$200 Per Barrel Oil, Here We Come!

``This gets back to the disagreement I’ve had with the “inflationists” for years now: In the name of Keynesian economics, inflation proponents have repeatedly called for massive stimulus in response to the bursting of THE Bubble, while in reality this activist policymaking was instrumental in only extending and worsening a systemic Credit Bubble. This was especially the case after the bursting of the technology Bubble and is again true today following the bursting of the Wall Street finance/mortgage finance Bubble. Now, more than ever before, “Keynesian” inflationism is THE Bubble. When it eventually bursts Washington policymakers will have little left to offer.” Doug Noland Inflationism’s Seductive Battle Cry

For us, $200 oil is not an issue of IF, but rather an issue of WHEN. This will be highly dependent on the course of actions undertaken by global policymakers.

Here, we won’t deal with demand and supply imbalances of oil, as we had made our case late last year in Reflexivity Theory And $60 Oil: Fairy Tales or Great Depression?, instead we will deal with the rapidly evolving market signals and prospective political actions by policymakers

Growing Disconnect Between Markets And Real Economy

“World oil demand to hit 28-year low” screams the headline from the National.

So one must be wondering: Why has oil impetuously shot beyond $60? Has the oil market been pricing an abrupt global recovery?

The Economist instead finds justification on widening supply constraints, ``The explanation is simple. Oilmen are worried because they believe that many of the factors behind the record-breaking ascent last year remain in place. Much of the world’s “easy” oil has already been extracted, or is in the hands of nationalist governments that will not allow foreigners to exploit it…So when demand begins to revive, a sharp rise in prices is inevitable. That does not mean that a price spike is just around the corner, however. The speed with which it arrives will depend on the strength of the global recovery.”

While the article mainly underscores the geographical access limitations posed by governmental restrictions, falling demand and high inventories, as discussed in Seeds of Hyperinflation Have Been Sown have reflected on an egregious disconnect between fundamentals and the marketplace. The Economist article appears more like an attempt to explain away or to rationalize on the market activity than vet from the causality angle.

The highly reputed independent research outfit the BCA Research has a fabulous chart manifesting this phenomenon, see figure 1.

Figure 1: BCA Research: Oil Breaks Out: Is It Sustainable?

According to the BCA, ``The higher price of oil reflects in part the upturn in Chinese oil imports and car sales at a time when oil production is lagging. Russia continues to have difficulty boosting output and oil production has been flat for most OPEC countries. Saudi Arabia has cut production sharply. As with other commodities, oil should benefit from both a weaker U.S. dollar and a shift in investor portfolio preference toward real assets as a hedge against inflation. The upturn in our global leading economic indicators is another positive sign for the commodity complex.” (bold highlight mine)

True, China has been massively acquiring oil and other commodities.

And we won’t dismiss some veritable evidences of economic and financial “recovery” following the “banking meltdown” late last year, of which has functioned as a psychological “shock” (Posttraumatic Stress Disorder-PTSD) that has buffeted world financial markets and global economy.

But China has been buying way beyond its needs. It has been buying to shore up its strategic reserves.

Analysts at Sanford Bernstein reported that Google Images reveal on how China has been intensively constructing depots to hold oil. ``Bernstein says satellite images show a marked increase in oil-storage construction over the past few years and estimates that China’s number of days of forward demand–a gauge of oil storage–amount to just 28 days of imports and 14 days of total demand. China is targeting storage capacity that will hold demand cover of around 90 days,” wrote the Wall Street Journal,

Yet according to another researcher as excerpted by the Guardian, China plans to amass 3 million tonnes (about 22.5 million barrels) of oil, ``China wants to set up a 3 million tonne reserve of oil products this year, which is practically impossible, a researcher at a think-tank run by the country's top oil refiner, Sinopec Group, was quoted as saying on Saturday.”

Moreover, China’s huge appetite for commodities registered record imports for Copper and Aluminum this April. However many experts say that China’s buying activities for these commodities may have probably peaked since targets may have been met. According to Bloomberg, ``Refined copper imports by China will slow over the rest of this year as scrap supplies improve, said Ma Xiaoqin, deputy- general manager of the copper department at Minmetals Nonferrous Metals Co., the country’s largest trader, on May 8. The State Reserve Bureau has mostly completed its buying and stockpiling by manufacturers has ended, said Edward Fang, an analyst at China International Futures (Shanghai) Co.”

If such buying activities have indeed culminated then copper and aluminum prices should be expected to meaningfully correct, see figure 2. But we have our doubts.

Figure 2: stockcharts.com: Copper and Aluminum

So far only Aluminum has been showing signs of relative weakness. Although copper seems to be in a consolidation phase where a “pennant” pattern (blue converging lines) may suggest a continuation of the present uptrend.

China Attempts To Balance Political Rhetoric With Market Actions And Political Goals

This isn’t about China believing its own “bullish” tale of vigorous economic recovery, where the supposed “conventional” view equates China’s economic growth to commodity bullishness. Instead the above dynamics reflects the ongoing inflation phenomenon.

