Brain Dead Economics: Wars as Economic Stimulus

Marketwatch columnist and former war veteran Paul Farrell is aghast at politicians who are agitating for war in the guise of ‘stimulating the economy’

Mr. Farrell writes, (bold original)

Yes, I’m mad as hell again. I just read some bad news that should make every American mad as hell. In fact, two bad news items.

First, as a U.S. Marine vet, I got angry reading that there have been more military suicides than war deaths the past decade. Yes, more Iraq and Afghan war vets have killed themselves than were killed by America’s enemies in combat. And more are expected as we had more than two million serve in the two wars.

A soldier from the U.S. Army's Charlie Company, 1/12 Infantry, 4th Brigade Combat Team, 4th Infantry Division scans across the border at houses in Pakistan during a Sunday patrol near Dokalam village in Afghanistan's Kunar Province.

Second, if the economic, psychological, political and moral consequences of the past two wars aren’t bad enough, many politicians and candidates — some of whom never served in the armed forces — are proposing that the full Congress pass the Ryan budget and force Pentagon generals to spend billions more than they requested.

Mr. Farrell questions the underlying motives for such calls… (bold italics mine, bold original)

Treating war as an economic stimulus program became clear a decade ago in the early years of the Iraq war. That fact was stressed in a Huffington Post interview with Oliver Stone. Ryan Grim said that in a 2004 meeting President George W. Bush said to the Argentine prime minister: “All the economic growth that the U.S. has had, has been based on the different wars it had waged.”

Apparently that same ideology remains strong in today’s election politics.

Let’s put all this in the larger macroeconomic context. War should be about national defense. Wars should have nothing to do with scoring domestic political points. And yet, increasing the Pentagon budget has become a political hot button in today’s election drama.

This is insane: Do politicians plan to start new wars?

Ask yourself, are they already itching for a new war? After two exhausting wars? Eleven years? We put 2.3 million in Iraq and Afghanistan; 800,000 served multiple deployments, one of the big reasons for vet suicides. So why demand bigger budgets? Why in a time of national austerity? Why when they’re complaining about high taxes?

No, war shouldn’t be about domestic politics, but it is. And that’s bad news for taxpayers, for investors, for America’s values.

Somebody’s got to pay for all this. The taxes of all Americans will go up if the Senate passes the Ryan budget plan, forcing Pentagon generals to spend $554 billion in 2013, billions more than they requested. Plus it’ll add $6.2 trillion new debt and taxes over the next decade.

Yes, this is insane. A few private contractors will get richer but taxpayers will suffer in this zero-sum economics game.

National defense? No, it’s about getting rich, the rest pay the price

America is on a dangerous and costly path. Not just politicians. Americans love war, it’s in our genes. Congress spends over 50% our tax dollars on the Pentagon war machine. America spends 47% of the total military budgets of all nations in the world.

Why does the public tolerates such absurdities? Why do we hide this insanity deep in our collective conscience? Why are we planning new wars? Why do we see war as an economic stimulus program? The Iraq-Afghan “economic stimulus” strategy got us in the mess we’re in; are we really crazy enough to try it again?

Forget all the campaign rhetoric about national defense. That is not why our politicians want to spent trillions more on the Pentagon war machine. Politician are interested in reelection not national defense. They need votes and will keep military bases open because that means local jobs, satisfied voters.

They need campaign cash. Military contractors are great donors. Cutting war-related jobs is political suicide. So they pass big military budgets, waste billions on outdated weapon systems. Keep throwing money at the Pentagon war machine. Anything to get reelected. National defense is not a first priority; their job, their reelection is.

I share Mr. Farell’s revulsion

For me, it’s only politically brain dead people who really argue that destruction (war or natural catastrophes) serves as economic ‘stimulus’.

Post destruction economic activities extrapolates to REPLACEMENT and NOT VALUE ADDED. Yet loss of lives CANNOT be replaced. And deaths along with incapacitated citizens, decreases productivity. This is essentially the Broken Window Fallacy.

