A China Bubble Bust Is Unlikely Yet

``I write this piece to warn against the simplistic notions about China that permeate our media, and to challenge the powerful special interests that want to paint China as a nation to be attacked, not vigorously debated. We face a long and very challenging dialogue with China, and I believe knowledge is an infinitely better negotiating tool than crude propaganda and simplistic nationalism. Am I really saying China should be handled differently? No, just intelligently.” Mark W. Headley In China’s Shoes, Matthews Asia

Well the other main source of concern is no less than China.

Bears have been growling out louder about an imminent bubble bust in China.

As we wrote in China’s Attempt To Quash Its Homegrown Bubble and in China's Bubble And The Austrian Business Cycle, while we agree with the notion that China have been undergoing a bubble process, since most of the symptoms have manifested the typical Austrian Business cycle model, it is quite unclear that that they’ve reached a manic or terminal phase.

Besides, bubbles do not imply an immediate bust. Bubbles operate as a cycle, where it undergoes several phases. A busting bubble is the end game of the terminal or manic phase.

And betting against an imploding bubble requires some timing. Betting too early before the full stretch of the manic phase would leave shorts without underwears.

Mixed Bubble Signals

Figure 5: WSJ/US Global: Mixed Picture

Yes it is true that property prices and loans have meaningfully surged (see figure 5 left window from Wall Street Journal) enough to prompt for many to yell “fire!”, but it also would seem possible that the surge in property prices could have been reflecting on the pace of the increase in the per capita income of the population (see right window: US Global Fund), albeit the speed may have been quite too drastic.

And in the light of the dramatic expansion of loan and property prices, China reportedly is scheduled to raise its reserve requirements by 50 basis points on her banking system for the second time this year by next week (February 25^th).

As to the success of a soft landing from China’s attempt to quash her homegrown bubble is yet unclear. A more significant but adverse impact would be a continuing trend of falling asset markets and imploding malinvestments within the economy. This has not yet emerged.

Figure 6: Bloomberg: Shanghai (top) and Shenzhen (below) Stock Markets Seem Stabilizing

So far, China’s stock markets appear to be stabilizing following the repeated assaults by China’s government to control her bubbles.

Both the Shanghai and Shenzhen benchmarks seem to be bottoming in spite of the recent news to tighten lending. This is in sharp contrast to the violent responses seen in both benchmarks last January.

Have China’s stock markets been turning blasé or discounting the government actions? Or has this been a proverbial calm before the storm? Does this also imply that China’s bubbles are now confined to the property sector?

From my observation of the bubble cycles, bubbles have wide spillover effects. They tend to raise asset prices in general but with most of the impact seen on the areas where the malinvestments have been concentrated. This implies that a full pledge bubble should also be manifested in the stock markets.

This does not seem to be happening in China.

Why Stereotyping Misleads

It isn’t easy to read China. She hasn’t been as transparent and the accuracy of her statistics is likewise in doubt.

However, in my view, opaqueness doesn’t justify macro based heuristics to pass negative judgments. That’s because inaccuracy can work both ways: underestimation and overestimation. The bearish camp believes the latter.

Yet, the fact that China has entered into a free trade agreement with ASEAN and the other East Asian neighbors should be seen significantly in the positive light [see Asia Goes For Free Trade].

It would even be a flagrant mistake to compare China to a particular stock or a company.

Corporations are not like economies, the former operates on a profit and loss incentive while the latter functions on a highly complex but interrelated self-operating multiple parts composed of acting people. [see The Myths Of Government’s Managing The Economy]

As Jeffery Tucker of Mises.org explains, ``Society works not because a single mastermind has preset all the moving parts. It works because people find ways to cooperate through private actions that follow signs and rules that cannot be anticipated but can nonetheless be coordinated. Society and its workings cannot be mapped out and the attempt to do so can create frameable images but not civilizations.” (bold highlight mine)

Besides, China’s property markets isn’t anywhere like the US. For instance, the Chinese buy properties with sizeable upfront equity.

Shaun Rein in Forbes writes, ``when buying residential properties, consumers in China have to put down 30% before taking out a mortgage. For a second home, they have to put down 50%, no matter what their net worth.”

In addition, income in China has reportedly been underestimated, again Mr. Shaun rebuts China skeptics, ``If anything, incomes are grossly underreported in China. A simple look at how accounting works will show why. Whereas in the U.S. individuals must report their income to the Internal Revenue Service every year, in China all individual tax is reported and paid for by companies, except for that of high earners. Many Chinese companies limit the tax they pay by reporting low salaries and then paying their employees higher amounts while accounting for the difference as business expenses like phone bills. The employees are happy because they make every bit as much as they were promised, and the companies are pleased to lower their tax exposure.”

``Also, many companies pay for housing and cars for their employees, a holdover from the old system of state-run businesses. Most Western economists don't count those expenses as income, but they should. Deceptive accounting of income is so widespread that the government has announced plans to tax some business expenses in state-run enterprises--the kinds of expenses that let executives pay taxes on earnings of $300 a month while living in multimillion-dollar homes and driving Mercedes.” (all bold highlights mine)

As one can observe, comparing a society to another by simply stereotyping can lead to serious misappraisals.

So perhaps we’d stick to the actions in the stock markets, property and bond markets, interest rates and inflation, aside from sentiment indicators as the Art market and the Skyscraper Curse to identify signs of the whereabouts of the bubble cycle.

Nevertheless, China would have a lot of flexibility to deal with an imploding bubble given her inherent financial advantages.