The fact that China’s officials have raised the furor over possible losses of its US asset portfolio holdings from the current US policies appears to dovetail with the activities in the commodities market.

China’s Premier Wen Jiabao, as quoted by the Financial Times recently said, ``We have lent a huge amount of money to the United States,” Mr Wen said. “Of course we are concerned about the safety of our assets. To be honest, I am a little bit worried. I request the US to maintain its good credit, to honour its promises and to guarantee the safety of China’s assets.” (bold emphasis mine)

Of course one may argue that China’s acquisition of US assets hasn’t slowed.

In contrast to Premier Wen’s statement, China has even increased its acquisition of US treasuries see Figure 3. And this would seem like a conflict between China’s intentions and actions. But this view myopically glosses over the geopolitical implication. There’s more than meets the eye.

Figure 3: New York Times: China’s Changing Role

It would be tantamount to political suicide if China decides to naively “sell” US treasuries to support its concerns, especially under the present environment which has been a fertile ground for engendering protectionist policies. For instance, recently some US lawmakers have revived efforts to brand China as a currency manipulator. Hence mass liquidations of treasuries would only fuel bilateral antagonism. And a trade war isn’t in the interest of China.

Another, it isn’t also a certainty that the underlying motivation behind China’s purchases of US assets reflects on the same paradigm of “promoting exports” as it had been in the past. Past performance doesn’t guarantee future results-that’s because the incentives behind today’s conditions have radically changed. The US consumer model as the world’s growth engine has apparently been broken. And China appears to be well cognizant of this.

Moreover, since China holds massive amount of US dollar assets- estimated at an astounding 82% of foreign currency reserves (Standard Chartered/New York Times)-any mass liquidation will most likely impact the markets extensively and stoke disorder. Where such actions will likely be mutually destructive, such policy directions will likely be avoided.

Hence, China’s political actions should also be seen from a different prism- China may want to be seen in good light with the US, where she would continually support the US even at the risks of incurring substantial losses in its portfolio of US dollar assets.

As Luo Ping, a director-general at the China Banking Regulatory Commission recently justified, ``Except for U.S. Treasuries, what can you hold?”

Moreover, China may want to project that in case a possible mayhem emerges in the financial markets this isn’t going be due to her doing. In other words, China seems to be placing the onus of the consequences from policy choices squarely on US shoulders.

Nevertheless, actions demonstrate preferences. While China remains supportive of the US in terms of buying assets, the composition of its acquisitions has materially changed.

According to the Keith Bradsher of the New York Times, ``China has also changed which Treasuries it buys. It has done so in ways calculated to reduce its exposure to inflation or other problems in the United States. As recently as a year ago, China actively bought long-dated bonds, seeking the extra yield they could bring compared to Treasury securities with short maturities, of which China bought virtually none.

``But in each month since November, China has been buying more Treasury bills, with a maturity of a year or less, than Treasuries with longer maturities. This gives China the option of cashing out its positions in a hurry, by not rolling over its investments into new Treasury bills as they come due should inflation in the United States start rising and make Treasury securities less attractive.” (bold emphasis mine)

So yes, China has been increasing its purchases of US treasuries to appease the US government, but has been concentrating these activities towards short term maturities. And by doing so she has been acting to reduce her risk exposure as well as balancing political rhetoric (bleating about US policies, announcement of past ‘covert’ gold purchases) with market actions (diversifying portfolio holdings into commodities) and political goals.

And aside from heavily buying into commodities, as previously discussed in The Nonsense About Current Account Imbalances And Super-Sovereign Reserve Currency, China has been utilizing its currency as an instrument to expand its political and economic influence across the globe by increasing swap agreements, by providing project financing and conducting trade in the remimbi or ex-US dollar currencies. Recently Brazil and China concluded an accord to conduct transactions using their national currencies instead of the US dollar.

In all, China could be working to insure herself from the risks of substantial US inflation, to expand its influence globally with its currency and possibly to challenge the US hegemony in terms of having the remimbi as a global currency reserve sometime in the future.

The Global Inflation Train Speeds Faster

And as we keep repeating, in the world of unprecedented scale of government intervention in the marketplace combined with unparalleled degree of applied inflationary measures, the repercussions intended or unintended will be vented on the currency markets.

And we agree with Professor Steve Hanke where he wrote in a Forbes article ``There are tectonic moves afoot in the currency markets these days.”

Tectonic moves afoot in the currency markets will also be parlayed in the Oil Market see Figure 4.

Figure 4: stockcharts.com: Inverse Correlation of Oil and the US Dollar

Visibly, oil in the past has moved in consonance with the US dollar, albeit in an inverse scale (see blue trend lines).

This dynamic seems to be a classic rerun as the recent weakness of the US dollar index (USD) has equally coincided with rising oil prices (WTIC-main window).

