Risk ON Risk OFF is Synonym of The Boom Bust Cycle

Prices are relative: high prices may go higher, while low prices may go lower.

The accretion of price actions is what constitutes a trend. Trends can be seen in a time variant lens: intraday, day, weekly, monthly, yearly or decades.

A bullmarket is when the dominant or major trend is up, while the opposite, a bearmarket is when the major trend is down. A market in consolidation means neither the bulls nor the bears get the dominance.

Yet price trends can be seen in many ways depending on reference points. Having said so, people can make biased and deceptive claims by the manipulating the frame of the trend’s reference points to uphold their perspective.

Meanwhile inflection points extrapolate to a reversal of trends which may allude to major or minor trends.

The actions over the past two weeks may yet be seen as normal correction. That is what I hope it is. But I can’t vouch for this.

We Have Met The Enemy And He Is Us

Yet relying on hope can be a very dangerous proposition. As a popular Wall Street maxim goes, bear markets descends on a ladder of hope. While I am not saying we are in a bear market, it pays to understand that quintessentially “hope” represents the basic shortcoming of vulnerable market participants.

Managing emotional intelligence or having a street smart-commonsensical approach, or prudence is a better a part of valor is my preferred option in dealing with today’s torturous bubble plagued markets[1]. There are times that require valiance, however, I don’t see this as applicable today yet.

As an aside, in testy times as these, market participants should learn how to control their emotions or temperaments so as to prevent blaming somebody else for one’s mistakes, and learn how to take responsibility for their own actions. Self-discipline should be the elementary trait for any investors[2].

Regrets should be set aside for real actions. This means that we can opt to buy, sell or hold, depending on our risk tolerance, time orientation and perception of the conditions of the markets. People forget that holding is in itself an action, because this represents a choice—a means to an end.

And because the average person are mostly afflicted by the heuristic of loss aversion[3] or the tendency to strongly prefer avoiding losses to acquiring gain, in reality since a loss taken signifies an acknowledgement of mistakes, the pain from such admission leads to one to take on more risks that leads to more losses, than to avoiding losses.

As American financial historian, economist, author and educator Peter Bernstein wrote[4],

When the choice involves losses, we are risk-seekers, not risk averse.

Egos, hence, play a big role in shaping our trading, investing or speculative positions.

To borrow comic strip cartoon character Pogo most famous line[5]

We have met the enemy and he is us

The Essence of Risk ON Risk OFF Moments

Nevertheless current developments continue to reinforce my perspective of the markets.

1. Despite all the recent hype about local developments driving the local market, external factors has remained as the prime mover or influence in establishing Phisix price trend. This has been true since 2003. Remember, the Philippine President even piggybacked on this[6]

The good thing about market selloffs is that this has been unmasking of the delusions of greatness and its corollary, the deflation of many puffed up egos.

This also shows that there has been no decoupling

2. Global financial markets have moved in on a Risk On or Risk Off fashion.

While the degree of performances may differ, actions in the global financial markets today have shown increasingly tight correlations. The general trend direction and even the undulations of the Phisix, the US S&P 500, the European Stox 50 and the Dow Jones Asia Pacific index over past 3 years have shown increased degree of conformity.

Risk ON moments are mostly characterized by greater appetite for speculative actions as seen in the correlated upside movements of prices of corporate bonds, equities, commodities, and ex-US dollar currencies.

On the other hand, Risk OFF episodes or risk-averse moments like today, have accounted for “across the board selloffs” a flight to safety shift to the US dollar and US treasuries.

There has been little variance in price trends that merits so-called portfolio diversification. As pointed out before these have been signs of “broken”[7] or highly distorted financial markets.

Observe that whether the actions WITHIN the Philippine Stock Exchange, or among major developed and emerging market bellwethers or the other asset markets, current market trends produces the same Risk ON-Risk OFF patterns.