Doug Noland of Prudent Bear’s Credit Bubble Bulletin rightly observes, ``First of all, authorities are sitting on an incredible war chest of $2.4 TN of reserves. This hoard today provides virtually unlimited capacity to recapitalize its vulnerable banking system. This hoard also provides unusual protection against a run on the Chinese currency. Never, it seems, has a Credit system enjoyed such flexibility to run so hot for so long. At this point, I have to believe that the policy objective is not to rein in excess as much as it is to slow bank lending to what is believed to be a more sustainable $1.1 TN annual pace.”

In short, the economies of scale from massive surpluses matters, I’d like to add her savings too.

Considering all these variables, I wouldn’t bet on the imminence of a bubble bust. Perhaps not this year.

US Manufacturing Update: Separating Fact From Fiction

Here is a very interesting update on the state of US manufacturing.

Guess what? Contrary to mainstream expectations, US manufacturing has once again regained the world's supremacy.

This quote from Business Insider's liberal author, Mr. Vicente Fernando who calls it, ``American Manufacturing Making A Mockery Out of Skeptics" (bold emphasis mine)

Mr. Fernando quotes Noah Weisberg @ Goldman: "And within that global cyclical recovery, it may come as a surprise to many that the US is not obviously lagging – what Exhibit 3 shows is that the US manufacturing ISM index level is now among the highest across the world, higher than Europe, but also higher than BRICs. In other words, at least for the time- being the US manufacturing recovery is among the paciest, and the most recent round of quarterly earnings results also seemed to support this with both domestically and globally exposed companies reporting solid results."

"The U.S. ISM is shown by the thin purple line below, which has risen higher than even the BRICs (the dotted black line)."

"Hate to deliver good news, but last week, the U.S. ISM manufacturing index blew away expectations and generally killed it."

"While high U.S. unemployment remains a pressing problem, investors need to differentiate between leading and lagging economic indicators. Yes, there are a lot of economic data sets out there with dubious predictive value, but the ISM manufacturing index is one of best regarded and most reliable leading indicators for the U.S. economy. Employment, meanwhile, is a lagging indicator -- it improves way after everything else does. (Which is of course unfortunate for those who are unemployed, who must wait)."

Well this is should be a reminder for those who subscribe to the reductionist perspective, which tends to tunnel onto a single or select variables (e.g. wages), usually glosses over other very important and relevant interactive factors, especially in a highly complex economy as today. Hence generalizations premised on these frequently leads to wrong conclusions.

For purposes of additional discussion, here is Professor Mark Perry on the alleged but exaggerated state of "depressed" US manufacturing.

Manufacturing’s Death Greatly Exaggerated

By Mark J. Perry

(all bold emphasis and underscore mine)

Here’s some pretty grim news about the U.S. manufacturing sector—manufacturing employment in the United States fell below 12 million this year for the first time since 1946, and is now at the lowest level (11,648,000 manufacturing jobs in November) since March of 1941 (see chart, data here). Since the recession started in December 2007, manufacturing employment has fallen for 24 consecutive months, as the U.S. economy shed an average of 89,000 manufacturing jobs each month for the last two years. From the peak manufacturing employment of 19.5 million jobs in 1979, the American manufacturing workforce has shrunk by more than 40 percent, as almost 8 million manufacturing jobs have been eliminated over the last 30 years, with almost 6 million of those losses taking place just since 2000. And there’s nothing to suggest that the trend won’t continue, so we can expect even more manufacturing job losses in the future.

But here’s where the news about the manufacturing sector gets a little better. According to the Federal Reserve, the dollar value of U.S. manufacturing output in November was $2.72 trillion (in 2000 dollars), which translates to $234,220 of manufacturing output for each of that sector’s 11.6 million workers, setting an all-time record high for U.S. manufacturing output per worker (see chart below). Workers today produce twice as much manufacturing output as their counterparts did in the early 1990s, and three times as much as in the early 1980s, thanks to innovation and advances in technology that have made today’s workers the most productive in history. So at the same time that manufacturing employment has been declining to record low levels, manufacturing output keeps increasing over time, and the amount of output that each manufacturing worker produces keeps rising almost every month to new record high levels.

And here’s some more good news. For the year 2008, the Federal Reserve estimates that the value of U.S. manufacturing output was about $3.7 trillion (in 2008 dollars), and the nearby chart shows how the U.S. manufacturing sector compares to the entire Gross Domestic Product of the world’s five largest non-U.S. economies in 2008 (data here): Japan ($4.9 trillion), China ($4.3 trillion), Germany ($3.7 trillion), France ($2.9 trillion), and the United Kingdom ($2.7 trillion). Amazingly, if the U.S. manufacturing sector were a separate country, it would be tied with Germany as the world’s third-largest economy.

Bottom Line: As much as we hear about the “demise of U.S. manufacturing,” how we are a country that “doesn’t produce anything anymore,” and how we have “outsourced our production to China,” the U.S. manufacturing sector is alive and well. Despite declines in employment, the productivity of manufacturing workers has never been higher, and the United States is still the world’s largest manufacturer."

End quote

My additional Comments:

Let me add that if people buy for different reasons, not limited to the lowest prices with other considerations such as quality, familiarity or trust in the provider or brand, reputation (social status), social motives (charity, gifts, donation), keeping up with the Joneses', charisma of the salesperson and etc..., the obverse side is that investors don't invest only because of low wages. Otherwise we'd see Zimbabwe and African nations as the largest exporters or manufacturers, since they have the cheapest currencies due to the lowest standard of living which redound to the lowest labor costs.