Alongside this development has been the rise of 10-year US Treasury yields (TNX) in spite of the recent activities from the US Federal Reserve where the ``Fed bought $18.277 billion of U.S. debt in three purchase operations this week and minutes of the central bank’s April 28-29.” (Bloomberg).

The US Federal Reserve in its March 18^th press release has earmarked $300 billion to purchase long term Treasury securities.

But there seems to be one missing ingredient. In the past, the falling US dollar had been accompanied by falling treasury yields-perhaps reflecting what Former Fed Chair Alan Greenspan’s calls as a conundrum of low bond yields. And this phenomenon was suspected to have been influenced by foreign purchases of US treasuries that have kept yields low.

But since recent treasury issuance to fund US government deficits has surged far more than what foreigners or China has recently bought as shown in the chart earlier, where according to the same Bloomberg report, ``President Barack Obama has pushed the nation’s marketable debt to an unprecedented $6.36 trillion. [bold highlight--mine] His administration raised on May 11 its estimate for the deficit this year to a record $1.84 trillion, up 5 percent from the February estimate, and equal to about 13 percent of the nation’s GDP”, yields have materially risen!

And as we have previously discussed in Ignoble Deficits And The $33 Trillion Global Government Debt Bubble?, the colossal government spending by the US and elsewhere and the prospective surges of government treasury issuance are posing as risks towards hefty inflation or national bankruptcies.

Hence, today’s rapidly deteriorating US Dollar, rising treasury yields and rising oil prices seem to be solidifying the manifestations of inflation gaining traction globally.

Credit Rating Downgrades Amidst Exploding Deficits

Figure 5: Washington Post: Projected Deficits

The recent spate of massive waves of deficit spending in many crisis havocked economies has put pressure on their respective credit rating standings.

The S&P recently issued a downgrade from “stable” to “negative” on UK’s outlook which means the country is at risk of losing its coveted AAA status.

Concerns over the same predicament has apparently spilled over to the US considering the huge planned dosages of government spending aimed at jumpstarting the economy as shown in Figure 5.

Well the impact of concerns over these deficits, aside from rising treasury yields, has been deterioration in credit default swaps, which function as insurance against the risks of credit default.

According to Bloomberg, ``The cost to hedge against losses on U.S. government bonds for five years climbed to a three-week high, indicating perceptions the nation’s credit quality is deteriorating. Credit-default swaps on U.S. debt rose 3.5 basis points to 41, the highest since April 29, according to prices from CMA Datavision in New York. An investor would have to pay $41,000 a year to protect $10 million of debt from default.” (bold highlight mine)

Mainstream Calls For More Inflation Ensures Oil at $200!

These credit rating warnings should serve as call to action on governments to limit overspending. Remember there is no free lunch. Ultimately taxpayers will pay for government profligacy.

But will these warnings be heeded? Apparently not.

On the contrary the mainstream has vociferously been desiring for more inflation.

The Bond King, PIMCO’s William Gross, recently predicted that the US will eventually lose its AAA rating according to Bloomberg.

Yet his prescriptions to support the economy account for the same factors that would ensure the US will likely lose its prime credit rating.

It’s because Mr. Gross subscribes to the Keynesian methodology of printing money as a cure, where the same report quotes Mr. Gross, ``We need more than that,” Gross said at the time. The Fed’s balance sheet “will probably have to grow to about $5 trillion or $6 trillion,” he said.”

And the policy prescriptions of Mr. Gross have been joined by the similar calls from well known Harvard experts-Kenneth Rogoff and Greg Mankiw.

``I’m advocating 6 percent inflation for at least a couple of years,” says Rogoff, 56, who’s now a professor at Harvard University. “It would ameliorate the debt bomb and help us work through the deleveraging process.” (Bloomberg)

Meanwhile, Mr. Mankiw former chairman of the Council of Economic Advisors under President George W. Bush said ``Faster inflation might be preferable to increased unemployment, or to further budget stimulus packages that push up the national debt” (Bloomberg)

So in the face of rising risks of default, these mainstream experts sporting a good clout over at the officialdom may be reflective of the policy directions of the present administration.

Of course inflation can be achieved through massive credit expansion (through public or private channels) or via the government spending route or both.

And if Mr. Bond King’s suggestion will be adhered to and if it’ll likewise be copied elsewhere the risk of a runaway inflation will be tremendous.Figure 6: BIS: Balance Sheets of the Central Banks of the US, UK and ECB

Since the advent of the crisis the balance sheets of the US Federal Reserve, the ECB and the Bank of England have surged see figure 6.

So policymakers have made sure that inflation will likely take hold; inflation is what they ask for hence inflation is what we will get.

