Europe’s Financial Repression: How Solvency II may affect Portfolio Allocations of Insurance Firms

Governments around the world have been applying financial repression—part of which is to use new regulations to force financial institutions to funnel private savings into government debt.

We see this also happening in Europe where insurance firms are being ‘incentivized’ by new rules to invest in government debt than in equities.

From Researchrecap.com (bold highlights mine)

Fitch Ratings believes that Solvency II, the new regulatory regime for European insurers from 1 January 2013, is set to transform how insurers allocate their investments.

European insurers are the largest investors in Europe’s financial markets, holding EUR6.7trn of assets, including more than EUR3trn of government and corporate debt. Any reallocation of insurers’ asset portfolios could therefore lead to fundamental shifts in demand and pricing for several asset classes. The new rules will force insurers to value assets and liabilities at market value when determining their solvency position, and to hold explicit capital to reflect shortterm volatility in the market value of assets.

Fitch expects a shift from long-term to shorter-term debt; an increase in the attractiveness of higher-rated corporate debt and government bonds, and shift away from equity; and a preference for assets based on the long-term swap rate.

People hardly see it, but rules are being utilized to skew resource allocation for the benefit of political forces.

Video: Christien Meindertsma on the Economic Value of Pigs

Here is a fascinating talk by Ms. Christien Meindertsma on TED, about the economic value of Pigs. I mean the animal (oink oink) variety and not the debt plagued acronym of peripheral European countries.

Ms.Meindertsma's talk somewhat resembles Leonard Read's I, Pencil except that she focuses on the pig as a product than as part of the market process [pointer to Mike Du]



Some passages:

The market process of pigs (bold emphasis mine-from TED)

And what I was curious about -- because historically, the whole pig would be used up until the last bit so nothing would be wasted ... and I was curious to find out if this was actually still the case. And I spent about three years researching. And I followed this one pig with number "05049" all the way up until the end and to what products it's made of. And in these years, I met all kinds people, like, for instance, farmers and butchers, which seems logical. But I also met aluminum mold makers, ammunition producers and all kinds of people. And what was striking to me is that the farmers actually had no clue what was made of their pigs, but the consumers -- as in us -- had also no idea of the pigs being in all these products.

The pig's economic value: (bold emphasis mine)

In total, I found 185 products. And what they showed me is that, well, firstly, it's at least to say odd that we don't treat these pigs as absolute kings and queens. And the second, is that we actually don't have a clue of what all these products that surround us are made of.

And you might think I'm very fond of pigs, but actually -- well, I am a little bit -- but I'm more fond of raw materials in general. And I think that, in order to take better care of what's behind our products -- so, the livestock, the crops, the plants, the non-renewable materials, but also the people that produce these products -- the first step would actually be to know that they are there.

We can't surely know everything. But we can understand the market process. And that's why markets are indispensable.

As Leonard Read writes,(emphasis added)

There is a fact still more astounding: The absence of a master mind, of anyone dictating or forcibly directing these countless actions which bring me into being. No trace of such a person can be found. Instead, we find the Invisible Hand at work. This is the mystery to which I earlier referred.

Central Planning in Education Fails

Central planning even in education doesn’t work. Take a look at Japan’s PhD’s experience

From Nature.com (hat tip: Prof Arnold Kling) [bold emphasis mine]

Of all the countries in which to graduate with a science PhD, Japan is arguably one of the worst. In the 1990s, the government set a policy to triple the number of postdocs to 10,000, and stepped up PhD recruitment to meet that goal. The policy was meant to bring Japan’s science capacity up to match that of the West — but is now much criticized because, although it quickly succeeded, it gave little thought to where all those postdocs were going to end up.

Academia doesn’t want them: the number of 18-year-olds entering higher education has been dropping, so universities don’t need the staff. Neither does Japanese industry, which has traditionally preferred young, fresh bachelor’s graduates who can be trained on the job. The science and education ministry couldn’t even sell them off when, in 2009, it started offering companies around ¥4 million (US$47,000) each to take on some of the country’s 18,000 unemployed postdoctoral students (one of several initiatives that have been introduced to improve the situation). “It’s just hard to find a match” between postdoc and company, says Koichi Kitazawa, the head of the Japan Science and Technology Agency.

This means there are few jobs for the current
crop of PhDs. Of the 1,350 people awarded doctorates in natural sciences in 2010, just over half (746) had full-time posts lined up by the time they graduated. But only 162 were in the academic sciences or technological services,; of the rest, 250 took industry positions, 256 went into education and 38 got government jobs.

In short, even PhD graduates end up jobless.

The basic problem is that educational output does not conform with the desires or requirements of the marketplace.

Instead government policies, out of political goals “to match the capacity of the West”, produced surpluses, which has led to these unemployed “experts”. In other words, these unemployed PhDs had been products of misdirected political imperatives. This also applies to capital too.

It’s the same with public education. Four out of TEN college graduates in the Philippines have been unemployed. That’s because the problem hasn’t been about the lack of education, but rather, the lack of economic opportunities and the misguidance brought about by too much government interventionism.

Graduates can only work when there are available jobs. And economically productive jobs emanate from the private sector. Even government jobs are financed by taxes from the private sector. When the private sector are burdened by too much regulations, political mandates, taxes and compliance costs, investment opportunities dwindles. Thus, the surge in unemployment.