A dramatic upside move during the first four months only to be substantially reduced this month exhibits little evidence of conventional wisdom at work. Neither earnings can adequately explain the excessive gyrations in market fluctuations nor has contemporary economics.

Risk ON and Risk OFF, are in reality mainstream’s euphemism for boom bust cycles, which have been caused by inflationism and various forms of interventions—that has engendered outsized volatility in price actions.

Knightean Uncertainty: Greece Exit, China Slowdown and Fed’s End Program Volatility

As pointed out last week, there have been three major forces that have been instrumental in contributing to the recent distress being endured by global financial markets, particularly, the SEEN factor: Greece and the Euro crisis, the UNSEEN factors—China’s slowdown (or an ongoing bust???) and anxieties over US monetary policies.

Since risks implies of measured probability of future events while uncertainty refers to the incalculable probability of future events[8], current events suggests of GREATER uncertainty than of the average risk environment.

For the third time in 6 months, the People’s Bank of China (PBoC) last week cut reserve requirements[9], yet the Shanghai index ignored the credit easing measures and posted a significant weekly loss.

Moreover, the economic slowdown in China has hardly abated.

China’s four biggest banks reported almost zero growth of net lending over the past two weeks[10].

In addition, according to a study by made by a think tank affiliated with PRC’s state council, the estimated the debt-to-asset ratio[11] of Chinese state and private companies, as well as individuals, has reached about 105.4 percent, the highest among 20 countries.

These represent the increasing likelihood of the unwinding of China’s unsustainable bubble. For the moment China’s authorities seems to be in a quandary as they have implemented half-hearted measures which her domestic markets appear to have taken in blase.

Yet if the economy does sharply deteriorate, I would expect more forceful policies to be put in place. So far this has not been the case.

It has been no different in the Euroland where politics have posed as an obstacle to further interventions from the European Central Bank (ECB)

The risks of a Greece exit from the Eurozone seem to have been intensifying. This has been evidenced by the open acknowledgement by Mario Draghi, European Central Bank president, that Greece could leave the Euro. The ECB has even halted to provide loans to four Greek banks[12].

Lending to banks in Greece, which has been experiencing slow-mo bank runs but seem to be escalating over the last week on fears of massive devaluation from the return to the drachma[13], are presently being funded by the national central bank of Greece[14] via the Emergency Lending Assistance.

While there have been estimates as to the degree of exposures by major banks of several nations on Greece, particularly €155 billion for Germany and France[15], no one can really assess on the psychological impact that would translate to financial losses that may occur once official ties have been disconnected. Even Singapore has reportedly been exposed with “a stunning 60%-plus of GDP tied up in European bank claims” according to Zero Hedge[16].

Add to this undeclared the derivatives exposure on Greek securities at an estimated $90 billion[17], the losses from a full blown contagion can reach trillions to the global banking system.

Thus, the probability looms large that that major central banks would use this as an excuse to justify massive inflationism to protect their respective banking systems.

Again the problem that prevents the ECB from further inflating today has been the uncertain status from the politics of Greece. Since nobody in Greece seems to be in charge, the ECB doesn’t know whom to strike a deal with yet. And perhaps in an attempt to influence Greek politics, as stated above, the ECB has partially cut off funding to some Greece banks.

So this should be another evidence of the interruptions of the money spigots.

But the issue here will be the scale of interventions once the process of the Greece exit is set on motion. This will practically be a race between the market and central bank interventions.

And this is why I believe the markets could be exposed to excessively huge volatility during this May to June window, mostly likely with volatility going in both directions, but having more of a downside bias, until the forcefulness of interventions would be enough to temporarily provide patches to malinvestments from becoming evident.

And perhaps in the realization of the risks from financial isolation and the benefits of conditional redistribution from their German hosts, the good news is that the pro-austerity or the pro-bailout camp appears to be gaining ground.

Recent polls seem to suggest that pro-bailouts as having a slight edge[18] or are in dead heat[19] with former favorites, the anti-austerity camp.