As Dr. John Hussman admonished in his latest weekly outlook (bold highlight mine),

``The bottom line is that the attempt to save bank bondholders from losses – to provide monetary compensation without economic production – is not sound economic policy but is instead a grand monetary experiment that has never been tried in the developed world except in Germany circa 1921. This policy can only have one of two effects: either it will crowd out over $1 trillion of gross domestic investment that would otherwise have occurred if the appropriate losses had been wiped off the ledger (instead of making bank bondholders whole), or it will result in a stunning and durable increase in the quantity of base money, which will ultimately be accompanied not by a year or two of 5-6% inflation, but most probably by a near-doubling of the U.S. price level over the next decade. As I've noted previously, the growth rate of government spending is better correlated with subsequent inflation than even growth in money supply itself, particularly at 4-year intervals. Regardless of near-term deflation pressures from a continued mortgage crisis, our present course is consistent with double digit inflation once any incipient recovery emerges.”

Even Yale’s David Swenson told Bloomberg that everyone must own inflation protected securities in the face of substantial inflation, ``We’ve had this massive fiscal stimulus, massive monetary stimulus, and it’s hard to see how that doesn’t translate into pretty substantial inflation, or at least pretty substantial risk of inflation,” Swensen, Yale University’s investment chief, said in an interview on the “Consuelo Mack WealthTrack” television show that aired yesterday. Treasury Inflation- Protected Securities “should be in every investor’s portfolio," he said.”

Finally fund manager David Dreman has another unorthodox suggestion for the US government.

He posits that the US stimulus package be directed at the commodity markets.

According to Mr. Dreman, ``My idea is that we accumulate useful resources, such as crude for our strategic oil reserve. This would create new jobs, halt a deflationary spiral and give us some protection against the next international oil crisis. If the government allocated $500 billion at current prices, it would add 10 billion barrels of oil, which amounts to 17 months' consumption. The government could undertake similar purchase programs for copper, aluminum, lead and other essential industrial commodities now trading at very depressed prices.

``An oil-buying binge would be a win for taxpayers as well. Oil bought today below $60 a barrel can be released back into the market at $120 after economic activity has picked up and inflation has resumed.”

Mr. Dreman’s suggestion implies that the US government should engage with China and the rest of the world in a bidding war over oil and other commodities. The idea is to directly stoke inflation by means of direct intervention in the commodity markets.

However, high commodity prices reduce the purchasing power of consumers or the taxpayers, so it is a contradiction how taxpayers/consumers would benefit from high commodity prices. Put differently, the US government may earn from a spread alright, but the world in general will be poorer because of the lesser amount of goods the Americans and people around the world can acquire.

Moreover he seems to suggest that the US government should be transformed into a proprietary trading desk. Governments don’t work for profit but for social concerns.

Besides a policy directed at a race to own commodities could serve as a casus belli for a world war at war or a world resource war.

What have these “inflationists” have been smoking, anyway?

Overall, the inflationary policies of global governments are key drivers to oil prices at over $200 per barrel!

Halili Kho Sex Video Scandal: A Case of Political Opportunism

A short commentary on the Katrina Halili-Dr. Hayden Kho Sex video scandal.

It is quite dumbfounding how media and politicians have turned in haste an isolated problem into some sort of a collective spectacle or "national" crisis-as Senators and the Palace has joined the fray. And some of them have used the opportunity to scream for new legislation/s to curb so called abuses.

This isn't about "offensive to public morals" - the cyberspace has hundreds if not thousands of sites that cater to pornography, sex videos or "voyeurism". And these include some locals.

Moreover, through the years police enforcement hasn't been able to contain the sale of lewd "illegal" DVDs as scandals upon scandals have emerged.

Besides, this problem isn't anything new-anyone remember the Betamax scandal of a local politician and a sexy movie star?

This only goes to show how our officials have little understanding of the cyberspace or they are not being forthright or have other latent interests.

The main difference in this scandal is that those involved have been public personalities, if not celebrities. And given the proximity of the national elections, the sensationalism surrounding the incident seem like an egregious opportunity to generate broad publicity mileage.

Going back to the case, the issue again is NOT about morality but about the violation of the aggrieved party's private property.

If it can be established that the perpetrator willfully deceived the other party to broadcast their private tryst in breach of trust then there should be an indictment.

And it can also be seen from the context of client-confidentiality if such circumstances have existed.

For instance, the recent sex scandal in Hong Kong saw the arrest of a computer technician who spread the private videos he illicitly obtained when his actor client brought the computer for repair; where the so called "voyeurism" or sex video wasn't disseminated by the participants but by a third party.

In any case, passing fickle laws to curb "this" and "that" has only worsened the problems by creating legal loopholes, fostering bureaucratic inefficiencies, opened opportunities to extortion, bribery and corruption, and has increased profit margins for politically backed operators which sustains the business of "illegality".

Moreover, the proposed law is a form of state expansion which could be utilized as an instrument to suppress the freedom of speech and expression.

Don't forget that each new law comes with attendant expenses that funds the bureacracy for its implementation-all at the expense of the taxpayer and the costs to do business here.