Bottom line: Education does not guarantee jobs. Economic freedom does.

War on Commodities: IEA Intervenes by Releasing Oil Reserves

Ever since May 2011, a tactical multi-pronged assault on the commodity markets has been in operation.

From drastically raising of credit margins which started with silver then spread to other commodities, then European regulators have impliedly taken vigil over profits from commodity trade by the banking sector, China has joined the commodity price control fad, UN’s endorsement of price controls (which represents public mind conditioning to justify the cumulative price control actions worldwide), the ban on US OTC trades on precious metals, and the labeling of ‘Conflict Gold’ aimed to control gold flows.

All these appears to be timed with the termination of Quantitative Easing 2.0 this month.

Now comes another direct intervention; the IEA has announced that it will be releasing 2 million barrels a day for the next 30 days

Reports the Marketwatch.com,

The International Energy Agency said Thursday that its 28 member countries have agreed to release 60 million barrels of oil in the coming month because of the ongoing disruption of oil supplies from Libya. The Libyan unrest removed 132 million barrels of light, sweet crude oil from the market by the end of May, according to IEA estimates. As part of the IEA move, the U.S. will release 30 million barrels of oil from the Strategic Petroleum Reserve, which stands at 727 million barrels. This is the third time in the history of the IEA that its members have decided to release stocks. "I expect this action will contribute to well-supplied markets and to ensuring a soft landing for the world economy," said IEA Executive Director Nobuo Tanaka in a statement

I have been saying that this has been part of the implicit communications policy tool called as signaling channel, which is being employed by central banks aimed at managing ‘inflation expectations’.

The goal is to create conditions where statistical inflation has been suppressed (or termed as ‘transitory’).

These actions are currently being backed by claims or studies from the US Federal Reserve and allied institutions that shows that central bank actions have not been related to commodity price increases.

These centrally planned coordinated actions seem designed to rationalize for the next major overt interventions, which will come in the form of asset purchases (currently designated as Quantitative Easing or Credit Easing policies).

Of course, the above pays little heed to the longer term consequence of these series of actions.

Political actions mainly focus on the short term benefits—which are aimed at generating votes and high approval rating for tenure or election reasons. The public hardly sees that these actions concealedly reward or goes in the interests of powerful vested interest groups.

Bank of Japan’s Interventions in Japan’s Stock Markets

Japan’s central bank, the Bank of Japan (BoJ), through her version of quantitative easing program, has been bidding up her local local stock market

From Reuters, (bold emphasis mine)

Many market players also said expectations that the Bank of Japan would buy stock exchange-traded funds (ETFs) should there be sharp falls in share prices were limiting any incentive to sell aggressively.

The central bank has made about 300 billion yen's worth of such purchases since December, and has stepped up buying since the earthquake in March, as part of its asset purchase programme that includes buying of up to 900 billion yen of ETFs.

This serves as another proof that the US Federal Reserve and Ben Bernanke’s creed of supporting stock markets has been exported to Japan and is likewise further proof of the coordinated actions by central bankers globally.

Also, such actions works in the favor of the Japan’s mega banks whom holds substantial exposure to equity assets.

Almost everywhere, central bankers have prioritized the interests of the banking system

Nonetheless the Nikkei continues to wobble in the red on a year to date basis (chart from Bloomberg) despite the BoJ interventions.

Yet money spent to boost the Nikkei is money lost for productive uses.

Financial Success is a Function of Common Sense and Self Discipline

Some have this misbegotten notion/belief that attaining wealth and fame translates to a state of permanence.

Well it’s not.

This should be a noteworthy example, from yahoo.com (bold emphasis mine)

Patricia Kluge was once known as "the wealthiest divorcee in history." Those days are over. Kluge, who had formerly been married to the late billionaire Paul Kluge, recently filed for bankruptcy protection, citing debts somewhere between $10 million and $50 million and assets between $1 million and $10 million….

We doubt the couple will be out on the street selling pencils anytime soon. Still, Patricia Kluge's present straits represent a remarkable reversal for a woman who, at one time, was one of America's richest and most extravagant socialites. A buzzy article from the AP explains that the Kluges once hosted parties for "royalty, corporate chieftains, celebrities, and literary figures." She lived in a 23,500-square-foot mansion, owned a winery and, by all accounts, lived the good life.

A little too good, as it turned out. Her financial troubles began to pile up during the economic downturn and creditors started seizing her assets in earnest earlier this year. Kluge and her husband had attempted to renegotiate their loans with various banks, but failed. In April, Donald Trump bought most of Kluge's winery and vineyard from Farm Credit Bank for $6.21 million.

As I always tell my wonderful kids, financial success depends on a simple equation:

Income – Expense = deficit or surplus

If spending is greater than income where constant excess spending is financed by drawing from future income (debt), one ends up consuming wealth.

So has been the case of Patricia Kluge. And so will be the case for all the rest who fail to heed or realize on this simple lesson.

[Yes, local boxing legend Manny Pacquiao, despite his newfound riches, won’t be spared from this basic rule]

And so has this predicament befallen on governments, whom mistakenly believe that they can spend their way to prosperity.