The term austerity has been deliberately contorted by the neoliberals. In reality there has been NO real[20] austerity[21] in the Eurozone as government spending (whether nominal, real or debt to gdp) has hardly been reduced. What has been happening has been more of tax increases with little reforms on the labor market or on the regulatory front to make these economies competitive[22][23].

Finally, compounded by external developments, US markets are likewise being buffeted by the uncertainty towards the Fed’s monetary policies where each time the FED ended their easing measures, downside volatility follows.

This was the case for QE 1 and QE 2, and apparently with the closing of OPERATION TWIST this June, US markets have become volatile again.

And as the US markets has recently sagged, the Federal Market Open Committee (FOMC) once again has signaled that they are open to more credit easing measures using the Euro crisis and the US government budget and or debt-ceiling issues[24] as pretext.

The so-called Bush Tax cuts which is set to expire at the end of the year, will translate to a broad increase in tax rates for all[25], will also be a part of the economic issue. Tax increases in a fragile economy heightens a risk of a downturn, and this will likely be met with more easing policies.

Bottomline: The major issues driving the markets has been about the feedback loop between the markets and inflationism (bubble cycles).

Lethargic prices of financial assets have accounted for as symptoms of the artificiality of price levels set by the governments and major central banks through credit easing programs and zero bound interest rates meant to protect the banking system that has been integral to the current political structures which includes the welfare-warfare state and central banking.

In short, falling markets are simply signs of pricked bubbles.

Outside additional support from central banks, asset prices have been weakening, supported by some episodes of debt liquidations, particularly in the Eurozone and in China.

Currently the PBoC, ECB or the FED appear to be constrained or reluctant to pursue with further aggressive interventions for one reason or another. As previously noted, the BoE has officially put to a halt their QE[26].

It could be that they may be waiting for more downside volatility, which should provide them political cover for such action. Also the unresolved political problems of Greece have been an impediment.

So yes, today’s markets have still principally been driven by the ON and OFF steroids or inflationism from central bankers and will continue to do so until markets or politics forces them to cease.

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[1] See Applying Emotional Intelligence to the Boom Bust Cycle, August 21, 2011

[2] See Self-Discipline and Understanding Market Drivers as Key to Risk Management, April 2, 2012

[3] Wikipedia.org Loss aversion

[4] Bernstein Peter Against The Gods, The Remarkable Story of Risks, p. 273 John Wiley & Sons

[5] Wikipedia.org "We have met the enemy and he is us." Pogo (comic strip)

[6] See The Message Behind the Phisix Record High May 7, 2012

[7] See “Pump and Dump” Policies Pumps Up Miniature and Grand Bubbles April 30, 2012

[8] See The Fallacies of Inflating Away Debt August 9, 2009

[9] See China Cuts Reserve Requirement May 14, 2012

[10] Businessweek.com/Bloomberg.com Loan Growth Stalled at China’s Biggest Banks, News Says May 15, 2012

[11] Bloomberg.com Chinese Company Debt Is At ‘Alarming Levels,’ Xinhua Says May 17, 2012

[12] See Hot: ECB Holds Loans to Select Greek Banks, ECB’s Draghi Talks Greece Exit May 17, 2012

[13] MSNBC.com Greeks withdraw $894 million in a day: Is this beginning of a run on banks?, May 16, 2012

[14] Brussel’s Blog The slow-motion run on Greece’s banks Financial Times, May 17, 2012

[15] See Greece Exit Estimated Price Tag: €155bn for Germany and France, Possible Trillions for Contagion May 17, 2012

[16] Zero Hedge Why Stability Stalwart Singapore Should Be Seriously Scared If The Feta Is Truly Accompli, May 18, 2012

[17] Zero Hedge, Alasdair Macleod: All Roads In Europe Lead To Gold, May 19, 2012

