The Causal Realist Perspective to the Phisix-Peso Bullish Momentum

Strictly unedited. I am in a hurry so I won’t be posting a quote for today.

It would seem as another victory lap for us considering that events continue to validate our assessment and prognosis of the markets.

Last week, we focused on several clues which possibly heralded on the next major move of the market over the short and medium term. This week highlighted the fulfillment of this short term prognosis.

This remarkable substantiation by the market of our analysis justifies as another “I told you so” moment.

Again, all signs have been in apparent consolidation, which prominently foretells of this rapturous pivotal moment of truth: bullish chart formation, rallying peso, improving market breadth, expanding bullish sentiment of both local and foreign investors, and now the transition from divergences to convergences in the price actions of global equity markets.

It has definitely been a rare instance to see all these variables move in harmony, which gives us further confidence to say that the next leg up should account for as a major move (barring any external shock)

The Causal Realist Approach versus Mechanical Charting

I would like add to my previous discourse about the ubiquitous brilliance of everyone during bullmarkets especially when applied to the value of charts.

As previously noted[1] charts should function as guidepost to measure theory. Charts should not be substituted for theory.

From a Mengerian causal-realist perspective, the search for cause-and-effect relationships or causal laws "exact laws" in the marketplace under the fundamental economic dimensions such as prices, wages and interest rates, as observed in reality should be the imperative analytical approach.

As Dr. Carl Menger wrote on the preface of his magnum opus[2], (bold highlights mine)

I have devoted special attention to the investigation of the causal connections between economic phenomena involving products and the corresponding agents of production, not only for the purpose of establishing a price theory based upon reality and placing all price phenomena (including interest, wages, ground rent, etc.) together under one unified point of view, but also because of the important insights we thereby gain into many other economic processes heretofore completely misunderstood. This is the very branch of our science, moreover, in which the events of economic life most distinctly appear to obey regular laws”

In other words, mechanical charting does not establish the cause and effect relationship of economic variables relative to the possible distribution outcomes that would be reflected on future prices.

Instead, mechanical charting assumes that all relevant information have been incorporated in past and present prices from where patterns and formations are used as the principal metrics to ascertain future prices or outcomes.

All these are based on historical determinism where past performance is presumed to sufficiently impute the necessary statistical relevance to produce high rates of predictive successes.

This echoes the highly flawed Efficient Market hypothesis[3] which sees financial markets as “financially efficient” which have been founded on Rational Expectations theory[4] which similarly sees errors as emanating from ‘random’ factors than from inherent knowledge asymmetry, in the assumption that “outcomes that are being forecast do not differ systematically from the market equilibrium results. As a result, rational expectations do not differ systematically or predictably from equilibrium results”.

With the way various government interventions has been distorting the distributional balance of the marketplace and the economy, information asymmetry has been magnified enough to undermine such assumptions—and this is precisely why boom bust cycles exists!

Warren Buffett has been right. There won’t be the investment savant Warren Buffett whom we know of, if financial markets resembled ‘efficiency’.

To quote Mr. Buffett[5],

I'd be a bum on the street with a tin cup if the markets were always efficient.

Investing in a market where people believe in efficiency is like playing bridge with someone who has been told it doesn't do any good to look at the cards.

It has been helpful to me to have tens of thousands (of students) turned out of business schools taught that it didn't do any good to think.

Bottom line: Each tool has its proper use.

The Causal Realist Perspective to the Phisix-Peso Momentum

Applying the Causal-Realist approach to the local markets, a review of the Phisix chart (black candle) reveals that last week’s head and shoulder breakout (blue trend line and light blue arcs) was further confirmed by this week’s .92% advance (violet circle). Year-to-date, gains of the Phisix have accrued to 4.53% the highest for 2011.

However, the local benchmark attempted a similar breakout from the nominal all time high record set last November at 4,413 (green horizontal line) but apparently was repulsed by intra-week profit taking.

This resistance level poses as the NEXT TARGET which I think should be encroached anytime soon.

The Philippine Peso (red candle) further confirms the action of the Phisix.

The Peso’s continued rise vis-a-vis the US dollar decline appears to be representative of the relative demand for Peso assets. Part of this can be seen through the actions of foreign fund flows into the Philippine Stock Exchange. Fund flows can also happen to other domestic assets as real estate, bonds, FDIs or etc...

I pointed out last week that foreign buying manifested seminal signs of expansion as the Phisix crawled higher prior to these colossal breakouts.

This week, net foreign buying nearly trebled. This was apparently boosted by Metro Pacific Investment’s [PSE: MPI] $200 million (P 8.64 billion) private placement[6], half of which was subscribed by MPI parent First Pacific Co. of Hong Kong.

Yet the Peso’s action (yahoo lower window) seems congruent with the actions of Asia’s currencies.

