forecast to see growth of just 0.8 percent this year, according to EU forecasts, while the region’s unemployment rate of 11.5 percent masks rates of about 25 percent in Greece and in Spain.

The question is where will the money come from? Who will finance such grandiose plans? And by how?

Analyst David Stockman aptly explains why such political turning lead into gold is just another debt financed flimflam or a “Keynesian paint-by-the numbers” “shell game” (bold mine) [bold mine, italic original]

Are they kidding? Thanks to the Draghi Put (“whatever it takes”) and the hedge fund gamblers who have gone all-in front running the promised ECB bond-buying campaign, this very morning the corrupt and bankrupt government of Spain can borrow all the money it could possibly need for infrastructure at hardly 2.0% for ten years. And any healthy German exporter or machinery maker can borrow at a small spread off the German 10-year bond which is trading at 73 basis points. For all intents and purposes, sovereigns of any stripe and reasonably healthy businesses in most parts of Europe can access capital at central bank repressed rates which are tantamount to free money.

And, yet, these fools want to bring coals to Newcastle. Well, its actually worse than that because not only does Newcastle not need any coal, but the impending “Juncker Plan” doesn’t include any new coal, anyway!

In fact, not a penny of the $400 billion is new EU cash: Its all about leverage and sleight-of-hand. Thus, having apparently failed to notice that most of the sovereigns which comprise the EU are already bankrupt, the Brussels bureaucrats plan to conjure this new “stimulus” money at a 15:1 leverage ratio. That is to say, the actual “capital” under-pinning approximately $375 billion in new EU borrowings amounts to only $26 billion.

But wait. The EU is self-evidently broke—that’s why its dunning Mr. Cameron and even its Greek supplicants for back taxes—so where is it going to get the $26 billion of “capital”? Needless to say, an empty treasury has never stopped Keynesian bureaucrats from dispensing the magic elixir of “stimulus” money.

Thus, it turns out that $20 billion of the Juncker Plan “capital” will consist of member state “guarantees”, not cash in hand. And the remaining $6 billion will consist of already existing European Investment Bank (EIB) funds—–money that is available only because the EIB’s  balance sheet is also “guaranteed” by the same bankrupt member-states which don’t have another nickel to send to Brussels in the first place.

This is called a circle jerk in less polite company. And a pointless one at that.

According to the attached Bloomberg story, the $400 billion pot of stimulus will be used for “seeding investment in infrastructure”  and “to share the risks of new projects with private investors”.

Let’s see.  Can even the duplicitous apparatchiks in Brussels believe that the continent is parched for public infrastructure and that this explains Europe’s stagnation? After all, the peripheral countries are not only buried in debt, but also have been inundated over the past two decades with every manner of highways, public transit and other public facilities that EU funds and their own bloated government budgets could buy.

Spain has world class roads going everywhere on the Peninsula, for example, but its problem is want of loaded trucks to utilize them. The same is true in Italy, which has splendid roads, rails, airports and seaports from the Alps to the tip of the boot, but a private economy that is suffocating in taxes, regulation and corruption. Nor can it be gainsaid that France’s high-speed rail system, Germany’s autobahns or Holland’s canals and dykes have been neglected.

Indeed, to a substantial degree Europe’s sovereign debt crisis is owing to the fact that under the tutelage of its Keynesian policy apparatus, it has been absolutely profligate in building infrastructure owned by the public or subsidized in behalf of crony capitalist “partners”. So why at this late stage of the game does Brussels feel compelled to launch a giant financial shell game designed to generate even more unaffordable infrastructure?

The same question holds for private investment. The very idea that the European economies are “under-invested” in private production capacity is truly laughable. What actually occurred after the mid-1990s, as the single market and single currency went into full swing, was a tsunami of private borrowing and investment. 

Between 1996 and 2011, for example, euro bank loans to the private sector nearly tripled, rising at a 7.0% compound rate and leaping from 55% of GDP to 95% during the period. Nor does that include the additional trillions which were raised in the euro and dollar bond markets by business’ located in the EC.