And it would be a mistake to relate war with creative destruction. Innovation or advances of technology, which renders obsolete old products or business models, is the outcome of markets in pursuit of consumer satisfaction.

During war, consumers become subordinated to the political forces, particularly through taxes, price controls and rationing, as in World War II.

The point is in war, the economy produces guns, tanks and warplanes and NOT TVs, telephones, private cars. This simply shows how naïve and absurd any such supposed economic comparison is. And this also shows of the dangers of making analysis based on statistical aggregates which tend to discount the real costs, particularly the human factor.

During the World War II, Keynesian economists worried about what would happen to the US economy once the war would culminate.

Then the Keynesian high priest Paul Samuelson quoted by Professor David R. Henderson

When this war comes to an end, more than one out of every two workers will depend directly or indirectly upon military orders. We shall have some 10 million service men to throw on the labor market. [DRH comment: he nailed that number.] We shall have to face a difficult reconversion period during which current goods cannot be produced and layoffs may be great. Nor will the technical necessity for reconversion necessarily generate much investment outlay in the critical period under discussion whatever its later potentialities. The final conclusion to be drawn from our experience at the end of the last war is inescapable--were the war to end suddenly within the next 6 months, were we again planning to wind up our war effort in the greatest haste, to demobilize our armed forces, to liquidate price controls, to shift from astronomical deficits to even the large deficits of the thirties--then there would be ushered in the greatest period of unemployment and industrial dislocation which any economy has ever faced. [italics in original]

Of course, the end of World War II turned out in total contrast to Samuelson’s prediction, the US economy boomed.

Today, brain dead economics turn the table to tells us that the boom that followed World War II had been due to ‘stimulus’. This is a wonderful example of verbal manipulation.

On moral grounds, how is it righteous for people to wish ill for the others? People who really see war as economic growth ought to go to the battlefront, along with their families, and fight the wars themselves. The reason for their chutzpah is because they know someone else will do the dying for them. The same applies to any destruction as stimulus. Talk about pretentious moral high grounds.

Politicians urge for war because war is the health of the state. Aside from the war as the origin the state, wars provide the pretext for the expansion of the state or the “ratchet effect” as coined by Professor Robert Higgs.

Professor Art Carden explains,

In Crisis and Leviathan, Higgs argues that during a crisis a "ratchet effect" produces net increases in government discretion that are not completely reversed after the crisis. Two things happen when government intervenes. First, the bureaucracy naturally tends to expand beyond its stated goals — mission creep. Second, intervention alters incentives; that is, the creation of a bureaucracy to address some problem also spawns a rent-seeking pressure group with interests that will prevent reversion to the status quo ante.

The bottom line is that war as stimulus has never been about economics but about propaganda to expand the power of the state and of the economic interests of those attached to the state or the political clients or the cronies.

For those wishing for war, be reminded of the Golden rule (Matthew 7:12)

Therefore all things whatever you would that men should do to you, do you even so to them: for this is the law and the prophets.

If not they deserve this.

The Essence of Keynesian Economics

The following is an excerpt from a speech/keynote address by Dr. Richard Ebeling (hat tip Bob Wenzel) [bold emphasis mine, italics original]

The General Theory of Employment, Interest and Money was published on February 4, 1936. The essence of Keynes’s theory was to show that a market economy, when left to its own devices, possessed no inherent self-correcting mechanism to return to “full employment” once the economic system has fallen into a depression.

At the heart of his approach was the belief that he had demonstrated an error in Say’s Law. Named after the nineteenth-century French economist Jean-Baptiste Say, the fundamental idea is that individuals produce so they can consume. An individual produces either to consume what he has manufactured himself or to sell it on the market to acquire the means to purchase what others have for sale.

Or as the classical economist David Ricardo expressed it, “By producing, then, he necessarily becomes either the consumer of his own goods, or the purchaser and consumer of the goods of some other person . . . Productions are always bought by productions, or by services; money is only the medium by which the exchange is effected.”