[18] See Are Greeks turning Pro-Austerity? May 19, 2012

[19] Reuters India Greek election race tightens into dead heat May 20, 2012

[20] See More on the Phony Fiscal Austerity, May 16, 2012

[21] See In Pictures: The Eurozone’s “Austerity” Programs, May 8, 2012

[22] See Choking Labor Regulations: French Edition, May 14, 2012

[23] See Greeks Mount Civil Disobedience, Scorn Taxes, May 16, 2012

[24] Bloomberg.com Several on FOMC Said Easing May Be Needed on Faltering, May 17, 2012

[25] See What to Expect when the Bush Tax Cuts Expire May 19, 2012

[26] See Bank of England Halts QE for Now, May 10, 2012

Could Gold Prices be Signaling a Reprieve in Selloffs or a Bottom?

Over at the commodity markets, gold’s and silver’s recent bounce could yet signal a reprieve to the market’s selloff.

On the one hand, this bounce could signify a reaction to extremely oversold levels but may not be indicative of a bottom yet.

On the other hand, if gold and silver have found a bottom then they could likely be signaling the coming tsunami of inflationism, where the tendency is that gold leads other assets in a recovery, perhaps like 2008.

Also, the recent bounce came amidst Greek polls exhibiting improvements of the standings of pro-austerity camp, perhaps indicative of reduced odds of a Greece exit. A victory by pro-bailout camp government would allow the ECB to orchestrate the same operations that it has been conducting at the start of the year.

For most of the past 3 years prices of gold and the US S&P 500 have been correlated but with a time lag. Since March an anomalous divergence occurred, the S&P rose as the gold fell. For most of the past two weeks both gold and the S&P fumbled which seem to have closed the divergence gap.

But over the two days gold rose as stocks fell. Such anomaly will be resolved soon.

Again, gold cannot be seen as a standalone commodity and should be seen in the context of both the general commodity sphere and of other financial assets.

Focusing on gold alone misses the point that gold represents one of the contemporary assets that competes for an investor’s money. Such that changes in the gold prices would likewise affect prices of other relative assets.

Prices are all interconnected, the great Henry Hazlitt explained[1]

No single price, therefore, can be considered an isolated object in itself. It is interrelated with all other prices. It is precisely through these interrelationships that society is able to solve the immensely difficult and always changing problem of how to allocate production among thousands of different commodities and services so that each may be supplied as nearly as possible in relation to the comparative urgency of the need or desire for it.

To fixate only on gold without examining the actions of other assets would risk the misreading of the gold and other asset markets.

Let me further add that a Greece exit or a collapse of the Euro doesn’t automatically mean higher gold prices. This entirely depends on the actions of central banks.

Since gold is not yet money today, based on the incumbent legal tender laws, it would be totally absurd to argue that under today’s fiat money system—where financial contracts have been underwritten on paper currencies mostly denominated in US dollars or the foreign currency alternatives, European euro, British pound, Swiss franc, Japanese yen or even China’s renminbi—all debt liquidations, be it ‘calling in of loans’ or ‘margin calls’ will be consummated in paper money currency and not in gold.

This means that a genuine debt deflation would translate to greater demand for cash balance (based on Irving Fisher’s account of debt deflation[2]) which means more demand for the US dollar and other currencies of ex-euro trade counterparties.

And that’s what has been happening lately to the marketplace, the US dollar (USD) and US Treasuries 10 year prices (UST) has risen opposite to falling gold prices and other financial assets.

This means part of the global system has been enduring stresses from debt liquidations, which again bolsters the relative effects of money and boom bust cycles.

As pointed out before[3], it would be mistake to equate the 1930 eras (gold bullion standard) or the 1940 eras (Bretton Woods standard) with today’s digital and fiat money system. That would be reading trees for forest when gold was officially money then.

And given that gold has long been branded a “barbaric relic” and has practically been taken off the consciousness of the general public in Western nations, gold has hardly been appreciated as money, perhaps until a disaster happens.

It has only been recently and due to sustained gains of gold prices where gold’s importance has begun to percolate into the American public[4].

