Russia’s Vladimir Putin’s Interesting Davos Speech

Here is the interesting opening ceremony speech of Russia’s Prime Minister Vladimir Putin at the World Economic Forum in Davos, Switzerland which is a suggested read at the WSJ link, click here.

Some excerpts from the speech (bold highlights mine) with our accompanying comment (green font)…

``I just want to remind you that, just a year ago, American delegates speaking from this rostrum emphasised the US economy's fundamental stability and its cloudless prospects. Today, investment banks, the pride of Wall Street, have virtually ceased to exist. In just 12 months, they have posted losses exceeding the profits they made in the last 25 years. This example alone reflects the real situation better than any criticism…

``In our opinion, the crisis was brought about by a combination of several factors.

``The existing financial system has failed. Substandard regulation has contributed to the crisis, failing to duly heed tremendous risks. Add to this colossal disproportions that have accumulated over the last few years. This primarily concerns disproportions between the scale of financial operations and the fundamental value of assets, as well as those between the increased burden on international loans and the sources of their collateral.

``The entire economic growth system, where one regional centre prints money without respite and consumes material wealth, while another regional centre manufactures inexpensive goods and saves money printed by other governments, has suffered a major setback.

``I would like to add that this system has left entire regions, including Europe, on the outskirts of global economic processes and has prevented them from adopting key economic and financial decisions. Moreover, generated prosperity was distributed extremely unevenly among various population strata. This applies to differences between social strata in certain countries, including highly developed ones. And it equally applies to gaps between countries and regions. A considerable share of the world's population still cannot afford comfortable housing, education and quality health care. Even a global recovery posted in the last few years has failed to radically change this situation. And, finally, this crisis was brought about by excessive expectations. Corporate appetites with regard to constantly growing demand swelled unjustifiably. The race between stock market indices and capitalisation began to overshadow rising labour productivity and real-life corporate effectiveness..."

My comment: Mr. Putin simply is weighing against the imperfections and unwarranted distribution of privileges from the US dollar standard

``This is why I would first like to mention specific measures which should be avoided and which will not be implemented by Russia. We must not revert to isolationism and unrestrained economic egotism. The leaders of the world's largest economies agreed during the November 2008 G20 summit not to create barriers hindering global trade and capital flows. Russia shares these principles. Although additional protectionism will prove inevitable during the crisis, all of us must display a sense of proportion. Excessive intervention in economic activity and blind faith in the state's omnipotence is another possible mistake. True, the state's increased role in times of crisis is a natural reaction to market setbacks. Instead of streamlining market mechanisms, some are tempted to expand state economic intervention to the greatest possible extent. The concentration of surplus assets in the hands of the state is a negative aspect of anti-crisis measures in virtually every nation. In the 20th century, the Soviet Union made the state's role absolute. In the long run, this made the Soviet economy totally uncompetitive. This lesson cost us dearly. I am sure nobody wants to see it repeated. Nor should we turn a blind eye to the fact that the spirit of free enterprise, including the principle of personal responsibility of businesspeople, investors and shareholders for their decisions, is being eroded in the last few months. There is no reason to believe that we can achieve better results by shifting responsibility onto the state. And one more point: anti-crisis measures should not escalate into financial populism and a refusal to implement responsible macroeconomic policies. The unjustified swelling of the budgetary deficit and the accumulation of public debts are just as destructive as adventurous stock-jobbing.

My comment: An unexpected trenchant assessment from a cunning politician. However, what is said and what is done are two different airwaves.

``Unfortunately, we have so far failed to comprehend the true scale of the ongoing crisis. But one thing is obvious: the extent of the recession and its scale will largely depend on specific high-precision measures, due to be charted by governments and business communities and on our coordinated and professional efforts. In our opinion, we must first atone for the past and open our cards, so to speak. This means we must assess the real situation and write off all hopeless debts and “bad” assets. True, this will be an extremely painful and unpleasant process. Far from everyone can accept such measures, fearing for their capitalisation, bonuses or reputation. However, we would “conserve” and prolong the crisis, unless we clean up our balance sheets. I believe financial authorities must work out the required mechanism for writing off debts that corresponds to today's needs. Second. Apart from cleaning up our balance sheets, it is high time we got rid of virtual money, exaggerated reports and dubious ratings. We must not harbour any illusions while assessing the state of the global economy and the real corporate standing, even if such assessments are made by major auditors and analysts.

``In effect, our proposal implies that the audit, accounting and ratings system reform must be based on a reversion to the fundamental asset value concept. In other words, assessments of each individual business must be based on its ability to generate added value, rather than on subjective concepts. In our opinion, the economy of the future must become an economy of real values. How to achieve this is not so clear-cut. Let us think about it together.

``Third. Excessive dependence on a single reserve currency is dangerous for the global economy. Consequently, it would be sensible to encourage the objective process of creating several strong reserve currencies in the future. It is high time we launched a detailed discussion of methods to facilitate a smooth and irreversible switchover to the new model.

``Fourth. Most nations convert their international reserves into foreign currencies and must therefore be convinced that they are reliable. Those issuing reserve and accounting currencies are objectively interested in their use by other states. This highlights mutual interests and interdependence. Consequently, it is important that reserve currency issuers must implement more open monetary policies. Moreover, these nations must pledge to abide by internationally recognised rules of macroeconomic and financial discipline. In our opinion, this demand is not excessive. At the same time, the global financial system is not the only element in need of reforms. We are facing a much broader range of problems. This means that a system based on cooperation between several major centres must replace the obsolete unipolar world concept. We must strengthen the system of global regulators based on international law and a system of multilateral agreements in order to prevent chaos and unpredictability in such a multipolar world. Consequently, it is very important that we reassess the role of leading international organisations and institutions.

``I am convinced that we can build a more equitable and efficient global economic system. But it is impossible to create a detailed plan at this event today…"

My comment:

-Writing off bad debts will be an international issue, as the debt stock is distributed around the world. Besides what’s to distinguish between bad debts incurred from the recent crisis and bad debts from past economic mismanagement. In addition, moral hazard will be an issue to contend with.