Keynes argued that there was no certainty that those who had sold goods or their labor services on the market will necessarily turn around and spend the full amount that they had earned on the goods and services offered by others. Hence, total expenditures on goods could be less than total income previously earned in the manufacture of those goods. This, in turn, meant that the total receipts received by firms selling goods in the market could be less than the expenses incurred in bringing those goods to market. With total sales receipts being less than total business expenses, businessmen would have no recourse other than to cut back on both output and the number of workers employed to minimize losses during this period of “bad business.”

But, Keynes argued, this would merely intensify the problem of unemployment and falling output. As workers were laid off, their incomes would necessarily go down. With less income to spend, the unemployed would cut back on their consumption expenditures. This would result in an additional falling off of demand for goods and services offered on the market, widening the circle of businesses that find their sales receipts declining relative to their costs of production. And this would set off a new round of cuts in output and employment, setting in motion a cumulative contraction in production and jobs.

Why wouldn’t workers accept lower money wages to make themselves more attractive to rehire when market demand falls? Because, Keynes said, workers suffer from “money illusion.” If prices for goods and services decrease because consumer demand is falling off, then workers could accept a lower money wage and be no worse off in real buying terms (that is, if the cut in wages was on average no greater than the decrease in the average level of prices). But workers, Keynes argued, generally think only in terms of money wages, not real wages (that is, what their money income represents in real purchasing power on the market). Thus, workers often would rather accept unemployment than a cut in their money wage.

If consumers demand fewer final goods and services on the market, this necessarily means that they are saving more. Why wouldn’t this unconsumed income merely be spent hiring labor and purchasing resources in a different way, in the form of great¬er investment, as savers have more to lend to potential borrowers at a lower rate of interest? Keynes’s response was to insist that the motives of savers and investors were not the same. Income-earners might very well desire to consume a smaller fraction of their income, save more, and offer it out to borrowers at interest. But there was no certainty, he insisted, that businessmen would be willing to borrow that greater savings and use it to hire labor to make goods for sale in the future.

Since the future is uncertain and tomorrow can be radically different from today, Keynes stated, businessmen easily fall under the spell of unpredictable waves of optimism and pessimism that raise and lower their interest and willingness to borrow and invest. A decrease in the demand to consume today by income-earners may be motivated by a desire to increase their consumption in the future out of their savings. But businessmen cannot know when in the future those income-earners will want to increase their consumption, nor what particular goods will be in greater demand when that day comes. As a result, the decrease in consumer demand for present production merely serves to decrease the business¬man’s current incentives for investment activity today as well.

If for some reason there were to be a wave of business pessimism resulting in a decrease in the demand for investment borrowing, this should result in a decrease in the rate of interest. Such a decrease because of a fall in investment demand should make savings less attractive, since less interest income is now to be earned by lending a part of one’s income. As a result, consumer spending should rise as savings goes down. Thus, while investment spending may be slackening off, greater consumer spending should make up the difference to assure a “full employment” demand for society’s labor and resources.

But Keynes doesn’t allow this to happen because of what he calls the “fundamental psychological law” of the “propensity to consume.” As income rises, he says, consumption spending out of income also tends to rise, but less than the increase in income. Over time, therefore, as incomes rise a larger and larger percentage is saved.

In The General Theory, Keynes listed a variety of what he called the “objective” and “subjective” factors that he thought influenced people’s decisions to consume out of income. On the “objective” side: a windfall profit; a change in the rate of interest; a change in expectations about future income. On the “subjective” side, he listed “Enjoyment, Shortsightedness, Generosity, Miscalculation, Ostentation and Extravagance.” He merely asserts that the “objective” factors have little influence on how much to consume out of a given amount of income—including a change in the rate of interest. And the “subjective” factors are basically invariant, being “habits formed by race, education, convention, religion and current morals . . . and the established standards of life.”