On the other hand, there are many other factors that determine investments; particularly hurdle rate, access to finance or credit, access to capital, access to workers, access to markets, access to raw materials, access to energy, access to information or connectivity, transportation costs, security of property rights, transaction costs, political stability, labor productivity, labor skills, labor hiring and firing statutes, tax rates, legal or regulatory compliance costs or burdens, sanctity of contracts, economic freedom and others.

World bank classifies some of them into the cost of doing business (see methodology in link).

Essentially you can classify them into comparative advantages and division of labor.

And guess what? The common characteristics of these top exporters other than China is that they are highest ranking in terms of the global standings in economic freedom (heritage) and have also the lowest costs in doing business (World Bank).

Mental shortcuts are favorite instruments for the conveyance of political propaganda/manipulation, ergo we should be leery of them.

McKinsey Quarterly: 5 Popular Myths of Jobs Creation

McKinsey Quarterly's James Manyika enumerates the 5 popular myths about how to create jobs in the US

Quoting Mr. Manyika, (bold highlights mine) [comments mine]

1. Surely there’s a quick fix.

Oh, were that only the case. The scale of the challenge is enormous. Quick action is important, but remember that the US economy has lost more than 7 million jobs in the past two years. The country would need to create more than 200,000 net new jobs each month for the next seven years to get unemployment back to what was once considered a normal 5 percent. Quick fixes focused on 2010 alone won’t be enough.

Of course, the right mix of government policies can help. But even if Obama’s proposals were enacted right away and they accomplished all that he hopes, they would at best represent a good start. America’s jobs challenge is a multiyear marathon, not a sprint.

2. The key to boosting employment quickly is to help small businesses.

New jobs come from both small and big businesses. From 1987 through 2005, nearly a third of net new jobs were created by businesses that each employed more than 500 workers. By 2005, these big companies accounted for about half of the country’s total employment, although they made up less than 1 percent of all US firms.

But a look at the past two economic booms shows that the pace of job creation depends on more than the size of the businesses. During the economic expansion of the 1990s, large US multinational corporations—which employ an average of about 1,000 workers each in the United States—created jobs more rapidly than other companies. This was because they dominated computer and electronics manufacturing, the sector that drove much of that boom. During the more recent expansion of 2002–07, most of the net new jobs came from local service sectors, such as health care, construction, and real estate—which comprise both large and small businesses.

[yes, the jobs created in 2002-2007 had obviously been in response to policies oriented towards inflating the real estate bubble.

I'd like to add that the current weak job conditions in the small business sector had been a product of uncertainties from ambiguous policies, according to the Wall Street Journal, ``Last year "was a very difficult year for small business," said NFIB chief economist William Dunkelberg. "Continued weak sales and threatening domestic policies from Washington have left small-business owners with little to be optimistic about in the coming year."]

3. High-tech jobs will solve the problem.

There is a lot of talk these days about green businesses, biotechnology, and other emerging industries that will create the jobs of the future. While they are obviously part of the solution, these industries are too small to create the millions of jobs that are needed right away. The semiconductor and biotech industries, for instance, each employ less than one-half of 1 percent of US workers; clean-technology workers, such as those who design and make wind turbines and solar panels, account for 0.6 percent of the workforce.

We’ll be able to generate significant numbers of new jobs only by spurring broad-based job growth across the economy, particularly in big sectors such as retail, wholesale, business services, and health care. High-tech innovations will help employment grow over the long term, as new technology spreads throughout the economy and transforms other, larger sectors. For example, while the semiconductor industry alone doesn’t account for much US employment, the computer revolution has fueled the growth of other industries such as retail and finance; similarly, the clean-technology business by itself doesn’t employ many people, but its developments could transform a big sector such as energy, creating new business models and new jobs.

4. Higher productivity (when an economy produces more goods and services per worker) kills jobs.

Not so. While productivity growth means that individual companies may need fewer employees in the short term, it spurs long-term gains in the economy as a whole. Since the industrial revolution, increasing worker productivity has brought rising incomes, higher profits, and lower prices. These forces stimulate demand for consumer goods and services and for new plants and equipment—fostering, in turn, industry expansion and job creation.

Take cell phones. Even 15 years ago, they were big, unwieldy, expensive, and worked only in limited coverage areas. But as new technologies enabled workers to produce phones and provide service more cheaply, the industry took off. Cell phones are now ubiquitous, and this has created jobs not just among phone makers but also among retailers, service providers, and a new industry of developing and selling applications for smart phones.

5. Increasing exports will revive manufacturing employment.

Maybe for some companies in some industries, but not for the economy overall. While it’s painful to accept, reducing unemployment is not mainly about regaining the jobs that have been lost. Sure, rising exports will cause some factories to scale up again, and many laid-off workers will be called back. But most new job growth will come from other sectors.

History shows that recessions—particularly those that follow a financial crisis—accelerate the growth or decline already underway in industries. In this recession, for example, the auto, financial-services, and residential-real-estate industries have contracted significantly and won’t regain their peak employment anytime soon.

[that's because these areas constituted the concentration of the boom or malinvestment phase]

An increase in exports may stem—but will not reverse—the multidecade decline in manufacturing employment. In today’s developed economies, net growth in new jobs doesn’t come from manufacturing; it comes from service industries. Fortunately, boosting exports creates jobs in supporting service industries, such as design, trucking, shipping, and logistics.

[Some will call these the recalculation or a transitional phase where the economy tries to figure out where to reallocate resources following the market clearing process from the recent recession or bust.

However, what McKinsey's Manyika seems to imply is that policies aimed at directing public resources for job creation to specific sector/s do not guarantee solutions to the present dilemma. Hence the unintended consequences is that these could lead to waste.

Said differently, let the markets decide where investments should be and jobs will eventually follow.