In short, people pay for the mischiefs, profligacy, grandstanding and wrong policies by politicians through higher consumer prices, lack of jobs and poverty.

What may be seen as a popular may in fact be an illusion, learning from Thomas Sowell, ``Televised congressional hearings are not just broadcasts of what happens to be going on in Congress. They are staged events to create a prepackaged impression.

``Politically, they are millions of dollars’ worth of free advertising for incumbents, while campaign-finance laws impede their challengers from being able even to buy name recognition or to present their cases to the public nearly as often.

``The real work of Congress gets done where there are no cameras and no microphones — and where politicians can talk turkey with one another to make deals that could not be made with the public listening in.

``To be a fly on the wall, able to listen in while these talks were going on, would no doubt be very enlightening, even if painfully disillusioning. But that is not what you are getting in video footage on the evening news.

``Some might argue that, in the absence of the cameras, many people might not know what is going on in Congress or in the courts. But being uninformed is not nearly as bad as being misled.

``For one thing, it is much easier to know that you are uninformed than to know that you are being misled."

Don't be misled.

Update on Tracking Swine Flu's Global Reach

An update on Swine flu's global tentacles.

According to the Economist, ``THE annual meeting of the World Health Assembly this week has been dominated by swine flu, as the number of cases continues to climb. Over 400 cases have been confirmed since Monday May 18th alone; Greece is the latest country to report a patient with the (A)H1N1 virus, bringing the number of countries with infections to 41. Of the 80 people that have died, most were in Mexico, where the infection originated. Neighbouring America accounts for over half of the world's reported cases. Global efforts will now focus on ensuring that developing countries have sufficient vaccines."
So far the hysteria on swine flu seems to have been somewhat dissipating even as the disease have spread to far more corners of the world.

The Google trend above shows of the public's diminishing concerns as swine flu searches have materially waned.

Gallup has also the same observation.

Nonetheless as long as the flu doesn't mutate, whose origin has been heatedly contested (claims of human error being investigated), the impact should be contained.

So far this episode has been mostly a media hype based on government alarmist mien, which has been validating our thesis...see our previous posts:

Swine Flu: Mostly A Media Fuss
Swine Flu: The Politics of Fear and Control
Swine Flu: The Black Swan That Wasn’t

Has The Crisis Been Mainly A Sin Of Free Markets? President George Bush's 2002 Speech As Evidence

Has today's crisis been a sin committed by the Free Market?

This speech "REMARKS BY THE PRESIDENT ON HOMEOWNERSHIP" from ex-President George Bush at the Department of Housing and Urban Development Washington, D.C.June 18, 2002, should serve as evidence for the guiding policy of the US aimed at boosting its housing program (all bold highlights mine)...

``But I believe owning something is a part of the American Dream, as well. I believe when somebody owns their own home, they're realizing the American Dream. They can say it's my home, it's nobody else's home. And we saw that yesterday in Atlanta, when we went to the new homes of the new homeowners. And I saw with pride firsthand, the man say, welcome to my home. He didn't say, welcome to government's home; he didn't say, welcome to my neighbor's home; he said, welcome to my home. I own the home, and you're welcome to come in the home, and I appreciate it. He was a proud man. He was proud that he owns the property. And I was proud for him. And I want that pride to extend all throughout our country.

``One of the things that we've got to do is to address problems straight on and deal with them in a way that helps us meet goals. And so I want to talk about a couple of goals and -- one goal and a problem.

``The goal is, everybody who wants to own a home has got a shot at doing so. The problem is we have what we call a homeownership gap in America. Three-quarters of Anglos own their homes, and yet less than 50 percent of African Americans and Hispanics own homes. That ownership gap signals that something might be wrong in the land of plenty. And we need to do something about it.

``We are here in Washington, D.C. to address problems. So I've set this goal for the country. We want 5.5 million more homeowners by 2010 -- million more minority homeowners by 2010. Five-and-a-half million families by 2010 will own a home. That is our goal. It is a realistic goal. But it's going to mean we're going to have to work hard to achieve the goal, all of us. And by all of us, I mean not only the federal government, but the private sector, as well.

``And so I want to, one, encourage you to do everything you can to work in a realistic, smart way to get this done. I repeat, we're here for a reason. And part of the reason is to make this dream extend everywhere.

``I'm going to do my part by setting the goal, by reminding people of the goal, by heralding the goal, and by calling people into action, both the federal level, state level, local level, and in the private sector.

``And so what are the barriers that we can deal with here in Washington? Well, probably the single barrier to first-time homeownership is high down payments. People take a look at the down payment, they say that's too high, I'm not buying. They may have the desire to buy, but they don't have the wherewithal to handle the down payment. We can deal with that. And so I've asked Congress to fully fund an American Dream down payment fund which will help a low-income family to qualify to buy, to buy.

``We believe when this fund is fully funded and properly administered, which it will be under the Bush administration, that over 40,000 families a year -- 40,000 families a year -- will be able to realize the dream we want them to be able to realize, and that's owning their own home.