-“Time we got rid of virtual money, exaggerated reports and dubious ratings” is a function of unintended effects of inflationary policies, unnecessary government interventions and distortive regulations.

-According to Mr. Putin “Assessments of each individual business must be based on its ability to generate added value, rather than on subjective concepts. In our opinion, the economy of the future must become an economy of real values. How to achieve this is not so clear-cut.”

Why isn’t it clear cut? The reason why the pricing mechanism is subjective is because it is always determined by human psychology. It accounts for the difference in marginal utility (priorities, values) among participants, it is also about the disparate assessment of the fluctuating balance between demand and supply, it signifies the distinct time preferences of individuals and has psychological dimensions (fear or greed and other biases) accompanying the above. Nonetheless pricing based market mechanism still should be the most optimum method of allocation for scarce resources.

Attainment of real values means the application of sound money and free markets.

As for the ``Excessive dependence on a single reserve currency is dangerous for the global economy” is both a geopolitical issue as much as it is a financial issue.

``The global economy could face trite energy-resource shortages and the threat of thwarted future growth while overcoming the crisis. Three years ago, at a summit of the Group of Eight, we raised the issue of global energy security. We called for the shared responsibility of suppliers, consumers and transit countries. I think it is time to launch truly effective mechanisms ensuring such responsibility.

``The only way to ensure truly global energy security is to form interdependence, including a swap of assets, without any discrimination or dual standards. It is such interdependence that generates real mutual responsibility.

``Unfortunately, the existing Energy Charter has failed to become a working instrument able to regulate emerging problems.

``I propose we start laying down a new international legal framework for energy security. Implementation of our initiative could play a political role comparable to the treaty establishing the European Coal and Steel Community. That is to say, consumers and producers would finally be bound into a real single energy partnership based on clear-cut legal foundations.

``Every one of us realises that sharp and unpredictable fluctuations of energy prices are a colossal destabilising factor in the global economy. Today's landslide fall of prices will lead to a growth in the consumption of resources.

``On the one hand, investments in energy saving and alternative sources of energy will be curtailed. On the other, less money will be invested in oil production, which will result in its inevitable downturn. Which, in the final analysis, will escalate into another fit of uncontrolled price growth and a new crisis.

``It is necessary to return to a balanced price based on an equilibrium between supply and demand, to strip pricing of a speculative element generated by many derivative financial instruments.

``To guarantee the transit of energy resources remains a challenge. There are two ways of tackling it, and both must be used. The first is to go over to generally recognised market principles of fixing tariffs on transit services. They can be recorded in international legal documents. The second is to develop and diversify the routes of energy transportation…

``However, unlike many other countries, we have accumulated large reserves. They expand our possibilities for confidently passing through the period of global instability.

The crisis has made the problems we had more evident. They concern the excessive emphasis on raw materials in exports and the economy in general and a weak financial market. The need to develop a number of fundamental market institutions, above all of a competitive environment, has become more acute.

My comment: The Energy market is essentially a government controlled market. Despite all the massive regulations surrounding the industry we see repeated and worsening inefficiencies which has resulted to sharp pricing volatility. And unfortunately, most of this has been unduly blamed on speculators than regulators. Moreover, trying to impose more regulations while attempting to be competitive seems to be an oxymoronic goal.

``We see higher energy efficiency as one of the key factors for energy security and future development.

``We will continue reforms in our energy industry. Adoption of a new system of internal pricing based on economically justified tariffs.

``This is important, including for encouraging energy saving. We will continue our policy of openness to foreign investments.

My comment: Oops! Policy of openness to foreign investments doesn’t seem to square with recent developments.

Separately, I would like to comment on problems that go beyond the purely economic agenda, but nevertheless are very topical in present-day conditions. Unfortunately, we are increasingly hearing the argument that the build-up of military spending could solve today's social and economic problems. The logic is simple enough. Additional military allocations create new jobs. At a glance, this sounds like a good way of fighting the crisis and unemployment. This policy might even be quite effective in the short term. But in the longer run, militarisation won't solve the problem but will rather quell it temporarily. What it will do is squeeze huge financial and other resources from the economy instead of finding better and wiser uses for them.

``My conviction is that reasonable restraint in military spending, especially coupled with efforts to enhance global stability and security, will certainly bring significant economic dividends. I hope that this viewpoint will eventually dominate globally. On our part, we are geared to intensive work on discussing further disarmament.

My comment: True, military spending isn’t a productive endeavor. But action should match rhetoric. According to Al Jazeera in 2007, ``Regionally Eastern Europe saw the biggest growth in military spending mainly because Russia's spending grew 86 per cent, or $35.4bn.”

Updated: Democratizing Knowledge Revolution Via $10 Laptops (Still A Dream)

India recently announced that it would be introducing $10 (Php 500) laptop computers soon.

Although it is still unclear as to the real offering price as reports vary, BBC says ``Early reports of the cheap laptop suggested that it would cost only 500 rupees (£7). However, this could be a mistranslation, because transcripts of the speech, in which it was unveiled, mentioned it costing $10 (£7) but this was later corrected to $100 (£70)”.

Albeit the physorg.com says, ``The $10 laptop project is the product of a collaboration among institutions including the Vellore Institute of Technology, the Indian Institute of Science, and IIT-Madras. The project began about three years ago in response to the proposed $100 laptop (the "One Laptop Per Child" project), an idea from MIT's Nicholas Negroponte, which was going to cost $200. Currently, the $10 laptop is projected to cost $20, but India's secretary of higher education R. P. Agarwal hopes that price will come down with mass production. The $10 laptop will be equipped with 2 GB of memory, WiFi, fixed Ethernet, expandable memory, and consume just 2 watts of power.”