Yet the Americans see gold more of an investment than as money

But of course, this is different with many Asians who still values gold as money. For example, many Vietnam banks are even paying gold owners fee for storage[5] in defiance of government edict.

Gold’s rise would be premised from central banking inflationism designed to protect the certain political interests, which today have represented the banking institutions and the Federal and national governments.

As proof, the latest quasi bank run in Greece, which I pointed out above, has reportedly been due to concerns over devaluation of the drachma, should Greece exit from the EU and NOT from deflation.

While I remain long term bullish gold, short term I remain neutral and would like see further improvements in gold’s price trend and subsequently the relative trends of other “risk ON” assets.

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[1] Hazlitt Henry How Should Prices Be Determined? , May 18, 2012

[2] Wikipedia.org Fisher's formulation, Debt Deflation

[3] See Gold Unlikely A Deflation Hedge June 28, 2012

[4] Gallup.com Gold Still Americans' Top Pick Among Long-Term Investments, April 27, 2012

[5] See Vietnam Banks Pay Gold Owners for Storage, April 12, 2012

Situational Attribution Is All About Policy Induced Inflation

``Believe nothing just because a so-called wise person said it. Believe nothing just because a belief is generally held. Believe nothing just because it's said in ancient books. Believe nothing just because it's said to be of divine origin. Believe nothing just because someone else believes it."- Buddha, Unconscious Beliefs

If fundamental attribution bias is the “undervaluing or failing to acknowledge the potentiality of situational attributions”, then that means people overlook or substantially underprices situational developments.

For instance, some have suggested that stock market prices today as having been “overvalued”.

Well in my view, prices are relative:

1. in terms of direction: low prices can go lower and high prices can go higher,

2. valuations are always subjective and

3. prices can be seen as higher/lower in a relative sense when compared to the specifics. In the psychological context this is known as the contrast principle/effect or judgments based on relative comparisons or simply higher compared to what or whom?

Importantly, the issue of prices or valuations would greatly depend on the situational attribution or developments.

Situational Directions

So what has been the “situational” course of events?

It’s apparently not imputable to traditional or conventional specific metrics, because evidences haven’t been pointing to such direction, see Figure 2.

Figure 2: Stockcharts.com: Correlation: Phisix, Euro, Emerging Markets and Oil

The Euro which comprises 57.6% of the US dollar Index according to the ICE Futures, seems to be leading the way for Emerging Market Stocks (EEM), including the Philippine Phisix (PSEC) and commodities as represented by oil (WTIC).

The highs of the Euro (vertical blue lines) have been coincident with turning points of the specified markets above, but with a lag.

In short, over the interim the rising euro, or the inversely the falling US dollar index seems tantamount to higher financial asset prices.

As we have repeatedly argued, the global inflation dynamics are apparently being transmitted into equity, commodities and property markets (ex-developed economies) via the currency channel, as described in many past issues including the latest [see last week’s Warren Buffett’s Greenback Effect Weighs On Global Financial Markets].

Therefore, if markets haven’t been driven by conventional specific metrics, then why should we utilize conventional metrics as a gauge to determine our trade positions? That would be like using sonar to track airplane movements.

Inflation Dynamics In The Phisix And The World

The beauty of any theory would lie within its applicability or by the function of factual evidences… (see figure 3)

Figure 3: PSE Sectoral Indices: Rising Tide Lifts All Boat

The sectoral indices of the Philippine Stock Exchange (PSE) depicting synchronicity in motion.

Current market activities have strongly been demonstrative of the tidal ebbs and flows (or our Livermore-Machlup model see Are Stock Market Prices Driven By Earnings or Inflation? ) of the Philippine marketplace as we have long forecasted.

Our outstanding premise has been the lesser the efficient the markets the more prone to inflation driven dynamics.

Although domestic stock prices have risen in general, price levels have been nuanced, where some sectors have been outperforming the others [see Sectoral Performance In US, China And The Philippines].