The ferocious rally of the Peso (1.01%) this week was equally reflected on the Bloomberg-Reuters ADXY (a basket of Asian currencies, upper window) although the latter’s gain came at a much modest pace.

And the rally on Asian currencies seems to have been bolstered by net foreign inflows into the region. But this week’s inflows comes with a particular oomph for the Philippines, according to the Emergingmarkets.me[7] (bold emphasis mine)

Asia funds attracted the greatest volume of new money, totalling $634 mln and equal to 0.26% of AUM. China funds attracted $355 mln (0.4% of AUM), their best week since end April as investors were not put off by the disappointing PMI Manufacturing report and prospects for further rate rises. In terms of % of AUM, Philippine funds attracted the most new money equal to 12.4% of AUM[8] and Malaysia funds reported new money equal to 7.5% of AUM

This explains the significant role of the Peso’s outperformance.

Similarly the buoyancy of Asian currencies has been manifested on the equity markets where most of Asian bourses have posted advances.

ASEAN markets seem to have reconverged and has exploded this week.

Despite Thailand’s SET amazing 4.51% post election jump (red orange), the SET remains slightly off the recent highs compared to this week’s simultaneous breakouts of the Indonesia’s JCI (orange) and Malaysia’s KLCI (red).

Of course the Phisix (green) is just about to surpass the record threshold set last November, along with her neighbors.

As one would note, evidences all add up to suggest that this nominal resistance level, which the Phisix attempted to breakout, will likely be history in the coming sessions.

The reconvergences of ASEAN and Global Equity markets could be adding fuel to the bullish momentum.

Secondary Effects: Market Sentiment, Breadth and Sectoral Gains

Despite the hefty gains by the Peso predicated on foreign inflows, local investors still dominates trading, the share of foreign transactions as % to total trade (in Pesos) remain below 50% (green line).

This implies that aside from the growing positive sentiment being exuded by foreign entities, locals have been net buyers, which also suggest that locals have been turning broadly sanguine.

And this buoyant sentiment has been clearly reflected on the improvements in the sectoral performance, market internals and market breadth.

The advances have been broad based. Basically, ever sector posted gains.

However, the industrial sector vastly outclassed all other sectors powered by hefty gains of San Miguel, Petron and Universal Robina. In second place was the Property sector which had been followed by the mining and oil sector.

So apparently we seem to be encountering signs of the rotational process at work

This brings us to Peso volume.

As I said last week, (bold emphasis mine)

A rising Phisix will induce more trades that will be reflected on volume expansion. That’s how reflexivity theory incentivizes people: As prices go higher more people will start chasing prices and higher prices will be read as improvements on economic and corporate output which will further lead to rationalizing of price chasing dynamics, hence, the feedback loop.

In further validation of our observation, the surge of the Phisix has been accompanied by a spike in Peso weekly volume. Although part of this jump can be attributed to the special block sales of the MPI.

We should expect the ascendant Phisix to be accompanied by higher volume. The growth in volume should confirm the strength and the continuity of the current uptick. [Of course we can argue how this reflexivity feedback mechanism will be financed. But this won’t be my story today]

Bottom line: All these demonstrates how the Austrian causal-realist theory is strongly being confirmed or supported by current market actions whether seen in the Peso or the Phisix or Asian equities and currencies.

These indicators seem to be reconverging to reinforce our prediction that momentum will strongly favor the bulls where a successful breakout from this nominal resistance level should posit that the Phisix will likely be headed for the 4,900-5,000 level at the end of the year.

And as with last week’s experience, no trend will move in a straight line.

We are likely to see vastly mightier upside actions than downside swings over a cumulative basis. Such actions will be represented through the price trends.

Yet barring any emergence of fat tail risk, we should expect this bullish momentum to continue.

Post Script: Seasonal Forces and US Consumer Credit Growth

As a final thought, some might argue that the strength we are seeing this July could signify as seasonal forces at work. And that the next two months, which traditionally represent the weakest seasonal link, could jeopardize or upset this evolving dynamic.

While seasonal factors may have some statistical influence over the markets over the past years, as shown in the chart above[9], which applies to the US and which would have a spillover effect to the Asian region, given today’s highly fluid environment where the marketplace has constantly been bombarded with all sorts of government interventionism, my impression is that the cumulative effects of these policies will tend to overrule the influences of seasonal forces.

In addition it’s worth pointing out that consumer credit growth in the US has been vigorously expanding[10].

While others may see this as constructive, once the trillions of dollars in excess reserves held at (and created by) the US Federal Reserve for the banking system[11] (right window), will be converted into loans (probably consumer loans) then we should see further spike in inflation down the road (yes this means higher commodity prices). Thus, the current surge in US equities could be reflective of this inchoate symptom, which again could be a factor in taking precedence over seasonal forces.