Bottom line: It would need or take only common sense and self-discipline to observe this rule, which unfortunately many people especially those in the governments and their apologists don’t have (many live under the delusion that they are beyond or immune to the laws of economics. Also the idea that they are equipped with or backed by the printing presses can do them magical stuffs).

Ben Bernanke Admits to the Knowledge Problem

“We don’t have a precise read on why this slower pace of growth is persisting,” the Fed chairman, Ben S. Bernanke, said Wednesday at a news conference. “Some of the headwinds that have been concerning us, like the weakness in the financial sector, problems in the housing sector, balance sheet and deleveraging issues, may be stronger and more persistent than we thought.”

That’s from the New York Times.

US Federal Reserve Ben Bernanke finally acknowledges to the “knowledge problem”, which again validates the knowledge theory of the great F.A. Hayek.

Of course, we’ve been saying that Ben Bernanke has had a string of inaccurate predictions.

Remember, Mr. Bernanke is backed by about 450 Federal Reserve economists, half of which are PhDs.

In essence, this is an admission of the grand failure of macroeconomics founded on econometrics.

Now for QE 3.0

Back to the same article, (bold highlights added)

Mr. Bernanke dismissed for now any possibility that the Fed would extend its efforts to stimulate growth, saying that the economy was moving in the right direction. The slow pace of the recovery justified the Fed in continuing its existing efforts, he said, but not more.

The Fed’s policy board, the Federal Open Market Committee, voted unanimously to maintain its two-year-old commitment to hold a benchmark interest rate near zero “for an extended period.” Mr. Bernanke said the language meant it would not raise interest rates for “at least two or three meetings,” pushing back to November the earliest moment rates could rise. Economists consider it likely that the central bank will hold interest rates near zero well into next year.

The board also voted to maintain the Fed’s portfolio of more than $2 trillion in Treasuries and mortgage-backed securities by reinvesting principal payments. The board did not indicate how long this policy would continue, a decision that Mr. Bernanke described as intentional. Fed officials have said that allowing the portfolio to dwindle is likely to be the first step when the central bank decides to begin the withdrawal of its aid programs.

Action speaks louder than words.

True, QE may not be immediate, as QE 2.0 has been activated five months after the completion of QE 1.0, but to maintain the $2 trillion balance sheet by ‘reinvesting’ principal payment for an indefinite period signifies transitional QE.

Given the current political institutional framework, QEs signifies a strong force in keeping this arrangement intact.

Besides for an economy that has been artificially propped up by a tsunami of liquidity, obviously a withdrawal or non addition would trigger a meaningful regression—the risk prospect of which, based on their guiding ideology, should be sternly avoided.

This means that the door for QE is wide open, (which I think is part of the mind ‘conditioning’ communication tools applied by the FED)...

Now the Fed is standing back again to see if the economy can grow without constant prodding. “A little bit of time to see what’s going to happen is useful in making policy decisions,” Mr. Bernanke said. He allowed, however, that the Fed could take additional steps, from declaring a longer period of near-zero interest rates to buying even more assets.

Ben Bernanke admits that the he and the rest of US Federal Reserve can’t read the economy, but then he believes that his set of tools works.

What a contradiction.

Finally because of some political backlash on the Fed’s polices, the asset purchasing (money printing) program may come in a different form and or under a name.

Paradigm Shift: Brazil, Indians and Chinese Invest in Overseas Properties

Past performance do not guarantee future results.

Many of today’s international property investors have not hailed from the West, but rather from the Nouveau riche of the BRICs (excluding Russia), whom have reportedly been on a buying spree.

First, the Brazilians.

From the Bloomberg, (bold highlights mine)

Surging real estate prices in Brazil and the currency’s 45 percent gain against the U.S. dollar since 2008 are sending Brazilians to South Florida in search of bargain vacation homes and property investments. That’s helping bolster Miami’s condo market, with total sales increasing 79 percent in the first five months of 2011 from a year earlier, according to data from the Florida Association of Realtors released today.

In the Miami area, Brazilians bought 9 percent of homes and apartments sold to international buyers in the 12 months through March 2010, behind only Canadians and Venezuelans, according to the Miami Association of Realtors. Since then, “anecdotal evidence certainly points to a significant increase,” said Lynda Fernandez, a spokeswoman for the group. In May, international clients bought about 60 percent of existing houses and condos and 90 percent of newly built homes, the association reported today.

Next, the Indians

From loansafe.org

Wealthy Indians are keeping the family bonhomie alive in the heart of London, buying not one but a cluster of houses or apartments for themselves, their children and small teams of personal staff. Tony areas like Kensington, Mayfair, Knightsbridge and Belgravia are some of the popular destinations for such clusters.The homes typically are a network of residential properties on a street or an apartment block. The central idea behind such purchases is that it will give the children a sense of independence, staying just a few houses away from their parents, with support staff being just a buzz away.

High networth individuals from India and the Middle East are the main cluster buyers in London. In fact, there has been a marked increase in the number of Asian buyers. “Asians are our biggest single group of purchasers now, accounting for 44 percent of sales in 2010. Of this, 17 percent were Indians. In 2008, only 7 percent of the purchases were made by Asians,” Shirley Humphrey, sales and marketing director of Harrods Estates, a property broking firm, said. According to her, a weak British pound and low interest rates have contributed to the appeal of cluster buying in prime residential areas. (bold emphasis mine)

Finally the Chinese

From China Daily (bold emphasis added)

An increasing number of China's rich are snapping up properties overseas in the expectation that domestic inflation will continue to rise after the consumer price index reached a 34-month high in May.