The plateauing since then is self-evidently not owing to the scarcity of capital or borrowers being rationed out of the market by punitively high interest rates. No, the problem is that there are few credit worthy borrowers left who actually need funds for projects that will generate profitable returns.

In short, the “Juncker Plan” is just another installment of the state-driven financialization that has been 180 degrees off-target, and has actually compounded Europe’s economic malaise. The real problem is statist economics—-that is, welfare state subsidies for inefficiency and non-production, dirigisme and financialization.

Bottom line: Government debt financed "investment" guarantees are merely redistribution of resources for the benefit of political authorities and their cronies at the cost of the taxpayer. It is growth for the political institutions and their cronies and hardly for the economy.

US Federal Reserve’s Bailout of Eurozone Banks via the OIER

Many must be wondering why the Eurozone has signified a fantastic depiction of divergence, specifically booming financial assets even as the economy flounders. 

The Eurozone’s oxymoronic conditions even presents a financial-economic dilemma to analyst such as Stratfor’s George Friedman who has been puzzled by the absence of a banking crisis in the face of economic stagnation. Mr Friedman writes: How could it have such high unemployment rates and not suffer a consumer debt crisis? The climbing rate of unemployment should be hitting banks with defaulted mortgages and unpaid credit card debt. Given the fragility of the European financial system in the past, it seems reasonable that there would be heavy pressure caused by consumer debt.

One possible answer to this is the stealth transfusion scheme being channeled through the US Fed’s Interest on Excess Reserves (IOER) to EU banks and financial institutions

Financial analyst David Stockman at his website calls this a “profit stripping” operations

This profit stripping operation is simple. Foreign banks on Wall Street borrow from money market funds at an infinitesimal 3-6 basis points and then shuffle the loot down to 33 Liberty Street where the New York Fed pays them 25 basis points on the same funds. This gift is known as the IEOR payment for excess reserves. It is a short-term trade which is rolled-over day after day and is absolutely risk free. Both ends of the arb represent money prices that are administered by the Fed, not set by price discovery in the market.

Indeed, as part of its “open mouth” communications policy, the Fed promises to give considerable advance warning as to when the yield on IOER and also overnight money market borrowings is going to change. Accordingly, any foreign bank caught napping long enough to run afoul of a well-telegraphed Fed change in the arb would likely be operating on pre-telegraph technology. That is to say, this Fed sponsored arb is tantamount to owning a printing press. All it takes is a banking license from the state of New York or other US jurisdiction.

And, yes, the parent bank owning a license to print profits in this manner should be domiciled outside the USA. That’s because foreign banks are generally not subject to FDIC levies designed to fund Uncle Sam’s deposit insurance programs—-fees which would bite into the risk free arb described above. By contrast, domestic banks which pay the FDIC fees are largely not involved in this particular free money gambit.

Read the rest here

So the windfall from the US Federal Reserve subsidies may also have been diverted to the Eurozone’s financial markets, where asset inflation helps support the highly levered balance sheets of Euro's banking and financial institutions.

So even if there has been no QE from the ECB, liquidity from the IOER has been spilling over into the Eurozone in order to keep the musical chairs going. Poor American taxpayers.

Iraq War: Washington’s Confused Policy

Analyst David Stockman explains of how US foreign imperial policy in Iraq has been one colossal jumbled mess. The US government has not only been bombing their own weapons, they are bombing jihadist troops which they previously trained and armed at the expense of the opposing sect which the US government has previously fought against but ironically are now protecting. 

As a side note, the US bombing of own weapons means more business for the the military industrial complex.

Back to Mr. Stockman 

But then again, ISIS got provisioned by none other than the Iraqi Army. The latter not only dropped its uniforms for civvies during the battle for Mosul, but also left behind armored Humvees, heavy artillery, night vision systems, state of the art firearms and much else of like and similar nature. Nor was this the first time that the Iraqi Army disarmed itself unilaterally. A while back they also surrendered their uniforms and guns when another American President—George W. Bush—-bombed them.

That was called “shock and awe”. Afterwards, the remnants of the Iraqi army must have found it indeed shocking and awesome that Washington immediately pivoted— after hanging the country’s leader—and spent $25 billion re-equipping and training them in brand new uniforms and with far better weapons.