---

[1] See I Just Can’t Get Enough: Philippine Phisix Emits Intensely Bullish Signals, July 03, 2011

[2] Carl Menger, Principles of Economics, Preface p. 49, Mises.org

[3] Wikipedia.org Efficient-market hypothesis

[4] Wikipedia.org Rational expectations

[5] Optimmumz.com Efficient market hypothesis

[6] Inquirer.net Metro Pacific raises P8.64B to finance infrastructure projects, July 8, 2011

[7] Weafer Chris WEAFER COMMENT: Equity fund flows: Keeping the faith…but hedging the specifics July 8, 2011 EmergingMarkets.me

[8] AUM means Assets Under Management.

[9] Chartoftheday.com Dow Average Monthly Gain

[10] Federal Bank of Cleveland Data Updates, July 8, 2011

[11] Federal Reserve Bank of St. Louis Graph: Excess Reserves of Depository Institutions (EXCRESNS)

Graphic of the PSE’s Sectoral Performance: Mining Sector and the Rotational Process

The Philippine Stock Exchange has endured its first boom bust cycle this new millennium. We may be segueing into the second.

The graphs below narrate on the sectoral performances since 2007 (5 years)

Below is the year to date performance

2011

Some observations:

The mining sector has prominently led in 2007 and 2009. So far in 2011, the mining sector continues to pull away.

The mining sector has been the worst performer in 2008. Newton’s third law of motion seems to be in play “For every action, there is an equal and opposite reaction.” Mining as the best performer becomes the worst performer during bear markets.

Outside the mining sector the best performers had been

2007: service

2008: service (least decline)

2009: industrial

2010: holding (industrial- second spot)

2011: holding (second spot)

Bottom line: Market leadership rotates. This comes even in the face of the clear outperformance of the mining sector.

If history will rhyme, 2012 may see other sectors takeover the leadership from mining. But I wouldn’t bank on this as the past 5 years does not reflect on the same conditions for 2012.

Investing Guru Joel Greenblatt: Focus on the Long Term

From Joel Greenblatt, author of The Little Book That Beats The Market and The Big Secret For The Small Investor, as interviewed at the Forbes [bold emphasis added]

if you look at top performers over the last decade, the top 25% of managers that have outperformed – came out with the best record for the last ten years – 97% of those top managers spent at least three years in the bottom half of performance.

79% spent at least three years in the bottom quartile of performance. And almost half, 47%, spent at least three years in the bottom 10% of performance. So all their investors left if they did that, but these are the ones who ended up with the long-term record. Most people leave them, most people don’t stick around for long enough.

Some important pointers from Mr. Greenblatt’s excerpt

Two lessons from planting (farming) which can be applied to investments:

1) time is essential or a prerequisite for a fecund harvest (in equities, outsized payoffs) and

2) we reap what we sow.

From such perspective one should realize that a portfolio built for the long term would likely undergo or endure early testing periods where underperformance represents a necessary but insufficient groundwork for prospective outperformance “Alpha”.

My experience with the domestic mining sector strongly relates to Mr. Greenblatt’s advise—patience ultimately rewarded by a time induced outperformance (following several years of underperformance).

Next, short term yield chasing activities represents as the common sin or shortcomings by the average investor.

Little has such adrenalin rousing actions been comprehended as a tactical folly based on two cognitive biases:

-hindsight bias or “inclination to see events that have already occurred as being more predictable” (or Mr. Warren Buffett’s rear view mirror syndrome) and

-survivorship bias or “logical error of concentrating on the people or things that "survived" some process” or chasing of current winners or market darlings.

Finally, the short term yield chasing approach vastly underperforms long term portfolios (see chart from Legg Mason’s Michael Mauboussin “A Coffee Can Approach”) since this represents as high risk-low return tactic which significantly diminishes returns.

Bottom line: Focus on the long term on the platform of understanding how the market works or has been evolving. In short, surf the bubble cycles.

From one of Warren Buffett’s best advise ever:

Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it.

Video: Don Boudreaux on Subjective Value

Professor Don Boudreaux explains subjective value (from Learn Liberty)

Political Dynasties, Female Political Leaders and the Philippine Setting

In the world of politics, gender inequality has been narrowing as female politicians have been increasing around the world (but still remains low overall).

But in many areas, the growth of female politicians seems more representative of a symptom of a chronic disease known as political dynasties.

From the Economist, (emphasis added)

YINGLUCK SHINAWATRA, whose party won Thailand’s general election and who is the country’s presumptive prime minister, is far from the only female relative of a former leader to have taken over the family political mantle (Yingluck is the youngest sister of Thaksin Shinawatra, the prime minister ousted by the army in 2006). As our table shows, there are at least 20 such figures now active in politics, including three presidents or prime ministers and six leaders of the opposition or presidential candidates. (The region most receptive to female dynastic leaders seems to be South Asia. Two of the last three presidents of the Philippines have also been related to former presidents.) Historical figures are not available for comparison, but it is hard to think of any period when so many such women hold high political office. A remarkable number are daughters or other relatives of former strongmen: they are influential in Ghana, France, Peru, South Korea, Guatemala, Kazakhstan and Italy. Perhaps women are thought best able to soften an authoritarian family brand, and make it more acceptable in a democracy.