As Ludwig von Mises wrote, ``Profits go to those who succeed in filling the most urgent of the not-yet-satisfied wants of the consumers in the best possible and cheapest way. The profits saved, accumulated, and plowed back into the plant, benefit the common man twice. First, in his capacity as a wage earner, by raising the marginal productivity of labor and thereby real wage rates for all those eager to find jobs. Then later again, in his capacity as a consumer when the products manufactured with the aid of the additional capital flow into the market and become available at the lowest possible prices."]

Thomas Woods: Why You've Never Heard of the Great Depression of 1920

A great presentation from economist and author Tom Woods on how the unheralded Great Depression of 1920 had swiftly been resolved, the difference with the Japanese experience also of the 20s and the relevance of the Austrian Business Cycle. (source: Mises media)

Estonia’s Free Market Model And The US 1920-1921 Depression

First of all I’d like to thank Mr. Kristjan Lepik for his patronage and on adding his priceless thoughts on Estonia.

Mr. Lepik writes,

``Estonia has taken a rather different crisis-management approach than Western world (US, Western Europe et al) – no government stimulus, very low government debt (only around 10% of GDP) and no bailouts. Therefore the steep GDP drop in 2009 (around -15%), if US would have no stimulus or bailouts, the GDP would be surely negative as well.

``I think that Estonia has taken the quick and painful way, whereas a lot of countries have gone the route which may be more painful in the end – big budget deficits must be paid back at some point (probably higher taxes globally).

``I was really negative about Estonia’s outlook in 2006 (as you all know, that is not a popular thing to do), the economy overheated badly. But the normalizing process has been very effective after that, gross wages have dropped around -20%, asset prices around -60%. That surely is not a pleasant process but it is helping to restore Estonia’s competitive advantage.

``The recovery will probably not be not that quick in Estonia, the normalizing process is still ongoing and unemployment has reached 15%. But looking at the macro picture, Estonia looks pretty good (should I use the term “sane” here?) compared to most of the World.”

It may be true that the normalization in Estonia could take awhile as resolving high degree of overindebtedness could pose as significant drag to economic growth as shown by the charts below by the IMF.

From the IMF

Nevertheless, I’d be more optimistic than the IMF or of the mainstream, since they would naturally be more cynical or skeptical of the Estonia's unorthodox or unconventional approach, in a world where government intervention is seen essential or as a standard.

Although I usually refrain (and equally disdain) from making comparisons with past models, my guess is that a free market resolution would have more meaningful relevance than from an interventionist approach.

What truly distorts or impedes a market from delivering its inherent process of clearing the previously established malinvestments are further interventions. And since a free market approach would have less distortions, they are likely to elicit more “similarities” or parallelism.

And on that note, the US depression of 1920-1921 experience should pertinent.

Economist Bryan Caplan in a paper on the US 1920-1921 depression wrote of how events unfolded then,(bold emphasis mine)

``In one crucial respect, the depression of 1920-21 was actually more severe than the Great Depression itself: there was a rapid decline in the price level of between forty and fifty percent within the course of a single year. As Friedman and Schwartz (1963) explain, “From their peak in May [1920], wholesale prices declined moderately for a couple of months, and then collapsed. By June 1921, they had fallen to 56 per cent of their level in May 1920. More than three-quarters of the decline took place in the six months from August 1920 to February 1921. This is, by all odds, the sharpest price decline covered by our money series, either before or since that date and perhaps also in the whole history of the United States.” (1963, pp.232-233.) The wholesale price index during the Great Depression took about three years to fall by the same amount.

``Employment and output were however not as severely affected as in the Great Depression. Of course precise unemployment data are not available for this period, but one representative estimate (Lebergott, 1957) puts civilian unemployment at 2.3% in 1919, 11.9% in 1921, and back to 3.2% in 1923. Output figures tell a similar story: one aggregate index (Mills, 1932) indexes production at 125.3 in 1919, 99.7 in 1921, and rebounding to 145.3 in 1923. As these stylized facts indicate, the second unusual feature of the depression of 1920-21 was the rapid recovery in employment and output, in sync with a swift adjustment of the real wage to its new equilibrium position. …”

Some charts from EH.net

In other words, a market based adjustment that had been swift and drastic translated to equally a rapid and dramatic recovery in 1920-1921.

And why this should come about?

Austrian economist Robert Murphy provides as a possible answer,

``After the depression the United States proceeded to enjoy the “Roaring Twenties,” arguably the most prosperous decade in the country’s history. Some of this prosperity was illusory—itself the result of subsequent Fed inflation—but nonetheless the 1920–1921 depression “purged the rottenness out of the system” and provided a solid framework for sustainable growth."

When rottenness is purged out of the system, then the recovery is likely to be relatively more robust and sustainable since the economy should reflect on market dynamics than from artificial foundations.

We end with a quote from President Warren Harding’s inaugural speech in 1921 which dealt with the crisis, (all bold highlights mine)

``We must face the grim necessity, with full knowledge that the task is to be solved, and we must proceed with a full realization that no statute enacted by man can repeal the inexorable laws of nature. Our most dangerous tendency is to expect too much of government, and at the same time do for it too little. We contemplate the immediate task of putting our public household in order. We need a rigid and yet sane economy, combined with fiscal justice, and it must be attended by individual prudence and thrift, which are so essential to this trying hour and reassuring for the future.…

``The economic mechanism is intricate and its parts interdependent, and has suffered the shocks and jars incident to abnormal demands, credit inflations, and price upheavals. The normal balances have been impaired, the channels of distribution have been clogged, the relations of labor and management have been strained. We must seek the readjustment with care and courage.… All the penalties will not be light, nor evenly distributed. There is no way of making them so. There is no instant step from disorder to order. We must face a condition of grim reality, charge off our losses and start afresh. It is the oldest lesson of civilization. I would like government to do all it can to mitigate; then, in understanding, in mutuality of interest, in concern for the common good, our tasks will be solved. No altered system will work a miracle. Any wild experiment will only add to the confusion. Our best assurance lies in efficient administration of our proven system.”