According to Colliers International, a real estate service provider, the proportion of Chinese buyers in Vancouver's property market is on the rise. At the end of the first quarter this year, it increased to 29 percent of all homebuyers.

In the past six months, Chinese spent 1.3 billion yuan ($200 million) through Colliers' international property department, with Canada, the UK and Australia topping the buying list.

"We are expecting a clear increase in the extent of mainland buyers' purchases of overseas properties this year because of the government's rigorous restraint on the number of homes a family can buy in key cities," said Alan Liu, managing director of Colliers International (North Asia).

Due to the latest financial push from China, the average price of a home in Greater Vancouver rose 12 percent in 2010 and is expected to rise another 3 percent this year, according to the Canada Mortgage and Housing Corporation.

Demand from mainland immigrants now accounts for 29 percent of all new homes in Vancouver.

The situation in London is similar. Last year, overseas nationals purchased 28 percent of all resale properties across all prime London sites and 54 percent by value in the prime central London area in the more than 5 million pound ($8 million) price bracket, according to a recent report by Savillsresearch.

"If the money from China were to start flowing into London at the same rate it does from billionaires in other countries, we would expect the value of ultra-prime London properties to grow by as much as 15 per cent," said Yolande Barnes, head of Savills residential research.

"The issue at present is that Chinese buyers aren't taking, or can't take, their money out of China."

The biggest increase in global billionaires since 2007 has occurred in China and the Commonwealth of Independent States (CIS). While CIS buying activity has been strong, accounting for 15 percent of prime central London purchases by value, Chinese billionaires have yet to have a real impact, accounting for just 3 percent of prime central London resale purchases by value.

More thoughts.

International and domestic monetary policies have been a significant factor in driving property investments overseas.

There is also globalization.

Finally, the irony is that the erstwhile ‘poor’ appears to be saving the traditional ‘rich’ as in the case of London and South Florida.

How times have been changing.

Greeks Go For Gold

Ah, paper money versus gold.

When the public lose trust on the highly flawed system that had been imposed on them, they revert back to the old tried and tested ways.

That applies to the Greeks who are reportedly rushing to acquire Gold to secure their savings.

From the Financial Times [bold highlights mine]

Greek citizens are emptying savings accounts and buying gold as they brace themselves for the possibility of a sovereign default and a run on the banks.

Pledges by socialist prime minister George Papandreou that his government would “save the country” have been widely discounted by the public. However, parliament gave him a vote of confidence late on Tuesday night. The socialists have a six-seat majority in the 300-member house.

Sales of gold coins have soared as savers seek a safer and fungible source of value...

Monthly bank withdrawals were running at €1.5bn-€2bn (£1.3bn-£1.8bn) in the first quarter. Last year, depositors withdrew €30bn, equivalent to 12.3 per cent of total savings, according to the central bank. Greek deposits worth an estimated €8bn were transferred to banks in Cyprus in 2010. But the flow has dried up this year amid fears that Cypriot banks could suffer contagion.

Andreas, a supermarket manager, transferred the family savings to Munich earlier this year: “The Swiss banks aren’t interested unless you’ve got several hundred thousand euros.”

“We can’t trust the politicians to get us out of this mess [and] have to protect our families,” Sakis, a garage owner, said at an anti-austerity protest in Athens’ Syntagma square. “A bank collapse has got to be on the cards.” He added he had withdrawn his savings and placed them in a bank safe deposit box “for security. Who cares about interest right now?”

Politicians can fool us most of the time, but not all of the time. Eventually economic reality prevails and fraudulent promises are exposed. It's been this way for ages.

US Government’s War on US Expats and American Investments Overseas

I have been saying that the US government has increasingly been intruding in the marketplace or applying financial repression for implicit political reasons.

This time the object of their engagement appears to be American expats and possibly overseas investment by American residents! In other words, the US has declared war with her own citizens.

From Financial Times’ Gillian Tett [bold emphasis mine]

This summer, the senior management of one of Asia’s largest financial groups is quietly mulling a potentially explosive question: could it organise some of its subsidiaries so that they could stop handling all US Treasury bonds?

Their motive has nothing to do with the outlook for the dollar. Nor does it reflect fears about the US debt ceiling (or the risk that the US will soon default if it fails to raise the legal limit on bond issuance).

Instead, what is worrying this particular Asian financial group is tax. In January 2013, the US will implement a new law called the Foreign Account Tax Compliance Act (Fatca), that forces all global financial companies to report details to the IRS, the US tax authority, of any clients linked to the US with more than $50,000 in an account. These rules, quietly passed by Congress last year, would partly put the responsibility on the bank or asset manager – not just the individual – to make this filing.

The IRS insists that these measures are simple for banks and asset managers to implement; they just need to perform an electronic “sweep” of their clients to track those with more than $50,000 in an account and obvious connections with the US, such as an address, Treasury officials argue.