Indeed, Keynes reaches the peculiar conclusion that because men’s wants are basically determined and fixed by their social and cultural environment and only change very slowly, “The greater . . . the consumption for which we have provided in advance, the more difficult it is to find something further to provide for in advance.” That is, men run out of wants for which they would wish investment to be undertaken; the resources in the society—including labor—are threatening to become greater than the demand for their employment.

Keynes, in other words, turns the most fundamental concept in economics on its head. Instead of our wants and desires always tending to exceed the means at our disposal to satisfy them, man is confronting a “post-scarcity” world in which the means at our disposal are becoming greater than the ends for which they could be applied. The crisis of society is a crisis of abundance! The richer we become, the less work we have for people to do because, in Keynes’s vision, man’s capacity and desire for imagining new and different ways to improve his life is finite. The economic problem is that we are too well-off.

As a consequence, unspent income can pile up as unused and uninvested savings; and what investment is undertaken can erratically fluctuate due to what Keynes called the “animal spirits” of businessmen’s irrational psychology concerning an uncertain future. The free market economy, therefore, is plagued with the constant danger of waves of booms and busts, with prolonged periods of high unemployment and idle factories. The society’s problem stems from the fact that people consume too little and save too much to assure jobs for all who desire to work at the money wages that have come to prevail in the market, and which workers refuse to adjust downward in the face of any decline in the demand for their services.

Only one institution can step in and serve as the stabilizing mechanism to maintain full employment and steady production: the government, through various activist monetary and fiscal policies.

In Keynes’s mind the only remedy was for government to step in and put those unused savings to work through deficit spending to stimulate investment activity. How the government spent those borrowed funds did not matter. Even “public works of doubtful utility,” Keynes said, were useful: “Pyramid-building, earthquakes, even wars may serve to increase wealth,” as long as they create employment. “It would, indeed, be more sensible to build houses and the like,” said Keynes, “but if there are political or practical difficulties in the way of this, the above would be better than nothing.”

Nor could the private sector be trusted to maintain any reasonable level of investment activity to provide employment. The uncertainties of the future, as we saw, created “animal spirits” among businessmen that produced unpredictable waves of optimism and pessimism that generated fluctuations in the level of production and employment. Luckily, government could fill the gap. Furthermore, while businessmen were emotional and shortsighted, the State had the ability to calmly calculate the long run, true value and worth of investment opportunities “on the basis of the general social advantage.”

Indeed, Keynes expected the government would “take on ever greater responsibility for directly organizing investment.” In the future, said Keynes, “I conceive, therefore, that a somewhat comprehensive socialization of investment will prove the only means of securing an approximation to full employment.” As the profitability of private investment dried up over time, society would see “the euthanasia of the rentier” and “the euthanasia of the cumulative oppressive power of the capitalist” to exploit for his own benefit the scarcity of capital. This “assisted suicide” of the interest-earning and capitalist groups would not require any revolutionary upheaval. No, “the necessary measures of socialization can be introduced gradually and without a break in the general traditions of the society.”

This is the essence of Keynes’ economics.

Read more about the policy influences from Keynesian economics by Dr. Ebeling here

I would add that the Keynesian economics has been fraught with many logical fallacies but had been gained wide acceptance due to its math models or aggregate driven analysis.

Nonetheless one standout among the many logical fallacies would be Begging the Question where (Nizkor Project)

Begging the Question is a fallacy in which the premises include the claim that the conclusion is true or (directly or indirectly) assume that the conclusion is true

The embedded conclusion is that government is the elixir while the market is the problem, thus, all premises have been adjusted to conform to these even if the logical sequence of their argument becomes self-contradictory (yes thus the crisis of abundance!)

In short, the cart before the horse reasoning.

Keynesianism is essentially heuristics but garbed with mathematical formalism.

So when practitioners of the faith are caught with their internal logical inconsistencies, they deliberately resort to verbal prestidigitation (usually by using moral high ground of social justice based on short term solutions) as an escape mechanism.

US Government Unveils $3 billion Warship to Counter China

China again.