The present pecking order of outperformance: Mining (green), Holding (red), the All Index (maroon), commercial (pink), property (blue), bank (black) and services (grey).

As you can see, the “rising tide lifts all boats” phenomena compounded by the relative price level actions have all been reinforcing the symptoms of an inflationary (liquidity) driven boom.

Such situational course of events hasn’t confined locally but to the world though.

As we pointed out in the latest Global Stock Market Performance Update: Despite China's Decline, Emerging Markets Dominate, 68 (83%) of the 82 issues monitored by Bespoke Invest (based on August 20^th) registered positive gains against 14 (17%) which accounted for losses.

Despite China’s Shanghai benchmark, which fumbled for the fourth consecutive week of losses (this week 3.38%) for an aggregate 4 week loss of 17.2%, China has been up 57% on year to date basis.

The Philippine Phisix as of Friday’s close seems to be closing the gap fast.

Nonetheless, the best performances have been among key emerging markets (many of which are situated from Asia), some having been beneficiaries of low systemic leverage and an unimpaired banking system, which has responded favorably to lower interest rates, while some have been reaping from rising commodity prices.

Although we expected some degree of differences relative to the US to emerge, this hasn’t been so yet.

The evolving activities in the US seem to reflect on more of the actions seen in most of the world.

According to Bespoke Invest, ``93% of stocks in the S&P 500 were trading above their 50-day moving averages. That number has come in slightly with today's declines, but it's still above 90%.” (emphasis added)

In short, macro thinkers, who fixate over the actions of the US, but negate the activities across the geographically diverse asset markets have been missing out on these developments.

The Validation Of Our Livermore-Machlup Model

More proof of more liquidity driven boom in the domestic market? (see Figure 4)

Figure 4: PSE: Daily Traded Issues (left) and Number of Daily Trades (right)

When the marketplace becomes reanimated, the speculative appetite expands.

This implies that transactions would cover issues that are less liquid (low market float), which can be found mostly among second or third tier securities.

As you can see in the left window, the daily traded issues have been broadening. This means that the advances in the Phisix are being seen in general terms, validating Jesse Livermore’s assertion.

Moreover, improving daily trades suggests of more people participating or engaging in churning activities.

Again another manifestation of a bullish breadth (right window).

It doesn’t stop here.

Figure 5: Advance Decline Spread: Broadening Gains

Another indicator would be the advance decline spread.

In the height of the selloff in 2008 (red ellipse), the advance decline spread has been obviously tilted towards huge broad based selloffs.

Today we see the opposite, since March of 2009, the internal activities in the Philippine Stock Exchange has largely been in favor of the advancing issues (light green ellipse).

To consider, local investors have usurped the role as the dominant pillar of the current state of the Phisix, a role which we presume should contribute to a sturdier trend and likewise could be deduced as having become less sensitive to the external developments, in contrast to the 2003-2007 cycle.

Added together, all these essentially have been validating our Livermore-Machlup inflation driven tidal dynamics thesis, where the collective inflationary policies by global governments will presumably take a major role in determining asset pricing conditions.

So stubbornly insisting on the idea of conventional metrics as a gauge of the market’s parameters will only lead to wide off the mark appraisals and severe underperformance.

The Economic Disconnect And Domestic Mainstream Policies

So does a 54% year to date surge in the Phisix translate to a V-shape recovery in the Philippine economy?

The Economist gives as an answer, (bold highlights mine)

``Although the return to robust quarter-on-quarter growth of 2.4%—the highest in over two years, following a first-quarter contraction of 2.1%—fits the international pattern, the economy has not contracted at all in year-on-year terms during the current global crisis. Growth of 0.6% in the first quarter appears to have marked the low point in the current cycle. Still, the recovery is far from entrenched. At just 1.5% year on year, real GDP growth in the three months to June was far below the 2004-08 quarterly average of 5.5%.