The goal of the $10 laptop is ideally meant to broaden the access of computers for ‘poor’ school children around the world. However, considering the onus from the heavy doses of stimulus being applied today to prop global economies, subsidies from governments to finance its distribution would probably be limited. This means successfully bringing prices to this level can only be achieved if it will be driven by the markets.

Nonetheless, the positive outcome from a market based distribution of these inexpensive “socialized laptops” is likely to have a huge impact on laptop and PC prices and sales globally. Notwithstanding the prospects of exponential growth of web based usage.

To give you an idea of the existing industry penetration levels, according to comScore World Metrix, ``global Internet audience (age 15 and older from home and work computers) has surpassed 1 billion visitors in December 2008”.

The breakdown of global audience by region as follows:

Again from comScore World Metrix, ``The Asia-Pacific region accounted for the highest share of global Internet users at 41 percent, followed by Europe (28 percent share), North America (18 percent share), Latin-America (7 percent share), and the Middle East & Africa (5 percent share).”

So based on geographic distribution, growth is likely to favor Asia.

And which country holds the most users?

According to the Economist, ``THE number of people going online has passed one billion for the first time, according to comScore, an online metrics company. Almost 180m internet users—over one in six of the world's online population—live in China, more than any other country. Until a few months ago America had most web users, but with 163m people online, or over half of its total population, it has reached saturation point. More populous countries such as China, Brazil and India have many more potential users and will eventually overtake those western countries with already high penetration rates. ComScore counts only unique users above the age of 15 and excludes access in internet cafes and via mobile devices.

To quote Forbes Nanotech's brilliant Josh Wolfe in Airbrushing Airwaves & The Adjacent Possible ``The history of technology has been one of displaced labor. New jobs are birthed as old ones die. Talent is embedded in technology. And technology gets further embedded in advanced materials."

The $10 laptop is likely to democratize the knowledge revolution globally.

Update: From hype to dud, the supposed 'laptop' turns out to be another computing device....

This from the Times of India ``The hype surrounding the $10 laptop ``prototype'' with two GB RAM turned out to be a joke when the department of Human Resources Development announced — during its inauguration in the temple town of Tirupati — that it wasn't a laptop at all but a computing device.

While the world eagerly waited for the launch of the $10 laptop — designed by students of Vellore Institute of Technology, scientists in Indian Institute of Science, Bangalore, IIT-Madras, UGC and MHRD — it wasn't a patch on the $100 laptop made by MIT.

The MHRD officials said the price was working out to be $20 but with mass production it was bound to come down to $10 (Rs 500) and thus become affordable for every student in India.

But netizens were disappointed when the ``laptop'' turned out to be nothing more than a computing device along with a hard disk with e-books, e-journals and relevant educative material through the state-art-of-the-art ``Sakshat'' portal.

Learning from Past Crisis; History As Basis For the Future

``When you see that trading is done, not by consent, but by compulsion - when you see that in order to produce, you need to obtain permission from men who produce nothing – when you see money flowing to those who deal, not in goods, but in favors – when you see that men get richer by graft and pull than by work, and your laws don't protect you against them, but protect them against you – when you see corruption being rewarded and honesty becoming a self-sacrifice – you may know that your society is doomed.” Ayn Rand, Atlas Shrugged

Most of us would like to know when this crisis might come to a close. Most of us would also like to know when life might ‘normalize’.

Of course, life, as we know it, won’t likely be the same or “normalize” as it had been during the past decade.

We are likely to live in a world which will be governed by more regulations, higher interest rates, lower leverage, higher taxes, possibly diminished ‘globalization’ in terms of trade, and capital flows and reduced political freedom especially seen through the lens of the once liberal Anglo-Saxon world, as discussed earlier in 2009: Asian Markets Could OUTPERFORM.

Yet even as they undergo rehabilitation, we can’t discount the reemergence of bubbles through other asset classes and the reorientation of the conduct of the world’s political economy. Remember, bubble cycles are the inherent character of our paper money system.

Historical Roadmap

Moreover, while history may not exactly repeat, the lessons of the past may provide us with some essential clues or may function as some sort of a roadmap to help guide us in navigating our way through the present financial crisis.

As we have discussed in Will Previous Crisis Serve As Deserving Guidepost For Today’s Crisis?, Harvard Professor and former IMF chief economist Kenneth Rogoff and Carmen Reinhart recently updated a study of the previous world crises, see figure 1.

Figure 1 Rogoff-Reinhart: Learning From The World’s Past Real Estate-Banking Crises

In the Rogoff-Reinhart paper, the ‘Aftermath of the Crisis’, we are treated to 18 major post war banking-real estate crises of advanced economies including some of the recent emerging markets crises and its consequent impact to domestic real estate and the equity market in terms of pricing based losses and the periods of agonizing adjustments (peak-to-trough).

We can observe that the typical or average housing cycle (right window) losses of real housing prices have been 35.5% and has lasted an average of 6 years. As you may notice, the Philippines, in the wake of the Asian Crisis in 1997, suffered the second biggest loss of 50% after Hong Kong, and where our painstaking market cleansing cycle culminated after 6 long years. It is also important to note that the longest real estate bear market cycle was recorded in Japan and which registered over 15 years of losses.

Next, equity losses averaged 55.9% which lasted for about 3.4 years.

In addition, a defining characteristic of such crises is that the real public debt exploded as governments suffer from falling tax revenues and increased spending to fight off recession. On the average, real public debts ballooned by 86%.

Applying Past Lessons Today

So where are we today?

Figure 2: US Housing Prices (researchrecap) Japan Housing Prices (J. Quinn: Financial Sense)

If we are to base our analysis on the epicenter of today’s crisis which is the US, then housing prices based on the Case-Shiller index has lost 30% (see figure 2, left window), and is almost near the average loss of 35% during similar crises. Peaking in 2005, the housing bear market is now on its 4th year which is also approaching the average of 6 years.

In terms of the bear market cycle in equities, the major US bellwether as signified by the S&P 500 has lost over 50% and is now 16 months old or 1.3 years. Compared to the average of 3.4 years, the equity bear market cycle suggests of a transition for about two years more.