“The US interest is to have reporting on accounts to stem the tide of offshore tax evasion,” says Manal Corwin, a senior official at the US Treasury, which hopes the measures could net billions of dollars of badly needed new revenues.

While this logic might sound sensible, the new rules leave some financial officials fuming in places such as Australia, Canada, Germany, Hong Kong and Singapore. Little wonder. Never mind the fact that implementing these measures is likely to be costly; in jurisdictions such as Singapore or Hong Kong, the IRS rules appear to contravene local privacy laws. After all, as Terry Campbell, head of Canada’s banking association, points out, the rules are essentially akin to “conscripting financial institutions around the world to be arms of US tax authorities”.

What has left some financiers doubly angry is that Congress introduced the law with little overseas consultation – but the IRS is now threatening heavy penalties for non-compliance.

More specifically, the IRS is threatening to impose a withholding tax of up to 30 per cent on sales of US assets by groups that it deems to be “non-compliant” – and the assets could include US shares or US Treasury bonds.

Hence the fact that some non-US asset managers and banking groups are debating whether they could simply ignore Fatca by creating subsidiaries that never touch US assets at all.

“This is complete madness for the US – America needs global investors to buy its bonds,” fumes one bank manager. “But not holding US assets might turn out to be the easiest thing for us to do.”

Whether anybody follows through on this threat remains doubtful. In practice, banks in places such as Canada, Australia and Germany say that it would probably be impossible for them to not handle US Treasuries or stocks. Some are consequently considering whether they should shun US citizens as clients instead.

In the name of tax evasion, this time taxes are being deployed as instruments for repression and implied interventions on the actions of market participants—“threatening to impose a withholding tax of up to 30 per cent on sales of US assets by groups”.

Also regulations imposed on foreign institutions will likely to create geopolitical frictions and other untoward effects, some of which have been explained above.

Maybe legendary investor Jim Rogers got them all so roiled up.

Again we are seeing increasing signs of desperation.

Could capital controls be next?

Markets in Everything: China’s Village Specializes in Breeding Snakes

Markets emerge when people discover economic value in specific goods or services.

In China, cuisine and medicinal demand for snakes has led to a village specializing in snake breeding.

From Reuters,

This sleepy village nestled in the heart of vast farmland in China's eastern Zhejiang province hides a deadly secret.

A step into the homes of any of the farming families here brings visitors eye-to-eye with thousands of some of the world's most feared creatures -- snakes, many of them poisonous.

Cobras, vipers and pythons are everywhere in Zisiqiao, aptly known as the snake village, where the reptiles are deliberately raised for use as food and in traditional medicine, bringing in millions of dollars to a village that otherwise would rely solely on farming.

"As the number one snake village in China, it's impossible for us to raise only one kind of snake," said Yang Hongchang, the 60-year-old farmer who introduced snake breeding to the village decades ago.

"We are researching many kinds of snakes and the methods of breeding them."...

Today, more than three million snakes are bred in the village every year by the 160 farming families.

Snakes are renowned for their medicinal properties in traditional Chinese medicine and are commonly drunk as soup or wine to boost the person's immunity.

Belgian Central Bank ‘Lends’ 41% of Gold Reserves, Growing Role of Gold as Money

Tyler Durden of Zero Hedge points to CLSA’s Chris Wood’s report noting that the Belgian Central Bank has lent out 41% of its gold reserves and that gold and silver coins as money have been making strides in the US.

From CLSA (via Zero Hedge) [bold emphasis mine]

Belgian central bank Vice Governor Francoise Masai reportedly told shareholders that about 41% of the central bank’s 216 metric tons of gold was on loan at the end of last year, and that the central bank earned a 0.3% return on its loans of physical gold to commercial banks last year. There are two points to note about this. The first is the puny annualised return earned on the gold leasing market. The second is the significant percentage of the central bank’s gold lent out. This is a reminder that the paper gold market is significantly larger than the physical market. Just like a run on a bank in a fractional banking system, GREED & fear suspects it will be very hard to settle all the paper claims to gold physically in a real scramble for the metal. This is why in a parabolic spike physical gold is likely to trade at a significant premium to paper claims. On this point GREED & fear should make it clear that the 25% of the global portfolio for a US dollar-denominated pension fund allocated to gold bullion is in physical gold.

Meanwhile, it is an interesting note that more than a dozen state legislators in America have now seen bills introduced that would make gold and silver coins legal tender in the respective states. Thus, gold and silver coins minted by the US government are now considered legal tender in Utah. Much of this activism is coming from Tea Party supporters. Financial sophisticates will scoff. But to GREED & fear it is a healthy sign that some people in America are thinking. For more on this popular movement to return to the monetary role of gold read an article published last week by the Los Angeles Times (“Pushing for a return to the gold standard”, 3 June 2011 by Nathaniel Popper).

Gold leasing is almost equivalent to short sales.

As John Hathaway of Tocqueville Asset Management L.P explains,

The gold that is being borrowed from central banks [and private sources] is being sold into the physical market where it is being consumed as jewelry. It is no longer in liquid, deliverable form. Gold loans will not be as easy to repay as the borrowed yen. The shorts are facing an epic squeeze.

Aside from Belgium, I would suspect that many of central banks of major economies could have also lent out (shorted) part of their gold reserves.