Fast-forward to 2014. The hasty hand-off of these American weapons to ISIS during its June blitzkrieg was easy enough to explain. On their way out of Baghdad, the Washington “nation builders” had equipped and trained a native army so that it could defend a “nation” which did not exist. What passed for “Iraq” was some very long, straight lines drawn on a map exactly 98 years ago by the British and French foreign offices as they carved up their winnings from the Ottoman Empire. What passed for governance within these so-called Sykes-Picot boundaries was a series of kings, generals and dictators—- culminating in Saddam Hussein—-who ruled from the barrel of whatever gun had been supplied by the highest bidder among the Great Powers.

Thus, Brezhnev gave the Iraqi generals weapons in the 1970s. In the 1980s, President Reagan joined in, green lighting exports of the components and precursors for chemical weapons and providing Saddam with the satellite-based intelligence to practice using them on his “enemies” ( i.e. teenage boys in the Iranian Army) before he used them on his own people (i.e. the Kurds and the Shiite).

Not surprisingly, after the US had “liberated” Iraq from 90 years of dictatorship—democracy took hold with lightening speed subsequent to the 2011 departure of American GIs. The “rule of the majority”—that is, the Shiite majority—-soon ripped through most governmental institutions, but especially the military. In short order the “Iraqi” army became a Shiite army. Hence the precipitous surrender and flight from the battles of Mosul and other northern cities. That was Sunni and Kurd territory—–not a place where Shiite soldiers wanted to be shot dead or caught alive.

The more interesting mystery is how the ISIS fighters learned how to use Uncle Sam’s advanced weaponry so quickly. Perhaps the CIA knows. It did train several thousand anti-Assad fighters in its secret camps in Jordan in preparation for Washington’s “regime change” campaign in Syria. Undoubtedly, in the fog of war—-especially the sectarian wars in the Islamic heartland that have been raging for 13 centuries—it is difficult to have friend and foe vetted effectively.

Please read the rest here

Quote of the Day: The Chinese miracle is officially labeled a “big burden”

But the massive construction site within China’s borders defied the laws of economics and plain old rationality.  It is literally impossible for an economy to record double-digit GDP growth year-upon-year in which 50% of the gain is due to “fixed asset” investment in public infrastructure and private real estate and industrial capacity. The reason is that no society could sustain the level of consumption forbearance and mass austerity that would be required to fund such massive investment out of honest savings.

Instead, the party overlords got lured into a dangerous economic Ponzi. They sent more and more freshly minted credit—-20-35% more in some years—down the state controlled banking system where it was parceled out to state controlled enterprises, local party rulers and independent entrepreneurs.

These recipients turned it into cement, rebar, fabrications, office towers, coal mines, power plants and port facilities—-without regard for sustainable rates of return. And when returns disappointed or failed to materialize at all—such as in the empty new cities, malls and luxury apartment buildings— more credit was advanced to keep these “investments” solvent. That is, new debt was issued to pay interest on the old.

So parallel to the downward cascade of credit was an equal and opposite upward back haul of fixed asset GDP.  In short, Beijing could hit its national GDP target nearly to the decimal point year after year because its was printing GDP through the machinery of a credit driven command-and-control economy, not presiding over anything that resembles a sustainable capitalist economy.

In a sense, after the disastrous failure of Maoism, the party dictatorship has maintained its lease on life only be synching-up with the global central banking swindle that has been underway for four decades now—but especially since 1994 when Greenspan panicked after that year’s bond market route. 

The giant issue facing China, however, is that it is at the end of the money-printing chorus line. It has now absorbed so much excess debt from the West and thereby inflated its credit Ponzi to such an insensible extent, that even its current rulers can see the hand-writing  on the wall.

In a recent speech, in fact, Premier Li let the cat out of the bag, calling China’s massive hoard of foreign exchange for what it is—-a vendor loan to foreign customers who buy but do not sell; who consume but do not produce. Suddenly, what has been ballyhooed for two decades as evidence of the Chinese miracle is officially labeled a “big burden”.