So simplistically speaking 2011 should be a turning point for the US real estate and US equities…if we are to base it on the average.

But as our earlier caveat, all crises aren’t the same.

Further, the average alludes to the typical. Since today’s landscape is global in scope compared against a regional or national phenomenon in the past, it is likely that the disposition of today’s crisis will be distinct.

Besides, the collective global government response has been unprecedented in scale. Importantly, today’s crisis jolts the foundations of the world’s monetary architecture. Hence, today’s crisis may not be the archetype.

What seems to be relevant is that the US government has been implementing almost similar policy responses as with Japan in the 1990s following its bubble bust.

The Keynesian approach of Zero Interest Rate, government infrastructure spending, tax cuts and rebates and monetary manipulations via the purchase of commercial paper, shares of public companies and provision of bailout funds for bailouts only resulted to a prolonged era of distress from which Japan’s real estate fell by over 15 years (see right window) and whose stock market went nowhere from 1990s until today.

Just recently, Japan’s key benchmark, the Nikkei 225 crashed below its support level shaped during the trough of 2003 to register a NEW low. The Nikkei which presently drifts near the 2003 lows reflects a loss of over 80% from the peak in 1990, nearly 20 years ago!

Of course some may argue that the rapid fire response by the US government may do the magic trick. Well, for us, the fundamental defiance of nature’s economic laws will either bring short term panacea with long lasting torment similar to Japan or precipitate another set of collapse.

Conclusion

Nonetheless, in our opinion, the US won’t probably see a bullmarket for years to come, even if the economy manages to emerge out of the recession. The indemnity from the recent crisis will be scathingly enormous and will contribute heftily to the suboptimal growth outlook. Besides, the intensity of government interventions seems likely to create substantial inefficiencies in the economy that should weigh on its productivity. Moreover, the US will have to deal with its ballooning unfunded entitlement liabilities.

Remember, it took almost 25 years for the Dow Jones Industrial to breach its 1929 peak. In the same vein, US benchmarks haven’t successfully broken through the dot.com pinnacle set in 2000, which makes today’s bear market nearly 10 years old! Hence it is likely that the US could be rangebound or muddle through over the next few years or even in the next decade.

Of course, we’d argue otherwise that if the Obama-Bernanke tandem prints an ocean of money similar to Dr. Gideon Gono’s policy approach in Zimbabwe. While this may boost share prices, not out of earnings, but because people may shun the destruction of its currency and seek sanctuary in hard assets or in stocks as ‘stores of values’, the net effect is that any nominal gains will be offset by currency losses.

Thus, the lesson we can get from the Rogoff-Reinhart study may possibly apply NOT to the US or the credit bubble infected economies. But as possible beacon to the performances of economies or markets untainted by the credit bubble structure but had been affected by the contagion from the implosion of the proximate epicenters of the bubbles.

While 2008 had been a year of convergence as we discussed in Will “Divergences” Be A Theme for 2009?, we’d probably see the resurrection of an unpopular discarded theory.

What Posttraumatic Stress Disorder (PTSD) Have To Do With Today’s Financial Crisis

``The most popular method of deprecating capitalism is to make it responsible for every condition which is considered unsatisfactory. Tuberculosis and, until a few years ago, syphilis, were called diseases of capitalism. The destitution of scores of millions in countries like India, which did not adopt capitalism, is blamed on capitalism. It is a sad fact that people become debilitated in old age and finally die. But this happens not only to salesmen but also to employers, and it was no less tragic in the precapitalistic ages than it is under capitalism. Prostitution, dipsomania, and drug addiction are all called capitalist vices. Ludwig von Mises Economic Teaching at the Universities

Lessons from Nassim Taleb

There are two important things I’ve learned from my favorite iconoclast Nassim Taleb, the chief proponent of the Black Swan Theory.

One is that he cautions the public to indulge in the study of markets or economies centered upon highly flawed but popular econometric models which are nothing but algorithms designed to operate on sterilized environments similar to classroom or laboratory conditions.

Since these computer models unrealistically operate on the assumption that every factor can be anticipated, examined and evaluated, risks are therefore assumed to be under control. Yet, the complex nature of our world can lead to manifold variables which can’t be read, evaluated or anticipated. The impact of which is known as randomness or the BLACK SWAN, a low probability but HIGH impact event, and is the nemesis of these ‘quant’ models. For instance the humongous losses in today’s financial crisis have been be partially blamed on the failure of quant models to anticipate risks from statistical fat tails.

Second, the other lesson taught by our unorthodox savant is to avoid getting trapped with cognitive biases such as projecting past connections and outcomes into the future.

The Sanctity of Delusion

Today we are told that the world is going to the sewer.

That is because the US, which has functioned as the only major ‘aggregate demand’ of the world, can’t live up to its role as it is undergoing a deep recession. In corollary, these experts further assert that the world won’t be able won’t replace the US as the provider of demand because of its sheer size. In other words, past performance guarantees tomorrow’s outcome.

Based on their economic premise, where supply exists only as a function of demand, then with today’s imploding private sector credit bubble, which has deeply dented the demand equation, must be replaced and absorbed by the government. Therefore, the government’s role MUST be to create artificial demand by printing up as much money in order to sustain the bursting bubble structure.

Tersely said, from the private sector, the credit bubble now is being reconfigured to one known as a government credit bubble. And this seems to be what we are seeing all around the world. From nationalization, “bad bank” or other means of government interventions, the idea is to transfer the leverage and the attendant losses to the government.

The same logic says that if Bernard Madoff was a fraud, and had operated on an unsustainable platform which didn’t last, the government’s insistence of operating on the same an unsustainable platform, but charged to the taxpayers and meant for the “good of the citizenry”, MUST SUCCEED. The difference was that Madoff was a felon, while governments sustaining bubbles for chimerical prosperity, are deemed as legitimate and for a good cause.