Such malady especially applies to the Philippines.

Here is a roster of 12 popular mother and son political “tandems” (yahoo)

Cory & Noynoy, Gloria & Mikey, Imelda & Bongbong, Loi & Jinggoy, Guia & Jv, Elenita & Junjun, Lani & Jolo, Glenda & Ruben, Jr, Nikki & Julian, Letty & Ranjit

There about 250 political dynasties in the Philippines (New York Times 2007) and this number has been growing. The 14^th Philippine congress has an estimated more than 75% of lawmakers from old political families (Wikipedia.org).

As I earlier pointed out,

And how do you sustain political dynasties? By systematic redistribution. The above board taxes generated from the local economy are used to pay off voters indirectly by virtue of massive welfare programs [e.g. free movies, free health care, senior citizens discount and etc...] or directly (vote buying) during elections. For instance, local authorities discreetly allow people to squat on empty government and private lands and are given protection from doing so in exchange for votes.

Female leaders are hardly about instituting ‘puritanical/moral’ reforms or about representation of particular issues or political sectors in the conventional wisdom. Instead, most of these women leaders essentially ‘represent’ extensions of family interests in their respective political domain.

I understand that there is a pending anti-dynasty bill (HB 3413) being deliberated in the Philippine Congress (abs-cbnnews.com)

An anti-dynasty bill that limits tenure WILL NOT remedy a disease brought about by the addiction to power over the political distribution of resources, as there will always be legal loopholes to circumvent. In fact, some of the women leaders (which include the other relatives) have been embodiments of systematic legal bypass over term limits on legislative branch and the local government(Wikipedia.org).

The only solution to a problem of political inequality (centralization) would through market distribution (decentralization). In short, economic freedom serves as the only genuine antidote to political dynasties.

Video: Consumer Surplus From Internet and Mobile Technology

Consumer surplus, according to Wikipedia.org, is the "difference between the maximum price a consumer is willing to pay and the actual price they do pay. If a consumer would be willing to pay more than the current asking price, then they are getting more baenefit from the purchased product than they spent to buy it they are getting more benefit from the purchased product than they spent to buy it." (italics added; hat tip Professor Russ Roberts)



The video shows how people tend to see consumer surplus from modern technology powerful enough for them to 'refuse' a ($1 million) monetary offer in exchange for withdrawing access to these technologies. [my guess is that polls aren't taken seriously]

Yet, ironically, the same people in the video would wait for falling prices from new innovative products in order to adapt to them.

Also, the video shows the vital role played by the "rich" in the diffusion of these newly discovered technologies into society, or how the rich, as buyers of the first order, creates incentives for producers to mass produce for widespread use.

The beauty of laissez faire capitalism.

Iranians Go for Gold

It’s not just the Greeks, but latest reports say that Iranians too have been stampeding into gold.

From the Reuters, (bold emphasis mine)

Amid global economic uncertainty, the price of gold on world markets rose steadily in the first half of 2011 and Iranian coins appreciated in line with that. Rather than cashing in their coins for a profit, Iranians continued to buy them in ever larger numbers.

"Usually, as the price of an item increases, demand will decrease. But in the case of gold, it seems that higher prices are creating more demand," said a gold retailer in Tehran who asked not to be identified.

The Iranian gold rush was mainly driven by fears about the domestic economy, particularly the risk of soaring inflation and a wobbly currency, he said.

In addition to concerns about a global double-dip recession, the economy has been hit by sanctions as the United States leads global pressure on Tehran over a nuclear program many states say is aimed at building atomic weapons, a charge Iran denies.

Here’s a glimpse of the Iranian rial-US dollar performance

Below is a chart of Iran’s inflation rate

US-Rial, and Iran inflation rate from Wikipedia.org

The Iranina rial-euro over the past 5 years (yahoo finance)

More from the same Reuters article, (bold emphasis added)

Saving rials is also less attractive than a few months ago after the government reduced the level of interest banks could pay on savings. Returns were slashed in April from a range of 26-28 percent to 14-17 percent, below what many Iranians believe to be the actual inflation rate.

Worries about the declining buying power of the rial and doubts over the currency's stability are the main drivers behind the flight to gold.

While the International Monetary Fund has praised Iran for reducing inflation to 12.4 percent for 2010-11 from 25.4 percent two years earlier, the rate has been creeping back up over the last year to 14.2 percent in May. Prices have risen much faster for key items such as fuel, water and food as heavy government subsidies are phased out.