Aside from the lease-short sale dynamics, the emerging fissures in the paper money system will likely drive many EM economies as major buyers of gold. Chart above from IBTimes

And that’s what we seem to be seeing today.

From gold.org May report,

As of the IMF’s May release of its International Financial Statistics, several countries have reported additional purchases of gold. Notably, Mexico reported to the IMF that it acquired 14.8 and 78.5 tonnes of gold in February and March, respectively. This was a significant increase in its gold holdings, raising Mexico’s position in the table to the 34th largest holder of gold with 100.2 tonnes. In its press release, the Banco de Mexico indicated that its acquisition of gold was in line with prudent diversification principles of reserves management. Indeed, Banco de Mexico’s acquisition of gold was likely motivated by a need to diversify its rapidly expanding foreign reserves, which increased from approximately $75 billion to $120 billion between Q1 2007 and Q1 2011.

Additionally, Thailand also reported an increase in its gold reserves of 9.3 tonnes in March, raising its total gold holdings to 108.9 tonnes. This follows an acquisition of 15 tonnes in July of last year. Finally, Russia continues to regularly add gold to its reserves, adding 22.5 tonnes between January and March. Russia is the 8th largest holder of gold.

The latest statistics show no significant selling by the signatory central banks in Year 2 of the third Central Bank Gold Agreement (CBGA3).

So these incentives should continue to drive the actions of the central banks, which should account for a significant force for higher gold prices.

Also as previously explained, rising gold prices has gradually been changing the outlook of the public; once an outcast which economic ideologues disparaged as the ‘Barbaric relic’, now momentum favors more acceptance of gold and silver as money—as it had been for most of human history.

This time won’t be different.

Philippine Banking System: “Most Heavily Fortified Bastion of Privilege and Profit”

The unholy trinity of banking-central banking and government patronage system operates even in the Philippines as well.

From Joe Studwell Asian Godfathers, Money and Power in Hong Kong and Southeast Asia [p.105], (bold emphasis mine)

Such antics caught up with the Philippines in the early 1980s, when the debt-laden regime defaulted on its foreign on its foreign borrowings and several banks failed. After the departure of Marcos in 1986, however, the government of Cory Aquino bailed out the banking system by issuing high-yielding government bonds and providing additional, cheap government deposits. The cost of this action became apparent in 1993 when the old central bank was closed down with a US$12-billion write-off to be born by the treasury, and hence taxpayers. The annual cost of servicing this debt in the mid 1990s was more than the Philippines’ health budget. Those tycoons who did not, like Benedicto and Disini, flee with Marcos, and survived the Philippine Commission on Good Government, found their banks revived with public money and able to enforce cartel pricing that in the late 1990s gave them the best banking margins in Asia. Despite all the trading and production cartels and monopolies sanctioned by Marcos and others in the Philippines, Paul Hutchcroft concludes that the banking sector has always been the ‘the country’s most heavily fortified bastion of privilege and profits’.

That’s the Philippine version of ‘Financial Repression’.

Also, here lies the political "dirty laundry" which have largely been unseen by the public. Good government? Bah!

The Coming Global Government Debt Default Binge

From the Wall Street Journal blog:

The biggest risk, however, isn’t Greece per se. It is the prospect of other peripheral euro members — Ireland, Spain, and Portugal — following Greece down the default path. That cascade effect has to be avoided….

The global credit authorities and financial markets have been digesting this problem for more than a year. Some participants think a default is inevitable; Greece should just do it.

Then the world can move on to an even bigger worry: whether the U.S. government will soon default on its debt.

Yes, ballooning debt as a consequence of incessant government spending on the welfare state isn’t just an issue of Greece. It’s everywhere.

From the Bank of International Settlements

Sooner or later, something will occur to prevent debt from exploding: governments will adopt corrective measures on their own, or they will be forced to act as sovereign risk premia reach unbearable levels.

And this is only from the facet of government liabilities, which does not include the banking system

This bring us to the admonitions of the great Ludwig von Mises

The boom can last only as long as the credit expansion progresses at an ever-accelerated pace. The boom comes to an end as soon as additional quantities of fiduciary media are no longer thrown upon the loan market. But it could not last forever even if inflation and credit expansion were to go on endlessly. It would then encounter the barriers which prevent the boundless expansion of circulation credit. It would lead to the crack-up boom and the breakdown of the whole monetary system.

Governments will default, either by massive inflation or by the far better option-deflation.

And that’s why the events in Greece is a prelude to the next monumental chain of government-and-banking debt crisis.

We are approaching the Mises moment.

Jose Rizal’s Libertarian Roots

In commemoration of Philippine national hero Jose Rizal’s 150^th birthday, below is an excerpt of an article depicting Jose Rizal’s libertarian roots.

Michael Gilson-de Lemos narrates: (thanks Michael)

Rizal ( here) remains (here) adopted by Pacific ( here) Libertarians and his interaction with Libertarians of his day is a perennial topic of discussion; and he was a close friend of Francisco Pi y Margall, Liberal first President of Spain's First Republic his predecessor Figueras is more viewed as a caretaker) and an avowed admirer and student of the ideal of Libertarian anarchist communities.