Unfortunately for Madoff, he was an individual and not privileged to conduct the same scheme which is equally being thrown to the public by governments. But the underlying principle of both Madoff and the governments is the same: to get something from nothing!

In other words, you resolve the problem of drug addiction by providing more drugs. If you are Madoff you get charged with drug pushing. But if you are the government, you receive plaudits for a fighting for a good cause.

In a reality check, unsustainable trends which can’t last, won’t! NO amount of the printing press nostrums will make illusions a reality.

Reality has finally landed in Zimbabwe. The Mugabe-Gono government finally capitulated to the marketplace realities by allowing the depressed African economy to trade in foreign currencies which in effect jettisoned the local currency, the Zimbabwe dollar. This also means the Mugabe-Gono government will fall soon. And in the same vein, all nationalizations or government guarantees are only as good as the real capital standing behind these.

Does the words of Karl Marx in Das Kapita in 1867…``Owners of capital will stimulate the working class to buy more and more of expensive goods, houses and technology, pushing them to take more and more expensive credits, until their debt becomes unbearable. The unpaid debt will lead to bankruptcy of banks, which will have to be nationalized, and the State will have to take the road which will eventually lead to communism"…ring a bell?

Fairy Tales Cures and Self Righteousness

Yet popular opinion believes in fairytale cures.

To call for market forces to rectify the situation, one risks being labeled as insane, inhuman or bloodless.

Nevertheless just look at level of desperation policymakers are into so as to consider ridiculous ideas to restore an unsustainable structure of economic growth:

-In déjà vu to the hog reduction program of the Great Depression of the 1930s, US policy makers are considering to boosts car sales via a program known as "cash for clunkers". (CNNmoney) Yes, the US government plans to buy and junk old cars so as to motivate its populace to buy new ones. If the policy gets enacted, this is going to be a waste of productive resources.

-Moreover, they are considering “to renegotiate mortgages it owns that might otherwise enter foreclosure” (Washington Post) or allow “bankruptcy judges to modify the mortgages of troubled homeowners” (Washington Post) all at the expense of the property rights of American people.

To add, not content with plans to impose tons of regulations on the national level, the statists have been contemplating on to expand impositions abroad. Signs of protectionism, which had greatly contributed to the Great Depression of the 1929, are surfacing in the political arena. At the confirmation hearing, Treasury Secretary Tim Geither unleashed what he “believes that China is manipulating its currency” (Wall Street Journal). In addition, the stimulus bill which was recently passed by Congress contained a “Buy America” rider (Washington Post).

All these actions seem to agitate for a mutually devastating global trade war.

And why would authorities engage in such potentially calamitous actions? We understand 3 possible things: economic ignorance, messianic complexity or plain political rhetoric.

Realities say that the US doesn’t produce enough, that’s why it incurs trade deficit. And a trade war would mean massive catastrophic shortages. Think oil. The US imports 60% of its oil requirements (CNNmoney). If world trade shuts, the economic implication would be a collapse in the US economy with a geopolitical implication of a possible World War 3.

And also considering that the US is the largest debtor nation in the world, it wouldn’t be far where a trade war would also extrapolate to an equally internecine debt default. And what’s to stop these interventionists fools from inciting a war economy or the misguided belief that only war, after everything else fails, can stimulate the economy?

Now we turn the tables and wonder who is insane, inhuman or bloodless? Does provoking a trade war which has dire consequences similar or worst in scale than the Great Depression a humane and charitable option? How altruistic is it, if the world goes into war out of the desire to stimulate the economy? How does hyperinflation as in the case of Zimbabwe lead to progress? How charitable can it be to live a world of self delusion?

Does the 2008 Global Trade and Production Collapse Signify Posttraumatic Stress Disorder?

If a bubble structure can be characterized by unrestrained credit creation, speculative excess seen in asset inflation and unparalleled concentration of financial wealth and power, then in as much as the massive wage or income disparities or “Shameful bonuses” in Wall Street relative to the average Americans had been a function of a bubble structure, the world’s production-supply chain structure have also been partly been built around the same bubble environment.

And today’s bursting bubble which has prompted for “demand destruction” has been met by more “supply destruction”.

Yet what seems to be remarkable has been the sharp collapse in global production and trade.

Figure 3: IMF World Economic Outlook: Collapse of Global Industrial Production and Merchandise Trade

The chart IMF’s World Economic Outlook demonstrates the seeming peculiarity of the last quarter’s world trade and production activities.

If you are to compare with the dot.com days or the previous bubble bust and its ensuing recession, you’d notice that the same trends went into a steady decline over a period of time (years). But this hasn’t been the case last year. The outright collapse in just ONE MONTH by both economic variables suggests that world suddenly stopped doing anything and merely watched in shock and awe!

And why would the world do that? The obvious answer is the shock emanating from the near meltdown of the US banking system subsequent to the Lehman debacle. This has been prompted for by the institutional bank run in the US banking system as discussed in last October’s Has The Global Banking Stress Been a Manifestation of Declining Confidence In The Paper Money System?

So contrary to mainstream views which ANCHORS upon this collapse as their basis for prediction, we suggest instead that this could be a function of a Posttraumatic stress disorder (PTSD) where according to Wikipedia.org, ``is an anxiety disorder that can develop after exposure to one or more terrifying events that threatened or caused grave physical harm.”

As an example, the 9/11 terrorist attack on the World Trade Center was graphically captured in living color by media. The repeated airing of the deplorable terrorist event heightened the fear of air travel which thereby caused a shift or substitution in some of the public’s traveling patterns.

And the shift emanating from the fear, resulted to more casualties from the higher risk land transportation.