China has always been made a convenient scapegoat for almost anything by the US government, whether the issue is about currency, trade or even as military threat.

The US government has unveiled a $3 billion stealth warship to supposedly counter China's growing military presence overseas.

From Associated Press/Fox News.

A super-stealthy warship that could underpin the U.S. navy's China strategy will be able to sneak up on coastlines virtually undetected and pound targets with electromagnetic "railguns" right out of a sci-fi movie.

But at more than $3 billion a pop, critics say the new DDG-1000 destroyer sucks away funds that could be better used to bolster a thinly stretched conventional fleet. One outspoken admiral in China has scoffed that all it would take to sink the high-tech American ship is an armada of explosive-laden fishing boats.

With the first of the new ships set to be delivered in 2014, the stealth destroyer is being heavily promoted by the Pentagon as the most advanced destroyer in history — a silver bullet of stealth. It has been called a perfect fit for what Washington now considers the most strategically important region in the world — Asia and the Pacific.

Though it could come in handy elsewhere, like in the Gulf region, its ability to carry out missions both on the high seas and in shallows closer to shore is especially important in Asia because of the region's many island nations and China's long Pacific coast.

Even the Philippines seems to have imbued with the same love-hate relations with China, as evidenced by territorial disputes (Scarborough Shoal and Spratlys Island).

However if we follow the money trail we understand that in spite of the alleged China threat, China has been granted DIRECT ACCESS to the US Treasury. China can now directly finance or buy US debts from the US government, which even means circumventing the crony Wall Street. Such sweetheart privilege underscores the depth of real ties between the US and China.

There seems to be a clandestine monetary courtesan patron relationship between the two, while denying their trysts to the public when it comes to the other issues.

The above also reveals the transformation of China into a huckster, where China functions as the contrived bogeyman to rationalize the weapon sales, for the military industrial complex of the US and her allies.

Well that’s how politics work.

And when it comes to politics, Buddha’s advice essentially hits the nail on the head…

Believe nothing, no matter where you read it, or who said it, no matter if I have said it, unless it agrees with your own reason and your own common sense

Watch what they do, than give emphasis on what they say.

Video: The Cost-Benefit Trade-off of Low Interest Rates

What are the cost-benefit trade-off of low interest rates?

At the LearnLiberty.org, Duquesne Professor Antony Davies discusses this very critical issue.

Here is a summary from LearnLiberty.org,

The cost of borrowing money is at a record low. Low interest rates and cheap credit encourage people to spend more, and to save less. Is this good or bad?

Many argue that we need low interest rates to encourage spending. But low interest rates don’t actually encourage people to spend more money. Low interest rates simply encourage people to spend more money now, and less in the future. The opposite is true for high interest rates.

So what interest rate is best overall? Professor Davies says the best interest rate is the one that comes about naturally, without government intervention. Individuals know better than the Federal Reserve how and when to spend their money. Decisions on whether to consume more or save more is best left to individuals, not government officials.

Since interest rates are essentially about time preferences of people to hold money, notice that the policies to artificially suppress interest rates, such as zero bound rates or the US Federal Reserve's Zero Interest Rate Policy (ZIRP), have been designed to promote spending NOW at the expense of spending in the FUTURE.

The consequent distortion of people's time preferences, and its corollary, the enticement to get hocked into unsustainable debt, thus produces boom bust cycles.

Also this reflects on the PRIORITIES of political agents who almost always take on measures which addresses the short term with hardly any regards or concern over the longer term impact from their actions.

Nevertheless low interest rate policies are attained through credit expansion, which fundamentally represents the hallowed creed of interventionists and inflationists, who think they can wish away the law of scarcity in order to achieve a statist or socialist utopia.

As the great Ludwig von Mises wrote,

Credit expansion is the governments' foremost tool in their struggle against the market economy. In their hands it is the magic wand designed to conjure away the scarcity of capital goods, to lower the rate of interest or to abolish it altogether, to finance lavish government spending, to expropriate the capitalists, to contrive everlasting booms, and to make everybody prosperous.