``In output terms, the service sector was the main driver of economic growth in the second quarter. Services output rose by 3.1% year on year, up from 2% in the previous quarter. Government services rose by 7.7% in real terms, reflecting stimulus spending. Trade rose by 3% on the back of strong growth in retail activity. In contrast, agricultural growth slowed sharply due to weak production of rice and some other crops. And industry contracted for the second straight quarter, falling 0.3%. Although the government's fiscal measures boosted construction, which rose by 16.9%, and mining and quarrying also recorded a big gain, growth in these areas was more than offset by the decline in manufacturing. This underlines the weakness of demand for Philippine exports, which has hit manufacturers hard.”

So seen from mainstream’s “money is neutral” perspective, then today’s Phisix, if it were to reflect on the performance of the economy, has vastly been overbought.

But seen from a perspective where the economy has been detached from the stock market and where the latter have been propelled by circulation credit expansion from a combination of government spending, low interest rate regime and a raft of other Bangko Sentral ng Pilipinas (BSP) policy instruments [as expanded peso and US dollar based repurchasing (repo) agreement, Credit Security Fund (CSF) that guarantees funding access to small cooperatives from which provides financing to small business and the easing of accounting regulations such as reclassifying “financial assets from categories measured at fair value to those measured at amortized cost” and where banks were allowed “not to deduct unrealized mark-to-market losses in computing for the 100 percent asset cover for FCDUs, effective until 30 September 2009).” (Gov. Amando Tetangco Amcham Speech August 11)], all of which could snowball into a massive source of structural misallocation of resources in the local economy, prices will be determined by the scale of leverage that will be imbued by the domestic financial system.

Yet like all policymakers globally (except for Israel which has dumbfounded the marketplace by being the first central bank to raise interest rates), Philippine BSP Governor Amando Tetangco takes on the mainstream tack, (bold emphasis mine)

``This 200 basis-point cumulative reduction in the policy rate will help stimulate economic growth or help moderate the slowdown by bringing down the cost of borrowing and reduce the financial burdens on firms and households. This will help us avoid or at least mitigate the negative feedback loop from weakening economic conditions to the functioning of the financial sector. Lower policy rates would also have the effect of shoring up business and consumer confidence.”

Business Cycle, The Philippine Version

Artificially reduced rates will only send false signals of the true amount of real savings available for lending. This would unnecessarily increase the acceptable level of risk taking activities by shifting the time preferences for both the lender and the borrowers. This in turn induces investments in the durable capital goods and or investments in the longer term process of production at the same time where consumption demand will be expanding which thus would leads to serious economic distortions and competition for resources, or in short, malinvestments.

To quote Professor John Cochran and Noah Yetter in Capital in Disequilibrium: An Austrian Approach to Recession and Recovery, ``But with a credit expansion relative reduction in the interest rate, producers are attempting to lengthen the production structure while consumers are attempting to shorten it. Longterm investment is booming at the same time as demand is growing for final consumption. Available resources are not sufficient to sustain both processes— individual business plans made in response to the interest rate change and the new pattern of consumer spending set up the problem of the ‘dueling production structures’. Thus the expansion in the money supply brings about unsustainable growth, characterized by a pattern of over consumption and over investment accompanied by malinvestment, investment inconsistent with consumers’ time preferences.” (bold highlight added)

Moreover, such policies allows the public to take on more debt than warranted which leads to systemic overleverage similar to the Asian Crisis, US housing and dot.com bubbles, as Prof, Thorsten Polleit explains in Bad News for Our Money ``It allows borrowers to issue even more debt, refund maturing debt at artificially suppressed interest rates, and reduce their real debt burden at the expense of money holders. The downward manipulation of the interest rate drives a wedge between the (real) market interest rate and the societal time-preference rate, and therefore wreaks havoc with the economy's intertemporal production structure. It leads to economic impoverishment, as it would stimulate consumption at the expense of savings and encourage malinvestment of scarce resources. What is more, suppressing the interest rate does not provide a solution to the overindebtedness problem, which is a result of government-controlled fiat money produced by banks extending credit in excess of real savings.”