At the end of last year, President Mahmoud Ahmadinejad started winding down some $100 billion of subsidies and giving direct cash payments to families to reduce the impact of price rises. The switch, praised by the IMF, was done despite the predictions that surges in the prices of fuel, food and water could stoke wider inflation.

As well as hoarding gold, many Iranians sought to change their rials into hard currency, increasing demand for dollars so much that the Central Bank devalued the rial by almost 11 percent last month.

That sudden decision did nothing to assuage Iranians' fears about the safety of their savings.

Many economists believe the rial, which is loosely pegged to major world currencies under a "managed floating exchange rate," has not been allowed to devalue in line with inflation and is overvalued by between 30 and 50 percent.

As international trade in rials is very limited, the change in its value has no real impact on global markets.

It sank to 12,500 to the dollar last month, compared to 10,500 earlier in the year.

Same problems haunt paper money system, whether the US dollar, Belarus ruble, Greek drachma or Vietnam Dong or Iranian rial.

Fundamentally, the pathology stems from an overspending welfare state, which has been financed by government’s inflationism and artificially low interest rates, where the crescendoing ramifications of such accrued imbalances have been vented on a devaluing domestic currency and on rising prices of domestic consumer goods and services.

Uncertainty over the preservation of hard earned savings has prompted many of their citizens to swap government legal tender paper currencies for man’s historical default store of value—gold or precious metals. (flight to real value)

These signs of intensifying cumulative efforts worldwide to hoard gold seems to portend the return of gold as money.

But then again, gold as part of a reformed monetary architecture would mean a vastly reduced welfare state, a privilege which incumbent politicians everywhere would unlikely yield...until market forces prevail on them.

Interesting times indeed.

Huge Rare Earth Metals Discovery in the Pacific Seabed

For the many who believe in various “Peak” theories—seen as the shrinking of “finite” supplies of specific natural resources/commodities (e.g. oil, copper etc…)—their fundamental error has been to ignore the laws of economics and human ingenuity.

This also applies to entities who operate under such premises and think that they can monopolize or control supply of natural resources by restricting trade. This applies particularly to rare earth metals.

The BBC.co.uk reports,

Japanese researchers say they have discovered vast deposits of rare earth minerals, used in many hi-tech appliances, in the seabed.

The geologists estimate that there are about a 100bn tons of the rare elements in the mud of the Pacific Ocean floor.

At present, China produces 97% of the world's rare earth metals.

Analysts say the Pacific discovery could challenge China's dominance, if recovering the minerals from the seabed proves commercially viable.

The British journal Nature Geoscience reported that a team of scientists led by Yasuhiro Kato, an associate professor of earth science at the University of Tokyo, found the minerals in sea mud at 78 locations.

"The deposits have a heavy concentration of rare earths. Just one square kilometre (0.4 square mile) of deposits will be able to provide one-fifth of the current global annual consumption," said Yasuhiro Kato, an associate professor of earth science at the University of Tokyo.

The minerals were found at depths of 3,500 to 6,000 metres (11,500-20,000 ft) below the ocean surface.

My comments

One, China’s apparent monopoly on rare earth metals will be challenged by such findings.

Two, the laws of economics work: High prices translates to profitable opportunities for the market to discover alternative sources of supply

Three, innovative technology trends help underpin such supply sourcing. Yes, the above development points to seabed mining as the next major frontier in resource exploration.

Fourth, prices founded on current (‘peak’ and monopolists) premises will likely be affected.

So far, the REMX (Market Vectors Rare Earth ETF) have been on a downswing, along with a major US rare earth producer Molycorp [MCP] even before the news was released (maybe the market has anticipated this).

Yet aside from the above the dynamics of supply-demand balances, there is also monetary factor to always consider. So while prices of rare earth may be pressured by supply side discoveries, continuation of policies of inflationism may partly offset such declines.

Like any endeavor, there will always be naysayers or detractors (or perhaps defenders of the current monopolists)

From the same article,

The prospect of deep sea mining for precious metals - and the damage that could do to marine ecosystems - is worrying environmentalists.

Are these environmentalists really working to “save” the environment? Or are they there to promote vested interest groups or simply advancing the cause of etatism?

US Equity Markets: Signs of the Rising Tide Phenomenon

I’ve long been saying that pricing of equities are being influenced more by the inflationism (boom bust cycles) rather than the deep-seated conventional notion of discounted cash flows or other traditional metrics.

Even in the US we seem to be observing the “rising tide phenomenon” affecting the price actions of their equity markets, similar to the Philippines.

The recent rally in the US has been broad based and manifested across all sectors.

As Bespoke Invest notes, (chart theirs)

At the moment, 68% of stocks in the S&P 500 are trading above their 50-day moving averages. It's a strong breadth number, but it's still below the levels seen at prior short-term market highs over the past year.