``The second barrier to ownership is the lack of affordable housing. There are neighborhoods in America where you just can't find a house that's affordable to purchase, and we need to deal with that problem. The best way to do so, I think, is to set up a single family affordable housing tax credit to the tune of $2.4 billion over the next five years to encourage affordable single family housing in inner-city America.

``The third problem is the fact that the rules are too complex. People get discouraged by the fine print on the contracts. They take a look and say, well, I'm not so sure I want to sign this. There's too many words. There's too many pitfalls. So one of the things that the Secretary is going to do is he's going to simplify the closing documents and all the documents that have to deal with homeownership.

``It is essential that we make it easier for people to buy a home, not harder. And in order to do so, we've got to educate folks. Some of us take homeownership for granted, but there are people -- obviously, the home purchase is a significant, significant decision by our fellow Americans. We've got people who have newly arrived to our country, don't know the customs. We've got people in certain neighborhoods that just aren't really sure what it means to buy a home. And it seems like to us that it makes sense to have a outreach program, an education program that explains the whys and wherefores of buying a house, to make it easier for people to not only understand the legal implications and ramifications, but to make it easier to understand how to get a good loan.

``There's some people out there that can fall prey to unscrupulous lenders, and we have an obligation to educate and to use our resource base to help people understand how to purchase a home and what -- where the good opportunities might exist for home purchasing.

``Finally, we want to make sure the Section 8 homeownership program is fully implemented. This is a program that provides vouchers for first-time home buyers which they can use for down payments and/or mortgage payments.

``So this is an ambitious start here at the federal level. And, again, I repeat, you all need to help us every way you can. But the private sector needs to help, too. They need to help, too. Of course, it's in their interest. If you're a realtor, it's in your interest that somebody be interested in buying a home. If you're a homebuilder, it's in your interest that somebody be interested in buying a home.

``And so, therefore, I've called -- yesterday, I called upon the private sector to help us and help the home buyers. We need more capital in the private markets for first-time, low-income buyers. And I'm proud to report that Fannie Mae has heard the call and, as I understand, it's about $440 billion over a period of time. They've used their influence to create that much capital available for the type of home buyer we're talking about here. It's in their charter; it now needs to be implemented. Freddie Mac is interested in helping. I appreciate both of those agencies providing the underpinnings of good capital.

``There's a lot of faith-based programs that want to be involved with educating people about how to buy a home. And we're going to have an active outreach from HUD.

``And so this ambitious goal is going to be met. I believe it will be, just so long as we keep focused, and remember that security at home is -- economic security at home is just an important part of -- as homeland security. And owning a home is part of that economic security. It's also a part of making sure that this country fulfills its great hope and vision."

My comment:

Essentially what President Bush wanted, President Bush got, but at a tremendous costs-a bubble and a subsequent bust which transitioned into a global financial meltdown.

Alternatively, this also means that the recent bubble had been policy induced and was not a function free markets but of government manipulated markets.

Remember, interventionism and inflationary policies distorts the capital structure of an economy.

As Ludwig von Mises wrote in Human Action The Crisis of Interventionism, ``An essential point in the social philosophy of interventionism is the existence of an inexhaustible fund which can be squeezed forever. The whole system of interventionism collapses when this fountain is drained off: The Santa Claus principle liquidates itself."

Update: Global Stock Market Performance

Here is an update of the global stock markets courtesy of Bespoke Invest (as of May 19th).
According to Bespoke, ``After nearly every country was down earlier in the year, 62 out of the 83 are now up in 2009. Peru is up the most at 72.92%, while Costa Rica is down the most at -39.94%. And the BRIC (Brazil, Russia, India, China) countries are significantly outperforming the developed G-7 countries. Russia, India, and China rank 2nd, 3rd, and 4th in terms of year to date performance, and Brazil isn't far behind in 10th place. Canada has been the best performing G-7 country with a gain of 12.62% in 2009, but it ranks 35th out of 83. The rest of the G-7 countries are bunched up in the 0%-5% range, which is closer to the bottom of the list than the top. And the US is the worst of the seven with gains of less than 1%. While the markets here in the states have rallied nicely off of their March lows, most other countries have bounced back even more 2009." (bold highlight mine)

We'd like to add that the top performing benchmarks can be be categorized by region. For instance for the top 10: 4 comes from Asia (India, China, Taiwan and Indonesia), 3 from Latin America (Peru, Argentina and Brazil), 2 for Europe (Russia and Ukraine) and Israel.

The Philippines ranks 23rd.

We'd like to also take note of the underperformance of several Emerging Market bellwethers relative to the developed counterparts can be distinguished regionally-many are from Middle East and Africa and are considered frontier markets (smallest EM bourses).

It is important to emphasize that 62 gainers out of 83 has been a gradual broadening of gains or a "rising tide lifts all boats" phenomenon. This implies that markets appear to be responding to collective governments inflationary measures.