Actually, it has been a burden all along. The comrades have presided over the erection of a Ponzi of such immense and convoluted magnitude that they have no hope of unwinding it without a thunderous “hard landing”

(italics original, bold mine)

This is from David Stockman at his Contra Corner website in reaction to Premier Li Keqiang’s recent speech at Kenya where the latter said “Frankly speaking, foreign exchange reserves have become a big burden for us, because such reserves translate into the base money, which could affect inflation.”

As I have been saying here and here, in contrast to the mainstream faith on forex reserves which they see as a "talisman" against the risks of a crisis, forex reserves are NOT free passes to bubbles. Even Premier Li understands this. Instead they are manifestations of massive imbalances or bubbles.

Quote of the Day: Tobin’s Bathtub Economics

when it comes to interest rates, Tobin did not teach economics; he lectured about monetary plumbing. Under bathtub economics, the Federal funds rate is a dumb plumbing control—-the pavlovian lever you pull when you want more aggregate demand. But here’s a news flash.  Its actually the smartest thing in the financial firmament—that is, its the price of hot money. 

Indeed, its the most important single price in all of capitalism because it regulates the protean and  combustible force of speculation—that is, the deeply embedded human instinct to chase something for nothing if given half the chance. Accordingly, the very last lever the Fed should toy with is the price of money;  and the very last economic precinct it should try to “stimulate” is the money markets of Wall Street. That’s where the demons and furies of short-run, lightening fast financial speculation lurk, work and mount their momentum trading campaigns—ripping, dipping and re-ripping as they go.

Stated differently, the Federal funds rate is the price of trading risk—the regulator that drives the carry trades. It is the mechanism by which credit is expanded in the Wall Street gambling channel through the process of re-hypothecation.  When the funds rate is ultra low for ultra long it massively expands the carry trades. That is, any financial asset with a yield or short-run appreciation potential gets leveraged one way or another through repo, options or structured trades—- because re-hypothecation produces a large profit spread from a tiny sliver of equity.

Needless to say, the massive carry trades minted in the Fed’s Wall Street gambling channel are a deep and dangerous deformation of capitalism. In money markets that are not pegged by the central banking branch of the state, outbreaks of fevered speculation drive short-term market rates skyward in order to induce more true savings from the market or choke off demand for funds. The money market rate is therefore the economic cop which keeps the casino in check.

Accordingly, the carry trade profit spread can go from positive to negative quickly and drastically, meaning that there are always two-way markets in the underlying financial assets. There is no shooting fish in a barrel full of free money. There are no hedge fund hotels where carry-traders can drive in-the-money strike prices higher and higher because premiums are dirt cheap.

Needless to say, the Fed’s 30-year encampment in the heart of the money markets has destroyed them; it has turned price discovery into the primitive, computerized act of red-green-and-orange-lining the Fed’s latest meeting statement to see which word, tense or adjective has changed.

At the end of the day, the Fed has been implanted in the money markets for so long that it does not even recognize it own handiwork. The speculative disorders and financial bubbles which are the inherent results of its interest rate pegging are seen as exogenous forces which emanate from almost any place on the planet except the Eccles Building. And even if some ultimate responsibility is acknowledged as to errors inside the great house of monetary central planning it’s always put off to failures on its regulatory and supervisory desks, and always after the fact.

(italics original, bold mine)

This is from David Stockman’s appraisal of Fed Chair Janet Yellen’s latest speech at his Contra Corner.

Oh mind you, this observation applies not only to the US FED but also to contemporary central banking, including the Philippine BSP, where the latter believes blowing bubbles uplifts ‘aggregate demand’ with a cavalcade of 9 months 30+% money supply growth!

Infrastructure Spending Growth Story Myth: US Edition

During the weekend I wrote about how—the much touted growth story from government public work/infrastructure spending—has been an age old myth. I gave recent examples of China and Japan

Here is the US showcase. Contra Corner’s David Stockman exposes on the the political media establishment’s  spin of the so-called ‘infrastructure deficiency’ story to justify Keynesian fiscal interventions: (bold mine, italics original)

Whenever the beltway bandits run low on excuses to run-up the national debt they trot out florid tales of crumbling infrastructure—that is, dilapidated roads, collapsing bridges, failing water and sewer systems, inadequate rail and public transit and the rest. This is variously alleged to represent a national disgrace, an impediment to economic growth and a sensible opportunity for fiscal “stimulus”.