Also Bespoke sees that the US rally has been supported by strong market internals

Bespoke observes, (bold emphasis mine, chart above theirs)

Last week's strength of group breadth was also notable given the fact that all 24 groups finished the day in positive territory on four different days. Looking back at data over the last ten years, we found that there has never been a period where all 24 groups were up on the day in four out of five trading days. In fact, prior to last week, there was never a period where all 24 groups were up on the day in even three out of five trading days.

This reminds me of Edwin Lefevre’s investment classic “The Reminiscences of a Stock Operator” where he quotes the legendary trader Jesse Livermore, (emphasis mine)

Nowhere does history indulge in repetitions so often or so uniformly as in Wall Street. When you read contemporary accounts of booms or panics the one thing that strikes you most forcibly is how little either stock speculation or stock speculators today differ from yesterday. The game does not change and neither does human nature.

Graphs of the Day on Keynesian Stimulus: All that Jazz but still Nothing to Show For

From Cato’s David Boaz (chart above and the following except)

this was the recovery that was aided by the largest Keynesian-style big government “stimulus” since World War II. Since 2008, total federal “stimulus” has been $4.6 trillion, as shown in the chart. As a share of GDP, recent deficit spending has been far greater than during all other recessions since the war.

Biggest Keynesian Stimulus + Slowest Recovery = Time to Rethink Keynesian Theory.

Following the Keynesian doctrine, the US government threw the proverbial “everything but the kitchen sink” on demand side management.

Not only has the econometric model elixir failed to accomplish the purported goals, but importantly, such measures has exposed the US fiscal balance to even more undue risks. (chart from Heritage Foundation).

Yet for them, it's never enough. And given that policymaking trends have been mostly influenced by this ideology, one can be assured that what is unsustainable won't last; accrued imbalances fostered by such measures will be unraveled in the fullness of time.

BIS: The Difference of Great Depression and the 2008 Crisis is Central Bank Inflationism

What’s the fundamental difference between the crisis of the Great Depression in 1931 and that of the US Mortgage crisis of 2008?

The Bank of International Settlement (BIS) gives an answer: central banking inflationism

Here’s the concluding remarks of William A Allen and Richhild Moessner from their recently published paper:

We have suggested a number of ways in which the financial crisis of 2008 was propagated internationally. We argue that the collateral squeeze in the United States, which became intense after the failure of Lehman Brothers created doubts about the stability of other financial companies in the United States, was an important propagator. The provision of large-scale swap lines by the Federal Reserve relieved many of the financial stresses in other countries that had followed Lehman Brothers’ failure. The unwinding of carry trades, particularly yen carry trades, is also likely to have transmitted market volatility to the countries that had been the destination of the carry trades when they were first put in place. It seems likely that, at the time of writing, there is still a large quantity of yen carry trades to be unwound.

In both crises, deposit outflows were not the only important sources of liquidity pressure on banks: in 1931, the central European acceptances of the London merchant banks were a serious problem, as, in 2008, were the liquidity commitments that commercial banks had provided to shadow banks. And in both crises, the behaviour of creditors towards debtors and the valuation of assets by creditors, were all very important. Flight to liquidity and safety was an important common feature of the crises of 1931 and 2008. In both episodes, the management of central banks’ international reserves appears to have had pro-cyclical effects.

However, there was a crucial difference, in that the supply of assets that were regarded as liquid and safe in 1931 was inelastic and became narrower with the passage of time, whereas in 2008, it could be, and was, expanded quickly in such as way as to contain the effects of the crisis. The understanding that the role of governments and central banks in a crisis is to enable such assets to be supplied was perhaps the most important lesson of 1931, and the experience of 2008 showed that it had been learned.

The difference has been Central Bank's asset-purchasing program or termed as credit easing policies a.k.a Quantitative Easing.

The BIS gets it.

The deflation camp based on premises of “aggregate demand” does not.

Perhaps a little more elaboration from the great Murray N. Rothbard who presciently wrote (What has Government Done To Our Money), [emphasis added]

But the central Bank, by pumping reserves into all the banks, can make sure that they can all expand together, and at a uniform rate. If all banks are expanding, then there is no redemption problem of one bank upon another, and each bank finds bank expansion of one bank upon another, and each bank finds that its clientele is really the whole country. In short, the limits on bank expansion are immeasurably widened, from the clientele of each bank to that of the whole banking system. Of course, this means that no bank can expand further than the Central Bank desires. Thus, the government has finally achieved the power to control and direct the inflation of the banking system.

In addition to removing the checks on inflation, the act of establishing a Central Bank has a direct inflationary impact. Before the Central Bank began, banks kept their reserves in gold; now gold flows into the Central Bank in exchange for deposits with the Bank, which are now reserves for the commercial banks. But the Bank itself keeps only a fractional reserve of gold to its own liabilities! Therefore, the act of establishing a Central Bank greatly multiplies the inflationary potential of the country.