Nonetheless, global equity benchmarks have been outperforming the US.

From Bespoke, Since March 9th, major US stock indices are up 25%, but since other countries are outperforming, the US' market cap as a percentage of world market cap has actually fallen about 75 basis points. It initially spiked in the early days of the rally, implying that the US sparked the global rebound, but as the rally progressed, investors have spread their sights elsewhere."

The US underperformance should be expected considering it has been the epicenter of today's crisis and where its banking system has been impaired and has been operating under government support.

Moreover, deflationary pressures still poses a threat which means more inflationary activities by the US government.

India Boots Out Communists, Sensex Scores Largest One Day Gain Ever!

After a landslide victory for the Party of Prime Minister Manmohan Singh, India's stock markets went into a bacchanalia with a fantastic record breaking one day run!

According to Forbes, ``Talk about a post-election party. Indian stocks rose so fast on Monday that trading had to be halted.

``The market was euphoric over the Congress party's unexpectedly strong showing in India's national elections. Congress' unexpectedly strong majority means the party will not have to compromise by forming another coalition with leftist parties, which the business community blames for slowing down India's much-needed economic reforms." (highlight mine)

Bespoke Invest observes, ``the next biggest one-day gain came in March 1992 when the index rallied 13.14%. From its peak in January 2008 to its recent low, the Sensex dropped 60.91%. From its low, however, the index has now rallied 75.04% in just over two months. Even after this 75% gain, India needs to rally another 46.13% to reach its old highs."

Both Charts from Bespoke.

So while emerging markets seem to be embracing globalization, even in the face of the present crisis, developed markets appear run on the opposite route.

Needless to say, decoupling dynamics seem to be surfacing even in terms of political trends!

Tomorrow’s Investing World According To The Bond King

``Get your facts straight, apply them to the current valuation of the market, take decisive action, and then hold on for dear life as the mob hopefully comes to the same conclusion a little way down the road.”-William Gross, 2+2=4

The highly reputed Bond King PIMCO’s William Gross suggests that the global investment climate have radically been transforming where ``future of the global economy will likely be dominated by delevering, deglobalization, and reregulating”, from which the investment sphere would lead ``to slow global growth, a heightened risk aversion, a distrust of conventional investment model portfolios, and a greater emphasis on surviving as opposed to thriving.” (bold highlights mine)

Protectionism From Reregulation

Seen from a general sense, the idea seems true. For instance, aside from a sharp drop in global trade and investment flows as a consequence to the near US banking collapse last year, recent signs of deglobalization include the steep decline in migration trends especially from the corridor of Mexico to the US (New York Times) or the emergence of protectionism from policies aimed at “protecting ” locals-interest groups and not the local population-and the subsequent trade frictions in reaction to these policies such as the recent escalating row between the US and Canada over pipe fittings (Washington Post).

However, the chaotic reregulation in the misguided and the convoluted premise of the market’s inability to self-regulate is likely to spawn an even deadlier backlash.

Policy measures, which piggybacks on noble sounding myopic populism, have immediate beneficial solitary effects but at the expense of long term and far larger and wider damage to the system. And in the case of the pipe fittings, the political boomerang appears to have generated a greater impact than from the immediate intended benefits for the privileged groups.

And as the Washington post aptly reports, ``With countries worldwide desperately trying to keep and create jobs in the midst of a global recession, the spat between the United States and its normally friendly northern neighbor underscores what is emerging as the biggest threat to open commerce during the economic crisis.”

``Rather than merely raising taxes on imported goods -- acts that are subject to international treaties -- nations including the United States are finding creative ways to engage in protectionism through domestic policy decisions that are largely not governed by international law. Unlike a classic trade war, there is little chance of containment through, for example, arbitration at the World Trade Organization in Geneva. Additionally, such moves are more likely to have unintended consequences or even backfire on the stated desire to create domestic jobs.” (emphasis added mine)

Yet, this may serve as a casus belli for a global trade war which requires our vigilance. So reregulation seems to be inspiring more of “risk aversion” than containing it-again another unintended consequence.

Delevering Isn’t Equal

However where we depart with Mr. Gross’ outlook is on the premise of delevering.

The notion of delevering implies of a world, including the Philippines, equally swamped by an ocean of debt.

In the Philippines, it is the public sector and NOT the private sector (household or corporate) that has significant debt exposure. But the public sector has been “delevering” since the Asian Crisis in 1997. So this observation, while true in many or most of the OECD economies, is far from being accurate yet from many of the Emerging Market’s standpoint. I say yet because present policies could drive the public to indulge in a debt spree.

Moreover, the notion of delevering puts into the prism that the world revolves around the US only. Similar to the defective idea that “decoupling is a myth”, recent events have disproved much of this misplaced conventional academic expectations as the world seems to be recovering earlier than the US, see charts in Investing "Ins" and "Outs": US led Global Economic Recovery and Decoupling a "Myth". Thereby, deglobalization and reregulation will likely accentuate the decoupling process as previously discussed in Will Deglobalization Lead To Decoupling?.