According to a study The Impact of 9/11 on Driving Fatalities: The Other Lives Lost to Terrorism by Garrick Blalock, Vrinda Kadiyali, Daniel H. Simon, ``We find that driving fatalities increased significantly following the terrorist attacks of September 11, 2001, an event which prompted many travelers to substitute less-safe surface transportation for safer air transportation. After controlling for time trends, weather, road conditions, and other factors, we attribute an increase of 242 driving fatalities per month to additional road travel undertaken in response to 9/11. In total, our results suggest that about 1,200 driving deaths are attributable to the effect of 9/11. We also provide evidence that is consistent with the 9/11 effect on driving fatalities weakening over time as drivers return to flying. Our results show that the public response to terrorist threats can create unintended consequences that rival the attacks themselves in severity.”

Why is this so? According to Trevor Butterworth, ``Because fear strengthens memory, catastrophes such as earthquakes, plane crashes, and terrorist incidents completely capture our attention. As a result, we overestimate the odds of dreadful but infrequent events and underestimate how risky ordinary events are. The drama and excitement of improbable events make them appear to be more common.”

So given Mr. Butterworth’s tread, could we be “overestimating the odds of dreadful but infrequent events and underestimating how risky ordinary events are”?

Evidences of PTSD

Some evidences show we are.

One, global barter trade has been picking up. [see Does Growing World Barter Trade Suggests Of Bigger Cracks In Today's Monetary Order?]

According to the Financial Times, ``Officials estimated that they ranged from $5m for smaller contracts to more than $500m for the biggest.” It could be more. There have been accounts of barter since this episode has unraveled.

And the reported cause? ``Failure to secure trade financing as bank lending has dried up.”

The fact that governments have traded OUTSIDE the financial system, means demand and supply seems intact for basic necessities for them to conduct trade. The fundamental problem lies within the traditional means of facilitating payment and settlement via the banking system.

Two possible reasons why governments have been undertaking barter, which is a primitive method of trade:

One, the banking system remains dysfunctional despite the heavy interventions by global governments and

Two, there is a growing distrust for the present medium of exchange. The second finds a voice in Russian Prime Minister Vladimir Putin’s speech in Davos, ``Excessive dependence on a single reserve currency is dangerous for the global economy. Consequently, it would be sensible to encourage the objective process of creating several strong reserve currencies in the future. It is high time we launched a detailed discussion of methods to facilitate a smooth and irreversible switchover to the new model.”

The next evidence could be seen via the surging Baltic Dry Index see figure 4.

Figure 4: stockcharts.com: Rising Baltic Index=Rising Oil and Copper?

The Baltic Dry index according to the wikipedia.org is ``a number issued daily by the London-based Baltic Exchange. The index provides "an assessment of the price of moving the major raw materials by sea. Taking in 26 shipping routes measured on a timecharter and voyage basis, the index covers Handymax, Panamax, and Capesize dry bulk carriers carrying a range of commodities including coal, iron ore and grain.”

Plainly put, the Baltic Index is the cost of freight to move raw materials or basic commodities. It could be seen as a leading indicator.

So far the Baltic Index has risen by 60%, whereas oil and copper appears to be consolidating or “bottoming” even as the US dollar index has been going up. To recall, during the October-November collapse, the US dollar has inversely accompanied the rapid declines of the Baltic index as with the oil and copper.

The seeming divergence could be added signs of the diminishing influences of debt deflation.

Furthermore, even in the US, there are signs that production and inventory or supply destruction have been catching up with its counterpart demand destruction see figure 5.

Figure 5: Danske Bank: Is the US Manufacturing Sector Beginning to Recover?

These observations from the Danske Team (bold emphasis mine),

``First, prior to the recession the US manufacturing industry ran very lean inventories. Second, the liquidity squeeze from the credit crisis has led to an unusually fast alignment of production to demand fundamentals.

``Consequently, the pace of production is now undershooting the slowdown in demand. Hence, it will merely take stabilisation in demand growth to spark an industrial recovery.

The Danske team suggests that the first signs of recovery will be manifested over the ISM index which may stabilize and recover over the coming 3-6 months. In addition, a recovery in the ISM index will most likely add pressure to long US bond yields and signal stabilization in corporate earnings.

While I don’t necessarily share the optimism of the Danske team, the point is that the recent collapse have meaningfully adjusted both the demand and supply equation possibly enough to generate some market based (and not government instituted) revival.

So from growing world barter activities, buttressed by the rising Baltic Dry index, and a potential run down of inventories and similar downside adjustments in the supply side production could mean a semblance of restoration of global trade.

And if indeed the Danske Team is right about their forecast about the manufacturing recovery in the US, then this could signal a potential trough or nearing close of the US recession.

But then again, as a reminder, the cardinal sins in policymaking that could lead to prolonged bear markets: protectionism (nationalism, high tariffs, capital controls), regulatory overkill (high cost from added bureaucracy), monetary policy mistakes (bubble forming policies as negative real rates), excess taxation or war (political instability). Except for the last threat, the 4 seems likely a clear and present danger.

Will An Easing PTSD Lead To A Resurgent Asia?

Nonetheless, if the US supply side has adjusted to counterbalance the sharp fall in demand, then it is likely that the spate of sharp declines in the economic activities in most of Asia can be construed as the same degree of supply/production side adjustments.

Figure 6: DBS Bank: Asia’s Industrial Production Recovered earlier during the .com recession

Like in 2001, Asia’s heavy exposure to the technology sector hit exporters. Today, the sharp decline in US consumer spending has equally affected Asia’s exports as much as it also affected production. However, the sharp drop late last year could likely be explained by the Posttraumatic stress disorder (PTSD) emanating from the distress in the banking system.

But unlike in 2001, which saw Asia as floundering from the nasty side effects of the Asian Crisis, where there essentially had been no domestic demand, this isn’t the case today. Asia has simply grown bigger and more dynamic and with ample shield from its high savings enough to potentially generate its own demand.