But most especially it presents a  swell opportunity for Washington to create millions of “jobs”. And, according to the Obama Administration’s latest incarnation of this age old canard, it can be done in a fiscally responsible manner through the issuance of “green ink” bonds by a national infrastructure bank, not “red ink” bonds by the US Treasury. The implication, of course, is that borrowings incurred to repair the nation’s allegedly “collapsing” infrastructure would be a form of “self-liquidating” debt. That is, these “infrastructure” projects would eventually pay for themselves in the form of enhanced national economic growth and efficiency.

Except that the evidence for dilapidated infrastructure is just bogus beltway propaganda cynically peddled by the construction and builder lobbies. Moreover, the infrastructure that actually does qualify for self-liquidating investment is overwhelmingly local in nature—-urban highways, metropolitan water and sewer systems, airports.These should be funded by users fees and levies on local taxpayers—not financed with Washington issued bonds and pork-barreled through its wasteful labyrinth of earmarks and plunder.

Nowhere is the stark distinction between the crumbling infrastructure myth and the factual reality more evident than in the case of the so-called deficient and obsolete bridges. To hear the K-Street lobbies tell it—-motorist all across American are at risk for plunging into the drink at any time owing to defective bridges…

The above account dovetails with the Public Choice theory which says that the major beneficiaries are largely the politicians and the invisible industry lobby groups.

Yet a little history on the politics of US infrastructure spending…

By the time a pork-laden highway bill was rammed through a lame duck session of Congress in December 1982, Reagan too had bought on to the crumbling infrastructure gambit. Explaining why he signed the bill, the scourge of Big Government noted, “We have 23,000 bridges in need of replacement or rehabilitation; 40 percent of our bridges are over 40 years old.”

Still, this massive infrastructure spending bill that busted a budget already bleeding $200 billion of red ink was not to be confused with a capitulation to Keynesian fiscal stimulus. Instead, as President Reagan explained to the press when asked whether it was a tax bill, jobs bill or anti-recession stimulus, it was just an exercise in prudent governance: “There will be some employment with it, but its not a jobs bill as such. It is a necessity…..(based) on the user fee principle–those who benefit from a use should share its cost”.

Again, there is no free lunch, as the great French economist Bastiat noted, resources from all government spending will have to be drawn from somewhere. 

Last weekend I wrote this

A bridge that will be built anywhere within the national geographical borders will likely benefit mostly residents of the area. Even for people living within the vicinity of the project, the benefits will not be the same. This means that some residents will benefit more than the others. But the costs are shared by people who even won’t be using the bridge. And because such political projects are not determined by profits and losses, but by political choice/s, we will never know if these projects ever deliver their alleged utility. Thus the benefits are assumed as true, but the costs are disregarded. Yet again, costs are not benefits.

How this has been played out in the US. Again Mr. Stockman:

It seems that after 32 years and tens of billions of Federal funding that the nations bridges are still crumbling and in grave disrepair. In fact, according to DOT and the industry lobbies there are 63,000 bridges across the nation that are “structurally deficient”, suggesting that millions of motorists are at risk for a perilous dive into the drink.

But here’s the thing. Roughly one-third or 20,000 of these purportedly hazardous bridges are located in six rural states in America’s mid-section: Iowa, Oklahoma, Missouri, Kansas, Nebraska and South Dakota. The fact that these states account for only 5.9% of the nation’s population seems more than a little incongruous but that isn’t even half the puzzle. It seems that these thinly populated country provinces have a grand total of 118,000 bridges. That is, one bridge for every 160 citizens—men, women and children included.