Pi y Margall wrote the classic "Reaction and Revolution" where he diligently sought to work through Proudhonian minimalizing-government anarchism with Iberian realities. Once criticized for being too "purist" on freedom issues, he is said to have replied political convictions are like virginity — once lost, they are not recovered. His program seems similar to budding Liberal welfare statism, until one realizes Spanish law at that time is meant to be suggestive, not directive; and he was if inconsistently working for a Federalism to create choice to community levels as a prelude to anarchist or mutual-agreement communities. For this reason he is ignored by modern collectivist literature, and a real problem to US boosters of the War at the time, for as an elder statesman he was moving the government towards accepting Cuban independence.

Rizal, like many early Latin and Latin-influenced proto-libertarians and Libertarians such as (here) Heberto Padilla, is better understood through his poetry and art. The poetry he wrote before his execution is generally considered by Spanish critics and readers alike as among the most sublime ever written. The point is the Philippines was no bunch of tribal yahoos peeling bananas, but as Ade discovered, something very different.

While as today the US tries to portray what is happening in simplistic terms, Ade helped disclose to the public that there was a complex political ecology being ignored. Remarkably, one of Rizal's friends and inspirers was the fascinating figure of ( here) Ferdinand Blumentritt, from whom he learned it is said of the work of the budding Austrian economists (while aware of the work of the Paris Ultras inspired by such as Molinari, Spanish Libertarians were repelled by the Gallic political horseplay that led to attacks on people such as Walras and ultimately destroyed the French Market economists when the government outflanked their influence by decreeing economics would be taught henceforth in the collectivist dominated University Law departments; they rejected "libertarianism imposed from above") — and who is considered one of the founders of ethnography.

Blumentritt was involved in one of the many proto-Libertarian "Individualist Societies" then extant promoting discussion of non-governmental alternatives and agitating for everything from the vote to freer markets.

Read the rest here

NOTE: Because this article was published in June 2003, some of the attached links have either been relocated or has become inaccessible.

Glenn Beck Endorses Ron Paul for President in 2012

Consolidating Phisix and Global Equity Markets

Given the length of a project's life, a decline in the discount rate pumps up the present value of a capital project. An artificially low interest rate alters the evaluation of projects – with longer-term, more capital-intensive projects becoming more attractive relative to shorter-term, less capital-intensive ones. Steve H. Hanke, Boom and Busts

More Interventions Clouds Market Signals

Global equity markets continue to struggle.

This could part of the cyclical growth slowdown which has been deemed as a “growth scare”. This could also signify seasonal factors at work.

Chart above from chartoftheday[1]

This could also represent dour sentiment which has been looking for events to connect with (e.g. Greece Crisis). This may also account for the waning effects of global stimulus measures.

Aside from the forces above, from my contrarian perspective, these could be part of the grand scheme of central planners to generate conditions that would justify further interventions[2].

Interventions of various forms seem as becoming routinary.

For this week, renewed thrust to rig the commodity markets has been initiated by the banning of OTC trades[3] in US commodity markets as part of the latest Dodd-Frank Act targeted at hedge funds.

So the new rules could force some renewed liquidations or put some selling pressures on the commodity markets over the coming sessions.

In the meantime, commodity investors are likely to consider alternative avenues to go about trading the markets.

Considering the next wave of bailouts (China[4] and Greece[5]), there will likely be more direct interventions ahead

As Carmen M. Reinhart, Jacob F. Kirkegaard, and M. Belen Sbrancia writes[6],

Other approaches to creating or expanding demand for government debt may be more direct. For example, at the height of the financial crisis U.K. banks were required to hold a larger share of gilts in their portfolio. Greek, Irish, and Portuguese banks have already liquidated a substantial fraction of their foreign assets and used the proceeds to buy domestic public debt. Thus the process by which debts are being placed at below market interest rates in pension funds and other more captive domestic financial institutions is already under way in several European countries. Spain has recently reintroduced a de facto form of interest rate ceilings on bank deposits. Similar trends are developing in Eastern Europe.

Moreover, the use of capital controls by emerging markets hoping to control destabilizing inflows (hot money), potential overheating, rising inflationary pressures, and related competitiveness issues have found far greater acceptance in the international community than at any time since the breakdown of the Bretton Woods system. Indeed, many emerging markets have already begun to use such policies.

Therefore we should expect more volatility on either direction, as the distortions in the economic distribution of resources are amplified.

Selling Strains Vented on Equity and Currency Markets

Strains of the fumbling equity markets worldwide have also been evident among ASEAN bellwethers.

Chart from Bloomberg

As one would note, the price motion of ASEAN’s bellwethers appear to be highly correlated. This is with the exception of Malaysia’s KLCI (red line), which appears to have grabbed the leadership from Indonesia (orange) or Thailand (yellow). Apparently this shifting leadership dynamic signifies more evidence of the ongoing rotational process.

So far, the current failing seen in global markets hasn’t had a substantial adverse impact on the above bourses. Except for Malaysia which popped to the winning column, the former top gainers have currently posted minimal losses.

This dynamic has not been limited to equities.

Currencies of the above ASEAN economies have also tumbled against the US dollar. This downside pressure has also been seen in the currencies of most of the major Asian economies.

For the Peso, part of the current weakness has reportedly been from massive intervention by the local central bank or BSP to stem the Peso’s appreciation.