We hope that the success of Estonia's model will lead the world the way.

Estonia: A Resurgent Baltic Tiger In Defiance of Mainstream Antidote?

Andreas Hoffmann writing in Thinkmarkets sees Estonia as a returning Baltic Tiger.

Here is Professor Andreas Hoffmann (all bold highlights mine)

``the Estonian government reacted in a way to the current crisis that should bring tears of joy into the eyes of any free market economist: First, they did everything to hinder a devaluation of the Estonian kroon, as a relatively stable exchange rate to the euro is a prerequisite for euro introduction. Secondly, they did not overspend. Instead they cut wages heavily with the fall in per capita GDP – even in the public sector. And third, unlike most economies, Estonia did not sacrifice economic freedom for crisis management. Instead, officials wait for the crisis to heal the market. At the same time lower spending is assumed to bring inflation down. The crisis is seen as a chance to (readjust and) fulfill the Maastricht inflation criterion, which was impossible during the boom period.

``Thus, as Estonia allowed for an adjustment process, malinvestment from the previous boom should be dismantled soon. This should bring about lucrative future investment possibilities in an economy with solid macroeconomic fundamentals, a high degree of economic freedom and prospects to enter the euro zone. At the moment interest rates are much higher there than in the euro area and a credible fixed exchange rate assures against depreciation. These facts should attract new investors. Therefore it is likely that we soon see the return of at least one Baltic tiger."

What makes the Estonian account very interesting is that she appears to have taken an unorthodox (or outlier) approach in dealing with the recent crisis- market based adjustments that had been swift, drastic and painful. But instead of encountering a prolonged recession or even a depression, it now seems that Estonia have been revealing signs of an equally rapid and dramatic recovery.

This seems to contravene anew the conventional notion that markets, when left to their own devices ("officials wait for the crisis to heal the market") to deal with the recessions or a crisis, would cause a depression.

Even the IMF look equally impressed: ``Following recent budget measures and assuming continued fiscal consolidation efforts, Estonia could meet all Maastricht criteria, while the policy record to date provides assurances for continued stability-oriented policies. This is remarkable, as it is being achieved against the background of severe dislocations due to the crisis. Joining the euro zone would remove residual currency and liquidity risks, adding stability to the Estonian economy."

Here are some charts from the IMF...

Real Effective Exchange Rates

Real Wages and Monetary Aggregates

Real GDP and Inflation

Estonia's OMX Talinn Index (from Bloomberg) [up 36% year to date]

I'll leave it to this blog's Estonian readers to contribute to this outlook.

Cartoon of the Day: Evolution!

From Ritemail.blogspot.com

Trade Fallacies: Big Business Sucks Out Lifeblood From The Consumers

“Big Business sucks out the lifeblood from the consumers.”

It’s one of the most popular “socialist” fallacies that I only read online, but was surprised to have personally heard a variation of last week from an unexpected source.

The negative connotation is that trade signifies as a parasite-host relationship where only one party benefits from the engagement.

This represents sheer political absurdity.

Here's why.

When a person say, purchases a pair of shoes from a shoe store at a mall, he/she expects that the new pair of shoes to either replace his/her old pair or to augment the inventory of shoes-perhaps for fashion purposes or in combination with his/her clothes in order to comply with the required uniform in the workplace or for many other personal reasons (as gifts, etc..)

When a person pays to eat at a restaurant, he/she fulfills the need for nourishment, irrespective of the classification of the venue (fine dining, fast food, canteen etc.) and or the variety of food served and consumed.

When a person buys a car from the car dealer, he expects that the new car to accomplish his/her mobility goals or social esteem needs.

In other words, when people voluntarily exchange money for certain goods or services they expect to directly benefit from the exchange-either to enhance the person’s wellbeing by expanding utility (or increasing convenience by usage) and or for reputation (self esteem) motives and or social (gifts, charities, donations, Keeping up with the Jones', etc...) incentives.

In addition, the presence of competition expands the consumer’s array of choices. This means producers will have to earnestly compete with each other to please the consumer’s desires by offering the most desirable products or services in terms of prices or through quality or in some forms of intangible advantages or a combination thereof.

Of course, the reward from having to meet the consumer’s needs or wants translates to the ultimate goal- profits.

And one must not forget that producers or service providers are themselves consumers. In short, people produce in order to consume.

So nowhere in the above circumstances reveals that trade has been a one-sided affair or a parasite-host relationship because both the sellers and buyers directly benefits from the voluntary exchange, aside from assuming reciprocal roles.

In the US, the steady entrenchment of life enhancing technology enhanced tools or equipments essentially translates to an increase in the standards of living (see chart above from AOLnews), is a product of free trade.

As W. Michael Cox chief economist of the Federal Reserve of Dallas wrote, ``As the great economist Joseph Schumpeter put it: "Queen Elizabeth owned silk stockings. The capitalist achievement does not typically consist of providing more silk stocking for queens but in bringing them within the reach of factory girls for steadily decreasing amounts of effort."

``Innovation and trade continually drive down the real cost of goods and services and increase the productivity of each hour of work. As this capitalist engine churns onward, the scarcity that plagued mankind for millennia has given way to the abundance that's the foundation of today's vast middle class." (bold emphasis mine)

This should well apply to economies that are also responsive to freer trade. And this phenomenon do not escape the Philippines.