The recent DBS bank outlook says it best, ``Asia now generates almost as much new demand every year as the US- and it is that fresh demand that’s the very definition of global growth. The US is still a key driver and will remain so for a long time. But it is not the driver it used to be.” (bold emphasis mine)

And the Economist seems to agree, ``The question is, might domestic demand now take up some of the slack? There are reasons to think so. Falling commodity prices are boosting consumers’ purchasing power, just as they squeezed it last year. More important is the impact of monetary and fiscal expansion…(bold emphasis mine)

And the Economist sings to be singing a tune similar to ours, ``Asia has never before deployed its monetary and fiscal weapons with such force. Every country across the region has cut interest rates and announced a fiscal stimulus. In previous downturns, Asian governments were often constrained by dire public finances or the need to support currencies. But most countries entered this downturn with small budget deficits or even surpluses. All the main Asian emerging economies apart from India have relatively low ratios of public debt to GDP.” (bold emphasis mine)

In our Will “Divergences” Be A Theme for 2009?, we brought up the Austrian economics explanation that ``market rate of interest means different things to different segments of the structure of production.”

In essence we believe that convergent actions by global central banks will ultimately lead to divergent responses based on the capital and production structure of every economy.

Where the same amount of rain is applied to a desert land, forest land or grass land, the output will obviously be different. And to complement the DBS and Economist outlook, we recently said ``this crisis should serve as Asia’s window of opportunity to amass economic, financial and geopolitical clout amidst its staggering competitors. But this will probably come gradually and develop overtime and possibly be manifested initially in the activities of the marketplace.”

So to refrain from overestimating the odds of dreadful but infrequent events and underestimate how risky ordinary events are, we revert to the study of Garrick Blalock, Vrinda Kadiyali, Daniel H. Simon who concludes, ``Although we are unable to identify precisely reasons for either the 9/11 effect or its weakening, the existence of the effect is consistent with theoretical models in behavioral economics and psychology of inaccurate assessment of risks by consumers and exaggerated adjustments to risk assessments. The fortunate weakening of the 9/11 effect may be attributable to consumer learning over time in response to environmental changes. For example, the perceived risk of flying may have declined with the absence of any further terrorist incidents since 9/11, or travelers may have become accustomed to the increased inconvenience of flying.”

No we don’t just read past data and project them to the future like most of the experts. Instead, we try to understand that human action, to quote Ludwig von Mises, is a purposeful behavior!

10 Reasons Why Pump Priming Won’t Work As Planned

``The Marxians, Keynesians, Veblenians, and other "progressives" know very well that their doctrines cannot stand any critical analysis. They are fully aware of the fact that one representative of sound economics in their department would nullify all their teachings. This is why they are so anxious to bar every "orthodox" from access to the strongholds of their "un-orthodoxy."- Ludwig von Mises, Economic Teaching at the Universities

Here are 10 reasons why Keynesian stimulus won’t help pull the US out of its economic miseries.

1. Money will have to be paid by someone.

From Wall Street Journal Street, ``Whether or not you think new spending will stimulate the economy, the one undeniable truth is that this money has to come from somewhere, which means that it is borrowed or taxed from the private economy. This spending blowout is all but guaranteeing huge future tax increases, and anyone who thinks only the rich will pay is living an illusion.”

There is NO free lunch. Stimulus will have to be paid by higher taxes, increased borrowing or inflation.

2. Incoherent plan addled by too many objectives.

From the New York Times, ``Some caution that President Obama’s proposals try to achieve too many objectives — for example, broader health care coverage and energy efficiency — at the expense of focusing tax dollars on the core issue of job creation. By this argument, more should be spent on things like infrastructure repair, either directly or by channeling money to the states for projects now delayed for lack of adequate tax revenue.

``Others argue that the best bang for the buck would come from a stimulus package devoted mainly to tax cuts rather than public investment. The breakdown in the $819 billion bill that the House approved on Wednesday and the Senate will take up next week is two-thirds spending, one-third tax cuts.

From the Washington Post, ``All of those ideas may have merit, but why do they belong in an emergency measure aimed to kick-start the economy?”

Acts of desperation to come up with messianic one off solutions will only lead to more extravagance, leakages and ineffective policies all at the expense of the taxpayers.

3. Ambiguous “targeting” and chronic “deficits”.

From Henry Hazlitt in Man vs. The Welfare State (all bold highlights mine),

``The reason the Keynesian medicine can work — under special conditions and for short periods — is that by increasing monetary demand and prices it may increase both sales and profit margins, and so restore production and employment. Yet this could be done even more effectively — and without the poisonous side effects and aftereffects — by restoring freedom of competition and individual coordination of prices and wages.

``The Keynesians think in terms of aggregates. Their remedy is to increase the total money supply, and thereby to bring the price "level" sufficiently above the wage "level" to restore or maintain profit margins and so keep the wheels of industry spinning at full speed.

``This remedy is defective in two respects. It tacitly assumes that there is a uniform discrepancy between prices and wages and a uniform percentage of "idle capacity" throughout industry. Neither is true. If "industry" is estimated to be operating at 80% of capacity, we must remember that this figure is at best an average. It may cover a situation in which, say, industry A is operating at only 60%, industry B at 63%, and so on up to industry M at 97% and industry N at 100%. If we try to expand the money supply enough to return industries A and B to full capacity, we may completely "overheat" industries M and N and produce serious productive distortions and bottlenecks.

``What is more, an increase in the stock of money, contrary to Keynesian theory, will begin to force an irregular increase in prices long before "full capacity" has been reached and the "slack" taken up — if only for the reason that the "slack" is never uniform throughout industry. In a very short time, also, with the increase in prices and the increase in the demand for labor, wages will start climbing too. Then, if the previous trouble was that most wages were already too high in relation to most prices, there will again be discoordination between wages and prices; and the Keynesian prescription will call for still further doses of government spending, deficits, and new money.

``So the Keynesian medicine must lead to chronic deficits and chronic inflating of the money supply. This is precisely what we have had. It is no accident that we have just run eight annual deficits in succession, and that we have had 32 deficits in the last 38 years. It is no accident that the US money supply (currency plus demand deposits) has been increased more than fivefold — from $36 billion at the end of 1939 to $199 billion in September, 1969. And so it is no accident that, in spite of a tremendous increase in industrial production in this thirty-year period, consumer prices have increased (to June, 1969) by 164%.