The Danske Research team writes[7],

BSP has intervened massively in the FX market to stem the appreciation of PHP. While capital controls have so far not been introduced, they remain a possibility

If these interventions are not mopped up, then this should boost liquidity into the system that should add to the inflationary pressures that would have the main point of entries on the asset markets.

Phisix: Market Internal Points to Consolidation and Not Reversal

This week’s losses have been reflected on the broader market.

All sectors were in the red, mostly led by the Financials and the Service sector.

Friday’s bizarre last minute selloff, which brought the Phisix to the negative zone after drifting the entire day on the positive (see below chart), was apparently led by the marked declines of Bank of the Philppine Islands (-4.34%), Banco De Oro (-5.73%) and Globe Telecoms (-4.2%).

Chart from technistock.net

Combined with earlier losses this week, a vital segment of the decline of the Phisix can be traced on the performances of these heavyweights, that is in addition to PLDT.

The massive selldown on the above issues last Friday appears to be locally driven. Only Globe Telecoms posted foreign selling.

Yet in spite of the selloffs, BPI and Globe Telecoms were not even on the top 10 most active list, where both ranked 16^th and 21^st respectively. Meanwhile, BDO had only php 44 million in value traded.

This implies of the panicked reaction of the seller whom I suspect could be the handywork of one entity who probably got spooked for whatever reason and dumped their holdings at the closing bell.

Foreign trade registered positive this week, which means that the recent declines have been locally driven.

And despite the second week of losses, market sentiment have not been bearish overall.

The above chart shows of the daily trades (bottom) and the Phisix (top; courtesy of stockcharts.com)

Ever since the Phisix breached 4,000 level, one would note of a spike in the daily number of trades which usually coincides with upticks in the Phisix.

In September 2010, when the Phisix soared from 3,600-4,400, the number of daily trades spiked to reach the 20,000 level.

Another attempt at a runup in late December also coincided with an upsurge in daily trades to a similar level. The ensuing correction in the Phisix which lasted from January to March of this year saw a decline of the number of issues traded.

But this remained elevated compared to the first semester of 2010, where the Phisix traded from 2,800 to 3,600 and where number of trades ranged from 5,000-10,000.

We seem to be seeing the same cycle playing out today.

The point is, the number of trades reflect on the market’s sentiment. People tend to trade more often during upside swings than during downturns.

The elevated and ascendant (red trend) sentiment indicator reveals that despite current corrections, the local market has, so far, has resisted bearish assaults on market psychology.

In short, these signfiy signs that the Phisix has merely been consolidating and not enduring from a major reversal.

I would further posit that should there be any major reversals, both the Phisix and the daily number of trades would breakdown from their current trends simultaneously.

I don’t see this happening soon. Definitely NOT when the local and foreign monetary policies remain accommodative. And definitely NOT when policy stimulus, the addiction to debasement of the currency, could get activated anytime soon.

IMF Acknowledges Impact of Low Interest Rates

As final thought on this abbreviated discussion on the equity markets.

I’d like to point out that the IMF has acknowledged that a low interest rate environment encourages speculation.

From the IMF[8] (bold emphasis mine)

Low interest rates in advanced economies are promoting pockets of re-leveraging by lowering the “all-in” cost of debt capital for corporate borrowers. This is encouraging investors to use financial leverage to generate sufficiently attractive returns on equity. Although credit spreads are still higher than before the crisis, ultra-low short-term interest rates mean that the cost of debt is now lower, both for floating-rate and fixed-rate debt. This lower cost of borrowing renders debt servicing ratios more favorable, even at higher debt loads, thereby enabling companies to operate with more financial leverage

Has the IMF finally seen the light which the Austrians have long been pounding? This premise of IMF essentially lends credence to or validates the Austrian Business Cycle Theory.

Further, the causal relationship between low interest and financial leverage only goes to prove that business cycles or boom bust cycles underpin most of the actions in the financial markets and likewise plays an important role in the developments of the real economy.

And these relationships have become increasingly evident in Emerging Markets bonds (corporate and sovereign) markets, as well as the US leverage loans and high yield bond markets.

And we can see that this dynamic has also been a factor in influencing the actions in the US stock markets (chart from David Rosenberg[9])

As I have long been saying, today’s markets have largely been a function of inflationism.

---

[1] Chartoftheday.com Dow Average Monthly Gain, June 3, 2011

[2] See Falling Markets, QE 3.0 and Propaganda, June 12, 2011

[3] See War on Gold and Commodities: Ban of OTC Trades and ‘Conflict Gold’, June 18, 2011

[4] See China Prepares For Massive Bailout!, June 1, 2011

[5] See Serial Bailouts For Greece (and for PIIGS), June 4, 2011

[6] Reinhart Carmen M. Kirkegaard Jacob F. and Sbrancia M. Belen Financial Repression Redux, IMF Finance and Development, June 2011

[7] Danske Bank Slowdown in global recovery takes toll on EM equities, Emerging Market Briefer June 15, 2011

[8] IMF.org Markets Pricing a Mid-Cycle Slowdown, Global Financial Stability Report Market Update, June 2011

[9] Rosenberg, David Breakfast with Dave, vccm.squarespace.com, April 11, 2011