Unfortunately such intangible benefits can’t entirely be captured by statistical GDP. And it is due to the ambiguities of the observable but unquantifiable benefits that has prompted liberals or socialist to argue based on fallacious premises.

Trade As Wealth Drain?

The other negative implication about the misleading sucking out the life of consumers is the impression that the “wealth” of consumers are allegedly being drained by businesses.

This is another utter nonsense.

Money isn’t wealth. Money is a medium of exchange. Regardless of whether people acquire things by falling victim to boom bust policies by loading up on intractable debt or not isn’t the issue. Inflationism is likewise not an issue here.

The issue is that people voluntarily conduct exchanges in the expectations that they would directly benefit from it, regardless of how it is funded.

When people undertake trade, basically people do not trade money for goods, but on their output or the product or services which they represent. Money only serves as a proxy for one’s output or an alternative instrument to facilitate for an exchange of goods and services.

So the money spent by a local bum in the Philippines, which may come from remittances by an overseas worker benefactor (usually a parent/s) is pretty much the same money spent by a spoiled brat from a wealthy parent or even from a politico sponsor. They represent some forms of product or services that have been converted into money and used for the exchange.

In other words, the idea that big business bleeds dry the consumers in a competitive marketplace is pure hogwash.

Taxes And Political Concessions As Wealth Suckers

Let me tell you where the consumer’s wealth gets truly sucked out.

The marketplace represents as a platform for continuous human actions of voluntary exchanges where consumers and producers employ choices for the ultimate goal of having to directly meet a specific end or goal or benefit. Hence voluntarism translates to mutually beneficial actions.

When the voluntarism is stripped out of the equation, then consumers are essentially held hostage to abide by the conditions imposed by law. Hence consumers would be forced to comply with the service or goods that they normally would not likely accept in the context of the marketplace.

Taxes are fundamentally the best example of wealth sucking activities employed by governments on the consumers.

Taxes are coercive or not voluntary. There is no choice for consumers but to pay for services it may or may not want, otherwise non-conformity means penalty (fines, legal harassment or at worst incarceration).

Taxes don’t have direct specific benefits to each taxpayer. Unlike trade where the benefits are direct and mutual, we use some but not all the privileges from government funded (public goods) projects, e.g. we don’t use all government most constructed roads do we?) In short, while the supposed benefits are assumed by most people as direct, they are realistically indirect.

Since government is a political entity then its tax funded expenditures are similarly deployed politically, hence taxes end up mostly to:

-funding pet projects of elected officials for vote generating purposes
-subsidizing liabilities of vested interest groups
-the pockets of these officials and or many of the bureaucrats involved on them
-expand bureaucracy
-finance worthless projects or projects of little market value
-dispense favors to political allies via behest loans etc…
-fund substandard and overpriced projects
-redistribute resources from productive to non-productive segments of the society
-and many others

In short, where the alleged exchange (tax for public goods) is imposed by decree, the cost benefit ratio for the consumers is heavily skewed towards the cost. So except for bureaucrats and politicos, people essentially pay more for taxes than they benefit from it. Thus, forced compliance by the consumers, where the cost is apparently larger than the benefits, equals to a net drain to our wealth.

Of course one may add that politically based economic concessions (economic rent seekers) or legislative decree based “private” monopolies which eludes competition and restricts consumers to pay for overpriced and inefficient goods or services serves the same function, it is a net drain for capital accumulation, and thus, economic wealth.

In short free trade benefits the economy's wellbeing and adds to wealth, while government imposed tax for service and political monopolies function as a net drain on wealth.

Don't fall for vicious political propaganda.

Manufacturing Turnaround As Lead Economic Indicator

For us, manufacturing conditions signify as a prime indicator to signify the state of an economy. This also applies to the world.

According to the Economist, ``SURVEYS of purchasing managers indicate that manufacturing industries in most of the world’s big economies are growing. In big emerging economies such as Brazil, China and India, the indices compiled by Markit, a provider of financial information, were well above 50 in January, indicating robust growth. In each of those countries manufacturing was still shrinking in January 2009. There has also been a pronounced turnaround in America, where the Institute for Supply Management’s index for January was 58.4, in contrast to 35.5 in January 2009. Manufacturing is also expanding in Germany, France and Britain. But it is still shrinking in Greece and Spain, though much less markedly than a year earlier."

From Danske

While manufacturing conditions may slow from their recent turbocharged activities, they aren't likely to "double dip" this year as alleged by perma bears-not when the steep global yield curve is likely to produce credit traction by the year end.

Global CDS Review: Unclear Debt Default Contagion Causality

An updated chart from Bespoke Invest should provide us a better perspective of the actual state of the supposed concerns of "debt default risk" as the cause of the market's current turmoil.
According to Bespoke Invest, ``Portugal has seen the biggest spike in default risk this year with a gain of 145.5%. France ranks second at 87.7%, followed by Iceland, Germany, and Australia. Surprisingly, CDS for US debt has spiked 49.4%, which is more than both Dubai and Greece. (Why they even have CDS for the US and other large developed nations is a different story, and we're just highlighting where things stand.) While France, Germany, Australia, and the US have all seen pretty big spikes in default risk this year, they still have the lowest default risk of all the countries highlighted. Egypt, Lebanon, and Venezuela are the only countries that have seen default risk decline so far in 2010."

One thing to keep in mind is that reading market indicators, as the table above, can be reference-point sensitive.