In the layman’s perspective, globalization can be interpreted as a process of world integration via the trade, investments, migration, and financial channels. A more globalized world should imply of more “recoupling”. On the other hand, deglobalization does the opposite.

Further, while many debt overstretched private sector in the OECD economies have indeed been “delevering”, governments have been substituting these losses with its own massive debt expansion binge see figure 1.

Figure 1: Economist: Pumping It Up

Savings rich and foreign currency surplus laden Asian nations have commodious room to undertake lavish fiscal stimulus.

If the policy options for Asian economies has been to choose between stashing US dollars at the cost of risking currency losses from a devaluing US dollar and spending these domestically then it would appear that Asia has opted for a “politically favorable” profligate public spending option-that’s because they can afford it!

US And China Pursues Diametric Policy Directions

Yet while many economists ascribed the recent the recent “outperformance” to these government activities, our take is much more of the “unseen”- aggregate colossal liquidity, the inherent low systemic leverage in the region, high savings, greater thrust towards regional integration in spite of the financial crisis, the aftershock of “Posttraumatic Shock Distress (PTSD)” effects and creative destruction have been the major driving force around Asia’s resurgence.

For instance, while the US seems to be antagonizing its closest and friendliest neighbor and ally Canada with “closed door” policies, China, on the other hand, has been aggressively adapting “open door” policies with erstwhile archrival, Taiwan.

Recently both key Asian countries announced more transportation linkages via new shipping routes, and the expansion of direct airway routes, aside from the easing of once prohibited investments where according to the Time magazine, ``For the first time, mainland investments would be allowed in a broad range of Taiwan manufacturing and services companies. China Mobile, the mainland's largest cellular-service provider, has already agreed to invest about $530 million in Taiwan's Far EasTone Telecommunications, although the landmark deal has not been approved by Taipei.”

Tax incentives have also been extended by China to the Taiwanese investors (Bloomberg).

Moreover, such collaboration hasn’t been confined to the economic plane but also extends to the world of politics, again from the Times Magazine, ``In perhaps the most hopeful sign of change, China recently relaxed its longstanding opposition to Taiwan's inclusion in international organizations. After being rejected since 1997, Taiwan was finally invited this year to be an observer at the World Health Assembly, the governing body of the World Health Organization — the first time it has participated in a U.N.-related forum since Taiwan lost its U.N. seat to China in 1971.”

In short, the underlying trend of policies undertaken by the US and China have been running on a diametric path. So if incentives drive human action, seen from the vastly divergent aggregate policies undertaken, then obviously the expected returns, considering the risks variables, should likewise be different. This view runs in contrast to mainstream ideology, who does not believe in incentives but on the inexplicable effervescent impulses of “animal spirits”.

So yes, the atmosphere where “heightened risk aversion”, a “distrust of conventional investment model portfolios” and “greater emphasis on surviving as opposed to thriving” most probably is applicable to the defunct US centric financial paradigm and the fast evolving politicization of the US economy which seemingly has become increasingly hostile to its business environment.

But we suspect that this path shouldn’t necessarily apply to Asia or to emerging markets unless a global trade war erupts.

Delevering In A World That Rewards Leveraging, Profiting Around Regulations

Yet delevering should be seen in the “right” context and not from a generalized point of view. We shouldn’t interpret some trees as representative of the forest. This is the Achilles’ heel of macroeconomists whose inclination is to oversimplify events.

Specifically, delevering is a market process being experienced by the private sector (mostly the housing and financial industry) in key OECD economies. This has not been valid relative to its counterparts for most of the Asian or Emerging Market economies-especially in the Philippines.

Aside from the thrust to replace private delevering with government leveraging, the collective policy thrusts by global governments has been to resurrect the status quo ante of systemic leveraging by imposing aggregate policies (Zero bound interest rates, Quantitative Easing, etc.) that encourage the “buy, speculate and spend” incentives, which effectively penalizes savers.

So systemic delevering isn’t likely to happen yet unless a global government bond bubble goes ka-boom which isn’t distant from our perspective.

Incidentally, Mr. Gross has been staunchly supportive of the same unsustainable serial bubble blowing interventionist policies. Mr. Gross expects the US Federal Reserve to buy more long term treasuries in order to keep mortgage rates down. However, we can’t say as to how long artificial rates can be maintained by the US Federal Reserve’s manipulation and distortion of the marketplace, considering the huge amount needed to “fix” the price of the treasury markets. But we understand that interest rates in the US are ultimately headed higher, and Mr. Gross thinks so too as revealed by actions-PIMCO has reportedly been selling US Treasuries.

It would appear that world’s bond king’s alpha (extra or premium returns) has been to arbitrage from regulations and maybe that’s why his strong support for interventionist policies.