Good or bad economics can always be distinguished from the perspective of time horizon, particularly the tradeoff between short versus long term. Where the policy priority seems focused on short term relief and eventually countermanded by long term pain, such represents as bad economics.

``In the long run, we are all dead” is a tenet espoused by economists with no children who will pay for future bills.

4. Mistaken assumptions lead to flawed economic models.

From the Heritage Foundation, ``Policymakers are basing the “stimulus” bill on economic models that wrongly assume every $1 of government spending increases the economy by approximately $1.60. Is it really that simple? By that logic, debt-ridden, big-government countries like Italy, France and Germany should be wealthier than America. And why stop at $800 billion? Such logic suggests unlimited prosperity could be guaranteed by the government borrowing and spending $800 trillion. Should America be basing such costly decisions on these types of economic models?

From Harvard Professor Robert Barro at the Wall Street Journal, ``What's the flaw? The theory (a simple Keynesian macroeconomic model) implicitly assumes that the government is better than the private market at marshaling idle resources to produce useful stuff. Unemployed labor and capital can be utilized at essentially zero social cost, but the private market is somehow unable to figure any of this out. In other words, there is something wrong with the price system.

``John Maynard Keynes thought that the problem lay with wages and prices that were stuck at excessive levels. But this problem could be readily fixed by expansionary monetary policy, enough of which will mean that wages and prices do not have to fall. So, something deeper must be involved -- but economists have not come up with explanations, such as incomplete information, for multipliers above one.

Selectivity bias- experts blinded with economic ideology selectively use data which supports their argument even if the assumptions are defective.

5. Inefficient or wasteful government spending because it is NOT demanded for by the markets.

From Professor Gary Becker, ``Putting new infrastructure spending in depressed areas like Detroit might have a big stimulating effect since infrastructure building projects in these areas can utilize some of the considerable unemployed resources there. However, many of these areas are also declining because they have been producing goods and services that are not in great demand, and will not be in demand in the future. Therefore, the overall value added by improving their roads and other infrastructure is likely to be a lot less than if the new infrastructure were located in growing areas that might have relatively little unemployment, but do have great demand for more roads, schools, and other types of long-term infrastructure.”

Not all infrastructure spending works. Ask Japan.

6. Theory and reality don’t match.

In theory, deficit spending should be switched on during bad times and switched off during good times.

But in reality, deficit spending has been a permanent affair.

Figure 7: Heritage: Real annual federal spending has more than tripled since 1965 and has nearly doubled since 1980.

From the Heritage Foundry, ``According to the suddenly back in style Keynesian theory, government can stimulate economic growth by temporarily increasing government spending. Problem is, there was nothing temporary about increases in government spending under Nixon and there is nothing temporary about the trillion dollars in new spending currently being debated in Congress.”

7. Stimulus meant to impose political IDEOLOGY than sound economics.

From Wall Street Journal, ``The spending portion of the stimulus, in short, isn't really about the economy. It's about promoting long-time Democratic policy goals, such as subsidizing health care for the middle class and promoting alternative energy. The "stimulus" is merely the mother of all political excuses to pack as much of this spending agenda as possible into a single bill when Mr. Obama is at his political zenith.

Some have used the “stimulus” as a vehicle to impose on the society their personal ideological convictions. Ultimately it is the people that pay for flawed ideologies. Think Marx, Lenin, Stalin, Mao, Pol Pot, Hitler, etc…

8. Time Lag for Government Spending.

Where spending is supposedly needed NOW, public works spending will come later.

Again, from Professor Gary Becker, ``Efficiency is not likely to be high partly because of the fundamental conflict between the goal of stimulating employment and output in order to reduce the severity of the recession, and the goal of concentrating infrastructure spending on projects that add a lot of value to the economy. Stimulating the economy when employment is falling requires rapid spending of this huge stimulus package, but it is impossible for either the private or public sectors to spend effectively a large amount in a short time period since good spending takes a lot of planning time.

The net effect is that the stimulus will either be late or unneeded.

9. Inefficiencies due to political dispensation.

From Mr. George Melloan at the Wall Street Journal, ``The central defect of government bailouts and stimulus packages is that the money is allocated through a political process. It goes to recipients who have the most political influence. Private entrepreneurs and even big business, by contrast, employ investment to earn a profit. The record shows that the latter yields greater economic efficiency, and hence creates real jobs.”

Political doleouts are almost always based on political affiliations and not on economic needs. The net effects are, wastage, corruption and inefficiencies.

Fellow Filipinos, learn that it isn’t personality based leadership that drives corruption but big bureaucracy, escalating government spending and the subsequent political process driven distribution of government endowments and the dependency and rent seeking culture.

10. Chronic Deficits Equals Inflation.

From John Hussman, ``It's tempting to think that somehow printing money means an increase in spending power, while issuing bonds means that the government is taking something in return for what it spends, but it's important to focus on the general equilibrium. In both cases, regardless of whether government finances its spending by printing money or issuing bonds, the end result is that the government has appropriated some amount of goods and services, and has issued a piece of paper – a government liability – in return, which has to be held by somebody. Moreover, both of those pieces of paper – currency and Treasury securities – compete in the portfolios of individuals as stores of value and means of payment. The values of currency and government securities are not set independently of each other, but in tight competition. That is particularly true today, when bank balances are regularly swept into interest earning vehicles as often as every night. To the extent that real goods and services are being appropriated by government in return for an increasing supply of paper receipts, whatever the form, aggressive government spending results in a relative scarcity of goods and services outside of government control, and an increasing supply of government liabilities. The marginal utility of goods and services tends to rise, the marginal utility of government liabilities of all types tends to fall, and you get inflation.”

The end result of stimulus programs: a greatly debased currency (lower standard of living).

How can these be of any good?