And the biggest bridge state among them is, well, yes, Iowa. The state has 3 million souls and nearly 25,000 bridges–one for every 125 people. So suddenly the picture is crystal clear. These are not the kind of bridges that thousands of cars and heavy duty trucks pass over each day. No, they are mainly the kind Clint Eastwood needed a local farm-wife to locate—so he could take pictures for a National Geographic spread on covered bridges.

Stated differently, the overwhelming bulk of the 600,000 so-called “bridges” in America are so little used that the are more often crossed by dogs, cows, cats and tractors than they are by passenger motorists.  They are essentially no different than local playgrounds and municipal parks. They have nothing to do with interstate commerce, GDP growth or national public infrastructure.

If they are structurally “deficient” as measured by engineering standards that is not exactly a mystery to the host village, township and county governments which choose not to upgrade them. So if Iowa is content to live with 5,000 bridges—one in five of its 25,000 bridges— that are deemed structurally deficient by DOT, why is this a national crisis? Self-evidently, the electorate and officialdom of Iowa do not consider these bridges to be a public safety hazard or something would have been done long ago.

The evidence for that is in another startling “fun fact” about the nation’s bridges.  Compared to the 19,000 so-called “structurally deficient” bridges in the six rural states reviewed here, there are also 19,000 such deficient bridges in another group of 35 states–including Texas, Maryland, Massachusetts,  Virginia, Washington, Oregon, Michigan, Arizona, Colorado, Florida, New Jersey and Wisconsin, among others. But these states have a combined population of 175 million not 19 million as in the six rural states; and more than 600 citizens per bridge, not 125 as in Iowa.

Moreover, only 7% of the bridges in these 35 states are considered to be structurally deficient rather than 21% as in Iowa. So the long and short of it is self-evident: Iowa still has a lot of one-horse bridges and Massachusetts— with 1,300 citizens per “bridge”— does not. None of this is remotely relevant to a national infrastructure crisis today—any more than it was in 1982 when even Ronald Reagan fell for “23,000 bridges in need of replacement or rehabilitation”.

Yes, the few thousands of bridges actually used heavily in commerce and passenger transportation in American do fall into disrepair and need  periodic reinvestment. But the proof that even this is an overwhelmingly state and local problem is evident in another list maintained by the DOT.

That list would be a rank ordering called “The Most Travelled Structurally Deficient Bridges, 2013″. These are the opposite of the covered bridges of Madison County, but even here there is a  cautionary tale. It seems that of the 100 most heavily traveled bridges in the US by rank order, and which are in need of serious repair, 80% of them are in California!

Moreover, they are overwhelmingly state highway and municipal road and street bridges located in Los Angeles, Orange County and the Inland Empire. Stated differently, Governor Moonbeam has not miraculously solved California endemic fiscal crisis; he’s just neglected the local infrastructure. There is no obvious reasons why taxpayers in Indiana or North Carolina needed to be fixing California’s bridges— so that it can continue to finance its outrageously costly public employee pension system.

And so it goes with the rest of the so-called infrastructure slate. There is almost nothing there that is truly national in scope and little that is in a state of crumbling and crisis.

Pls read the rest here 

In the world of politics, nearly every social ill have been portrayed as a one-size-fits-all phenomenon. Yet the infrastructure story is a wonderful example of the short cut solution of “throwing money to the problem” embraced by the establishment.

But drilling down into the details exposes much of the establishment’s malarkey.

Next, the above is lucid example of what Public Choice theory call as “concentrated benefits and diffused costs”. Mr. Stockman nails it with “There is no obvious reasons why taxpayers in Indiana or North Carolina needed to be fixing California’s bridges”

Oh, using Federal Highway Administration (FHWA) own data, Cato’s Chris Edwards shows us why the bridge story has largely been a spin

The only growth story that can be deduced from the above is that money and resources from these projects line up into the pockets of politicians and to their cronies. That's selective growth and hardly an economic or system wide growth. Of course, these contravenes or belies the establishment's misinformation which have been meant to brainwash the unsuspecting and a public largely ignorant of economics. Most of government spending comes at comes at the cost of society. 

Yet costs are not benefits.