Moreover, such policies only borrow economic activities from the future.

Floyd Norris of the New York Times recently noted how US homes prices reflected on the degree of inflation, initially rising (boom) but falling back (bust) to the same inflation adjusted price levels where the cycle all began [see US Home Bubble Cycle: Upside Directly Proportional To Downside]. Of course, all these came at the expense of the society. Hence Mr. Tetangco’s anxiety over the negative feedback loop can only be deferred until sometime in the future when enough imbalances will force itself on the marketplace.

Figure 6: Washington Post: Banks 'Too Big to Fail' Have Grown Even Bigger

Of course, monetary inflation has moral consequences; it redistributes wealth in a way where the initial recipients would be major beneficiaries from such policies.

Similar to the US where taxpayers and small businesses and small banks today have been sacrificed for “too large to fail” institutions which has even expanded more today (see figure 6), in the Philippines, investors with liberal access to the domestic banking institutions are likely to be the capitalists benefiting from the economic rent or politically bestowed economic privileges (licenses, cartels, monopolies).

So the wealth redistribution from present economic policies is likely to benefit the political elite at the expense of rest of the society.

In addition, with the fast approaching political Presidential election season, we should expect the present expansionary monetary landscape to be sustained. Here is a clue, again from Governor Tetangco, “Lower policy rates would also have the effect of shoring up business and consumer confidence”.

Besides, government’s fiscal spending to are likely to rev up in order spruce the economic landscape and financial marketplace for a Potemkin Village effect [see previous discussion in Philippine Peso: Interesting Times Indeed].

Well, Governor Tetangco in terms of policymaking would likely seek the comfort of the mainstream crowd once such policies start to unravel.

Hence he is likely to take heed of the insights from the mainstream icon at heart, this from John Maynard Keynes, ``Worldly wisdom teaches that it is better for reputation to fail conventionally than to succeed unconventionally.”

Anyway, comfort of the crowd it is for Asian policymakers.

From China’s Premier Wen Jiabao (Reuters) ``Therefore, we must maintain continuity and consistency in macroeconomic policies, and maintaining stable and quite fast economic growth remains our top priority. This means we cannot afford the slightest relaxation or wavering."

Or From South Korea’s Finance Minister Yoon Jeung Hyun (Bloomberg/Credit Bubble Bulletin) ``There is a risk that the economy may fall into a double dip if the government shifts the stance of policy too fast…It’s premature to discuss the timing of an exit strategy.”

However, even if Asian authorities have qualms on tightening present policies, the interest rate markets suggest that they will be tightening soon.

According to the Wall Street Journal, ``Asia's central bankers say they have no timetable for raising interest rates. But some investors already are placing bets to the contrary, speculating that India will go first, followed by China and Korea.

``The money is being put down in the huge interest-rate-swaps market, where the yields on two-year maturities across much of Asia have risen sharply in the past few months.

``This market, which had $403 trillion of contracts outstanding at the end of 2008, draws a range of investors, from hedge-fund managers to companies looking to hedge against a change in monetary policy. About a quarter of its volume is traded in Asia.”

Nonetheless even if Asian authorities begin to tighten for as long the US maintains ultra loose rates, pump the prime (deficits expected to reach $9 trillion in 2019!) and flood the global system with greenback emissions (Warren Buffett), we should expect the continued stickiness from inflation to be reflected on financial asset prices.

While markets could indeed show episodes of outsized volatility, as in the case of China or in the past in Russia, the impact from the present policies, in support of the Ponzi based global economic system, which are likely to be stretched way into the future for political motivated reasons should cushion or even give a boost to the reflation in asset prices.

Timing markets won’t be a recommended approach given the swiftness of market action.

Bottom line: Situational Attribution is all about policy induced inflation.