The essence is, an inflationary or deflationary outcome depends largely on central bank directives.

Inflation expands the power of central banks, deflation does not. Guess which route central bankers are likely to chose? (Of course, this assumes that the market can still bear with the effects of central bank policies)

Effective Disaster Recovery Programs are Based on Personal-Community Relationships

The success of disaster recovery programs has mostly been associated with personal relationships. (Sorry but it’s hardly about governments)

That’s the findings of NPR’s Shankar Vedantam. (hat tip: Prof Peter Boettke) [bold emphasis mine]

Aldrich's findings show that ambulances and firetrucks and government aid are not the principal ways most people survive during — and recover after — a disaster. His data suggest that while official help is useful — in clearing the water and getting the power back on in a place such as New Orleans after Katrina, for example — government interventions cannot bring neighborhoods back, and most emergency responders take far too long to get to the scene of a disaster to save many lives. Rather, it is the personal ties among members of a community that determine survival during a disaster, and recovery in its aftermath.

When Aldrich visited villages in India hit by the giant 2004 tsunami, he found that villagers who fared best after the disaster weren't those with the most money, or the most power. They were people who knew lots of other people — the most socially connected individuals. In other words, if you want to predict who will do well after a disaster, you look for faces that keep showing up at all the weddings and funerals.

Hayek’s local knowledge plays a key role. Again from the same NPR article (bold emphasis)

It's this passion for a local community and granular knowledge about who needs what that makes large-scale government interventions ineffective by comparison. It's even true when it comes to long-term recovery...

Governments and big nongovernmental organizations — which are keenly aware of the big picture — are often blind to neighborhood dynamics...

The problem isn't that experts are dumb. It's that communities are not the sum of their roads, schools and malls. They are the sum of their relationships.

Why does personal-community based relationship matter more than governments?

As I previously explained, (emphasis original)

Remember it is in the vested interest of the private sector to be charitable.

This is not only due to self esteem or social purposes but for sustaining the economic environment.

Think of it, if retail store ABC's customer base have been blighted by the recent mass flooding, where a massive dislocation- population loss through death or permanent relocation to other places- would translate to an economic loss for the store, then, it would be in the interest of owners of store ABC to "charitably" or voluntarily provide assistance of various kind to the neighborhood in order to prevent such dislocation from worsening, or as a consequence from indifference, risks economic losses.

Hence, such acts of charity is of mutual benefit.

Moreover, charity is the province of the marketplace. That's because markets produce and provides the goods and services required by society to operate on. Whereas government essentially don't produce goods or services but generates revenues by picking on somebody else's pocket.

With government, personal relationships are merely reduced to political interests.

With the marketplace, people see the benefit of social cooperation arising from social exchanges, which is fundamental to community building.

As the great Ludwig von Mises wrote, (bold emphasis added)

Within the frame of social cooperation there can emerge between members of society feelings of sympathy and friendship and a sense of belonging together. These feelings are the source of man's most delightful and most sublime experiences. They are the most precious adornment of life; they lift the animal species man to the heights of a really human existence. However, they are not, as some have asserted, the agents that have brought about social relationships. They are fruits of social cooperation, they thrive only within its frame; they did not precede the establishment of social relations and are not the seed from which they spring.

The fundamental facts that brought about cooperation, society, and civilization and transformed the animal man into a human being are the facts that work performed under the division of labor is more productive than isolated work and that man's reason is capable of recognizing this truth. But for these facts men would have forever remained deadly foes of one another, irreconcilable rivals in their endeavors to secure a portion of the scarce supply of means of sustenance provided by nature. Each man would have been forced to view all other men as his enemies; his craving for the satisfaction of his own appetites would have brought him into an implacable conflict with all his neighbors. No sympathy could possibly develop under such a state of affairs.

This is a truism which politicians and their media bootlickers always misrepresents.

Corn Prices, Ethanol Subsidies and the Farmland Bubble

Here is an interesting chart illustrating the correlationship between corn prices and corn used in ethanol (also in feed).

The Bloomberg writes,

The portion of this year’s U.S. corn crop going to ethanol may surpass the amount used in feed for the first time. Federal subsidies for ethanol production, due to expire at the end of 2011, have spurred corn demand and pushed up prices, to the dismay of livestock farmers

The chart reveals that rising corn prices have accompanied the expansive growth of corn bushels used as ethanol. In short, usage of corn as food have been diverted to energy.

The question is if this correlation constitutes causation or merely a coincidence.

According to a study, the answer has partly been yes; subsidies to the ethanol industry has been generating additional demand for corn, which consequently has been influencing corn prices.

From the AFP,

US ethanol subsidies pushed up corn prices as much as 17 percent in 2011, according to a study released Wednesday at a time when Washington's policies on biofuels are coming under heightened scrutiny.