David Stockman: Financialization is a Product of Monetary Central Planning

I have written a lot about how the evolution towards “financialization”—where the finance industry has practically grown in such a huge size to eclipse traditional economic sectors as the industry and agriculture—has been due to the US dollar standard and how this has reconfigured today’s global financial and economic structure. As examples see here, here here and here. 

I have also noted that financialization has been an unintended consequence from Triffin Dilemma also brought about by the US dollar standard. 

Former politician and current iconoclast David Stockman eloquently explains how the tampering of the incumbent monetary system, or specifically the conversion from Bretton Woods 'fixed exchange standard' to the US dollar standard operating mostly on ‘floating exchange rate’ has sired “financialization” that has benefited mostly Wall Street.(from David Stockman’s Contra Corner) [bold mine, italics original]

Under the fixed exchange rate regime of Bretton Woods—ironically, designed mostly by J.M. Keynes himself with help from Comrade Harry Dexter White—there was no $4 trillion daily currency futures and options market; no interest rate swap monster with $500 trillion outstanding and counting; no gamblers den called the SPX futures pit and all its variants, imitators, derivatives and mutations; no ETF casino for the plodders or multi-trillion market in “bespoke” (OTC) derivatives for the fast money insiders. Indeed, prior to Friedman’s victory for floating central bank money at Camp David in August 1971 there were not even any cash settled equity options at all.

The world of fixed exchange rates between national monies ultimately anchored by the solemn obligation of the US government to redeem dollars for gold at $35 per ounce was happily Bloomberg-free for reasons that are obvious—albeit long forgotten. Importers and exporters did not need currency hedges because the exchange rates never changed. Interest rate swaps did not exist because the Fed did not micro-manage the yield curve. Consequently, there were no central bank generated inefficiencies and anomalies for dealers to arbitrage. Stated differently, interest rate swaps are “sold” not bought, and no dealers were selling.

There were also natural two-way markets in equities and bonds because the (peacetime) Fed did not peg money market rates or interpose puts, props and bailouts under the price of capital securities. This means that returns to carry trades and high-churn speculation were vastly lower than under the current regime of monetary central planning. Financial gamblers could not buy cheap S&P puts to hedge long positions in mo-mo trades, for example, meaning that free market profits from speculative trading (i.e. hedge funds) would have been meager. Indeed, the profit from “trading the dips” is a gift of the Fed because the underlying chart pattern—mild periodic undulations rising from the lower left to the upper right–is an artifice of central bank bubble finance.

And, in fact, so are all the other distincitive features of the modern equity gambling halls—index baskets, cash-settled options, ETFs, OTCs, HFTs. None of these arose from the free market; they were enabled by central bank promotion of one-way markets—that is, the Greenspan/Bernanke/Yellen “put”. The latter, in turn, is a product of the hoary doctrine called “wealth effects” which would have been laughed out of court by officials like William McChesney Martin who operated in the old world of sound money.

In short, Wall Street’s triumphalist doctrine—claiming that massive financialization of the economy is a product of market innovation and technological advance—is dead wrong. We need “bloombergs” not owing to the good fortune of high speed computers and Blythe Master’s knack for financial engineering; we are stuck with them owing to the bad fortune that Nixon and then the rest of the world adopted Milton Friedman’s flawed recipe for monetary central planning.

In short, the US dollar standard has spawned one colossal global bubble finance.

I recommend that the article be read in the entirety: via the link here

 

Another beneficiary of the financialization, of course, has been the government. Such has been accommodated through exploding global debt markets as shown in the chart above. 

And as pointed out earlier, 

"the real reason why governments promote the quasi permanent inflationary boom is to have access to money (via credit markets and taxes) to support their pet projects. And proof of this is that global debt, according to the Bank of International Settlements have ballooned to $100 trillion or a $30 trillion or a 42% increase from 2007 to 2013 due mostly to government spending. Such colossal diversion of resources is why the world is now faced with a clear and present danger of a Black Swan economic and financial phenomenon." 

In other words, financialization functions as a key instrument to rechannel or divert economic resources from society to political agents and their cronies backed by guarantees from central banks. And bubble blowing is just one of the major consequences. 

Yet what is unsustainable will eventually stop.