As pointed out by Bespoke, even as Germany, US, France and Australia have topped the lists in terms of credit concerns (based on a year-to-date basis), as developed economies, their nominal CDS prices remain way below those of emerging markets.

So a spike in developed economy CDS could be interpreted as a nonevent.

Yet like Iceland and Greece, which used to have a low risk developed economy rating (see 2008 as reference), soaring CDS have placed them above many (high risk) emerging markets. So it would be a mistake to read past performances as indicative of future outcomes.

In short, the picture changes depending on the reference points used to justify a scenario.

Here is another example: Based on 2008 as the benchmark, Venezuela, this year's top performer, despite the incredibly high priced CDS, appears to be one of the least affected by present credit concerns behind Lebanon, Indonesia, Kazakhstan, Columbia, Philippines, Turkey and Brazil.

I haven't had time to check, but my assumption is that most of the stock market indices mentioned above suffered as much losses as those whose credit risks have surged.

In other words, dissonant signals from this week's market meltdown do not suggest that this is mostly about "debt default" concerns. The contagion doesn't justify the same impact on least affected countries.

And it would similarly be too simplistic to suggest the following causal impact: higher debt default risk=deleveraging=commodity meltdown=emerging stocks freefall. This redounds to available bias and to the post hoc ergo propter hoc fallacy or as per wikipedia.org-"after this, therefore because (on account) of this".

Beyond the surface, we read that it is likely the squall that hit financial markets could instead be signs of affliction from a liquidity addiction based "withdrawal syndrome".

Global Market Rout: One Market, Two Tales

Financial markets had reportedly been rattled by concerns over rising debt default risks.

As the chart from Bespoke Invest shows, US Credit Default Swaps (CDS) or the cost to insure US debt spiked as global markets swooned.

But it's a different tale when seen across the US yield curve: Treasury yields fell or bonds rallied!

If indeed the markets have been apprehensive about the default risks from government debts then US treasury yields should have risen as these would have come under strain. Fear of default translates to higher yields. But this didn't happen.

In short, bond markets have exuded inconsistent signals.

In my view, the markets seem to be enduring from the uncertainty brought up by conflicting indicators; where policymakers have generally turned hawkish, as they repeatedly or have been bombarding the press with talks of 'exit' strategies (or even experimenting on it as with the credit arm twisting tightening in China) amidst current markets conditions, whereby key financial markets have essentially been heavily dependent on government steroids, and by the state of sovereign overindebtedness, as a result of collective efforts to mount a rescue of respective national economies.

In other words, the markets appear to be violently responding to the prospects of policy (or liquidity) withdrawal and have used the debt default risks as an excuse for the recent actions. They maybe asking, without money printing who'd finance all these debts?

We may call this the withdrawal syndrome.

Here's our guess, continued pressure on the financial markets risks undoing the animal spirits and resurrect the specter of 'deflation', and thus, would prompt authorities to turn from hawkish to dovish.

Bloggin' Hiatus

I'll be away from my base for this week, so I'm not sure if I may be able to publish any post during the interim. Nevertheless, if time allows, I'll give a try.

Thanks for your patronage.

How The Information Age Is Changing Our Lives

The New economy or the information age is largely dismissed in the arguments of the mainstream. That's because while the gist of their discussions predominantly centers on what needs to be presumptively "fixed", they appear to be preoccupied with sustaining the status quo.

Needless to say, even if they communicate by email or by mobile phones or use the web as a key source to secure information, they seem to discount on the role these instruments play in shaping our lives or our economy, despite the fact that these gadgets have mostly been ABSENT about two decades ago.

Marketing guru Seth Godin, whose words of wisdom comes in remarkably terse but poignant messages, seem right anew: People resist change because ``These represent safety, because if you don't challenge the status quo, you can't be made fun of, can't fail, can't be laughed at." He calls this the Lizard brain.

Well, safety in the status quo is in reality utter nonsense. That's because life always changes and people through the markets respond to the incentives that the environment provides.

Hence, safety in the status quo represents as sheer absurdity or rabid denial or plain simplemindedness or the lack of observation skills or at worst delusional attachments to ideologically based economic creeds.

And yet the stage of technology adaption determines the chances of winning or losing in terms of career or investments.

This also shows that an enabled technology based revolution translates to a new way of living.

It's not just in terms of business structures (operational platforms, distribution process, organizational capital, new markets etc.), but also in many other human aspects (values, attitudes, fashion etc.).

In terms of economics, we may call this the lengthening of the capital or production structure or the enhancement of capital tools or "inventing machines to make more- and-better machines" as Alvin and Heidi Toffler describes in Revolutionary Wealth. To quote Mr. & Mrs. Toffler anew, ``This same process on a vastly larger scale is now happening to what may be termed "K-tools- the instruments we use to generate knowledge, the most important form of capital in advanced economies."

How substantial is the information age to our global economy?


Some important notes from the International Telecommunications Union (bold highlights mine)

-Between 2008 and 2009, mobile cellular penetration in developing countries surpassed the 50% mark to reach an estimated 56% end 2009

-There are now more than twice as many mobile subscriptions in the developing world than in the developed world (3.2 billion vs. 1.4 billion)

-China 750 million, India 480 million

-26% of world population (1.7 billion people) are using the Internet (64% in developed, 17.5% in developing countries)

- 1 billion Internet users in developing countries, one third of which in China

-Almost 500 million fixed broadband subscribers globally, China overtook US in
2008 as largest market

-Half of the 200 million broadband subscribers in the developing countries are in China

-23.3% broadband penetration in developed countries; 3.5 % penetration in developing countries


Let's add that in the US, according to the Business Insider,

``More kids are getting mobile phones: Last year, more than 35% of U.S. children ages 10-11 had cellphones, almost double the amount in 2005, according to Mediamark data, via eMarketer. And even more than 5% of 6-7-year-olds had cellphones last year."