The study by Bruce Babcock of Iowa State University and released by the Geneva-based International Centre for Trade and Sustainable Development, suggests that high gasoline prices this year may have intensified demand for ethanol, creating a tighter market for maize than in previous years.

To see how relevant this relationship has been. Corn prices recently tumbled. Apparently, the collapse has been coincidental or timed with the elimination of subsidies for the ethanol industry.

According to the Reuters last June 16^th,

The Senate voted overwhelmingly on Thursday to eliminate billions of dollars in support for the U.S. ethanol industry, sending a strong message that the era of big taxpayer support for biofuels is ending.

The 73-27 vote may ultimately be symbolic since the White House has vowed not to repeal ethanol subsidies fully and the bill the repeal language is attached to is not expected to make it into law. But it underscores the growing desperation to find savings in a budget crisis that is forcing both sides of the aisle to consider sacrificing once-sacred government programs.

In my view, this shows that the answer has also partly been a yes. Subsidies have had significant distortive effects on the balance of corn economics which has been reflected on prices.

Although the White House is expected to veto the Senate bill, the corn market probably interprets that these subsidies may not last (subject to the winner of the Presidential elections of 2012).

The recent spate of interventions in the commodity markets may have also influenced the downdraft.

Aside, other factors could also be in play: the Fed’s monetary policies, global monetary policies, global supply and demand balance, (lesser) degree of globalization of agriculture trade among many other variables involved.

The side effect of levitated corn prices from ethanol subsidies has been contributing to a boom in US farmland

According to Douglas French at the Mises.org,

today's Big Ag boom is sponsored by ethanol subsidies from the state. Just as when the federal government told farmers during WWI to grow wheat to win the war, Congress voted to double production of corn-based ethanol "to win Al Gore's war" — and so a third of the US corn crop could be dedicated to making fuel, up from 7 percent in 2001.

David Peligal at Grant's Interest Rate Observer says that if the ethanol subsidy were removed, the price of corn would collapse. Senator Tom Coburn, a Republican from Oklahoma, has put forth just such a bipartisan proposal to end the 45-cent federal tax credit for every gallon of ethanol-blended gasoline.

Farmland prices doubled nationally in the 2000s, to more than $2,300 per acre, according to the US Department of Agriculture, and prices today in soil-rich areas of Iowa and Illinois are more than three times that level. Values for nonirrigated cropland soared by 10 percent or more in 2010 alone in states across the Midwest, according to the Federal Reserve Bank of Kansas City.

Net cash yields cluster around 3.5 percent for corn land in Iowa and wheat land in Kansas. At the height of the 1970s boom the net cash yield was 4.55 percent.

As corn prices have shot upward, so has Iowa farmland, which is selling for $8,500 to $10,000 an acre.

Recently an 80-acre parcel was auctioned in Mitchell County, Iowa, going for $10,000 an acre, or $800,000. But with only 72.2 acres actually tillable, it works out to $11,080 an acre — a country record.

Grant's Interest Rate Observer provides some color to the auction. It turns out the farmers bidding for the ground dropped out at $9,000 an acre and then two investors took it the rest of the way. A gentlemen who attended the auction said it was the slowest he'd ever seen. The last $1,000 was bid up in $25 increments.

In Kansas, with wheat going for $3.25 a bushel, the land is going for $1,500 an acre, double what it was five years ago.

Bottom line: Myriad government interventions have been producing pockets of bubbles in the US and the global economy.

Graphic: World’s Military Conscription

According to the Economist,

THIS month Germany suspended military conscription and its civilian counterpart, community service. After 50 years and the service of 8.4m young men, Germany is set to shrink the Bundeswehr from 220,000 to a maximum of 185,000 troops. But conscription still remains part of the constitution and available in the case of an emergency. Similarly in America, while "the draft" ended in 1973, laws require men to register with the Selective Service System within 30 days of their 18th birthday. This provides a deep pool of manpower in the event of a national emergency. Where compulsory military service is enforced in Europe it ranges from 260 days (in Switzerland), to 26 months (in Cyprus). As the map below shows, conscription is most popular in Asia and Africa.

Here’s the Libertarian take on military conscription. The following quotes with bold emphasis mine:

From Professor Bryan Caplan

Slavery is involuntary servitude; conscription is involuntary military servitude; therefore not only is conscription slavery; it's a particularly heinous form of slavery that often ends in maiming and death.

From Congressman Ron Paul

Ronald Reagan said it best: "The most fundamental objection to draft registration is moral." He understood that conscription assumes our nation's young people belong to the state. Yet America was founded on the opposite principle, that the state exists to serve the individual. The notion of involuntary servitude, in whatever form, is simply incompatible with a free society.

In short, military conscription is a conventional form of slavery. Perhaps Germany’s move could set the trend for more individual liberation and freedom worldwide.