So the spread of the information technology is clearly diffusing across all the demographic categories.

Well, the above exhibited the infrastructure aspect of the information technology.

Here is the applications or how people have been using the infrastructure...


We'd like to focus on the web, where presently 26% of world population or 1.7 billion are participants or users.

From Marketingcharts.com ``Global consumers increased the amount of time they spent on social networking sites like Facebook and Twitter by 82% in December 2009 compared to December 2008, according to The Nielsen Company.

``In December 2008, global consumers spent an average of three hours, three minutes and 54 seconds on social networking sites. That amount of time increased to five hours, 35 minutes and five seconds one year later. In addition, unique audience increased 27%, from 242 million in December 2008 to 307.4 million in December 2009." (emphasis added)

The Economist has a national breakdown on time spent on these applications....

According to the Economist, ``SOCIAL networks are now a ubiquitous part of daily life in western countries. Facebook, for example, which was launched in 2004, now boasts over 350m users, more than two-thirds of them outside of America. The keenest social-network users, Australians, spent over seven hours a month on such sites, “poking” friends and “twittering” in late 2009, twice as much as users in Japan. Yet making big revenues and profits from such habits remain Facebook’s greatest challenges."

Think of it, for developed nations some 3-6 hours are spent on social networking sites or people are spending some 20-40% of their active time on the web via social networks (assuming 8 hours of sleep). That's how important the web has been transforming our lives.

Well this seems to be the core trend of technological advances....

It's practically Moore's Law at work

Steve Jurvetson neatly explains, ``Moore’s Law is commonly reported as a doubling of transistor density every 18 months. But this is not something the co-founder of Intel, Gordon Moore, has ever said. It is a nice blending of his two predictions; in 1965, he predicted an annual doubling of transistor counts in the most cost effective chip and revised it in 1975 to every 24 months. With a little hand waving, most reports attribute 18 months to Moore’s Law, but there is quite a bit of variability. The popular perception of Moore’s Law is that computer chips are compounding in their complexity at near constant per unit cost. This is one of the many abstractions of Moore’s Law, and it relates to the compounding of transistor density in two dimensions. Others relate to speed (the signals have less distance to travel) and computational power (speed x density).

``Unless you work for a chip company and focus on fab-yield optimization, you do not care about transistor counts. Integrated circuit customers do not buy transistors. Consumers of technology purchase computational speed and data storage density. When recast in these terms, Moore’s Law is no longer a transistor-centric metric, and this abstraction allows for longer-term analysis.

``What Moore observed in the belly of the early IC industry was a derivative metric, a refracted signal, from the bigger trend, the trend that begs various philosophical questions and predicts mind-bending futures"

``Moore’s Law is a primary driver of disruptive innovation, such as the iPod usurping the Sony Walkman franchise , and it drives not only IT and Communications and has become the primary driver in drug discovery and bioinformatics, medical imaging and diagnostics. As Moore’s Law crosses critical thresholds, a formerly lab science of trial and error experimentation becomes a simulation science and the pace of progress accelerates dramatically, creating opportunities for new entrants in new industries."

So yes, free market based technology innovations has indeed been meaningfully transforming our lives.

Ignore this at your own peril.

Does This Look Like A US Dollar Carry Bubble?

In 2008, the reason why the US dollar skyrocketed during the post Lehman incident was because of the gridlock in the US banking system which practically siphoned off global liquidity in the system.

The ensuing demand for cash unleashed a massive wave of demand for the US dollar. This scramble for cash led to a tsunami of selloff that resulted to a meltdown in the asset markets. The panic selling was specially sensitive on leveraged position such as the carry trade.

Today we have officials and experts who continually warn about carry trade bubbles.



This is the latest figures from the Bank of International Settlements which shows of external claims of BIS reporting banks.

This from BIS, (all bold highlights mine)

``Banks’ external claims continued to decline in the third quarter of 2009, falling by 1% ($235 billion) to $30.6 trillion. $36 billion of new claims on non-banks in emerging markets (up 3%) were balanced by $32 billion (down 0.4%) in reductions to non-banks in developed countries. Cross-border claims on banks in developed countries dropped by a further 1% ($181 billion) after a 2% decrease in the second quarter of 2009, and total interbank claims continued to decrease, although at a reduced pace, for the fourth consecutive quarter, by $224 billion or 1%

"Location of counterparties: Claims on non-banks in Latin America and Asia increased by $18 billion (7%) and $16 billion (6%), respectively.

"Instruments: Loans declined across all regions, while holdings of securities picked up everywhere except in offshore centres.

"Currencies: Banks’ cross-border claims denominated in US dollars increased for the first time since the third quarter of 2008, by $154 billion or 1%. This was more than accounted for by a $240 billion increase in US and Caribbean interbank claims on other Caribbean centres, the United States and the United Kingdom.

"Foreign currency claims on residents of reporting countries: Claims in US dollars, sterling, euros, Swiss francs and yen declined further, by $88 billion or 2% (after $65 billion in the previous quarter), while claims in other foreign currencies went up by $32 billion (14%)."

Given the figures and the charts above does this look anywhere like a carry trade?

Next we don't have another banking gridlock. What's being touted as the reason for the rally in the US dollar has been "tightening".

We think this is nothing but a hooey, see [What Has Pavlov’s Dogs And Posttraumatic Stress Got To Do With The Current Market Weakness?]

Beware of propaganda masquerading as analysis.