China Amassing Gold at a Quickening Pace

China has reportedly been rapidly amassing staggering amounts of gold.

From the anonymous writer at the Zero Hedge… (bold emphasis original)

We have just gotten the April update, and, lo and behold, the country which is now the biggest buyer of gold, having surpassed India, just set a new record: "Gold imports by mainland China from Hong Kong climbed 65 percent to a record in April, advancing for a third straight month as investors sought a hedge against financial-market turmoil and an economic slowdown. Shipments totaled 103,644.5 kilograms (103.6 metric tons) in the month from 62,913 kilograms in March, according to export data from the Census and Statistics Department of the Hong Kong government today. In the first four months, imports were 239,174 kilograms from 27,114 kilograms a year earlier, according to Bloomberg calculations. China doesn’t publish such figures." In other words: in the first four months of 2012 Chinese purchases have increased by an unprecedented 782% over 2011.

And this is only from Hong Kong! Said otherwise: "Is the PBOC, which officially has just 1,054 tons of the yellow metal, quietly and relentlessly stockpiling gold?" Oh yes.

Expect a formal announcement from the Chinese central bank in the months ahead, indicating the country's gold hoard has increased by at least 100%. What happens then to the price of gold is rather self-explanatory.

So far, it appears that China’s thrust of calling the stimulus buff, along with recent actions of further liberalizing her markets, aside from “encouraging private investments”, seem to chime with her desire to convert the yuan into a foreign currency reserve that would compete with the US dollar.

As I previously wrote,

Yet while the PBoC may likely engage in policies similar to her Western central bankers peers where inflationism has signified as an enshrined creed, it is unclear up to what degree the PBoC will be willing get exposed. That’s because China has made public her plans to make her currency, the yuan, compete with the US dollar as the world’s foreign currency reserve, which is why she has been taking steps to liberalize her capital markets and China has also taken a direct bilateral financing trade route with Japan, which seems to have been designed as insurance against burgeoning currency risks and from the risks of trade dislocations from potential bank runs. It is important to point out that the US has some exposure on major European nations.

Further speculations and rumors have it that China covertly plans to even issue a Gold backed currency as part of her quest to attain a foreign currency reserve status.

It could also be possible that China’s quickening pace of gold hoarding could be as insurance against a potential cataclysmic currency crisis that could be unleashed from political responses by major central banks to avert a global recession.

Again, events have been soooo fluid that anything can just happen.

Which Social Media Networks will Stand Beside You From Governments

The Electronic Frontier Foundation conducted a study to see which of the 18 major internet companies will stand beside their users against governments intrusions.

The introduction from the study at the EFF.org

The Electronic Frontier Foundation examined the policies of 18 major Internet companies — including email providers, ISPs, cloud storage providers, and social networking sites — to assess whether they publicly commit to standing with users when the government seeks access to user data. We looked at their terms of service, privacy policies, and published law enforcement guides, if any. We also examined their track record of fighting for user privacy in the courts and whether they’re members of the Digital Due Process coalition, which works to improve outdated communications law. Finally, we contacted each of the companies with our conclusions and gave them an opportunity to respond and provide us evidence of improved policies and practices. These categories are not the only ways that a company can stand up for users, of course, but they are important and publicly verifiable.

Their conclusion…

Readers of this year’s annual privacy and transparency report should be heartened, as we are, at the improvements major online service providers over the last year. While there remains room for improvement in areas such as the policies of location service providers, certain practices — like publishing law enforcement guidelines and regular transparency reports — are becoming standard industry practice. And we are seeing a growing, powerful movement that comprises civil liberties groups as well as major online service providers to clarify outdated privacy laws so that there is no question government agents need a court-ordered warrant before accessing sensitive location data, email content and documents stored in the cloud.

Read the entire report here

Quote of the Day: The Supremacy of Public Opinion

This timely quote from yesterday’s article at the Mises Institute is dedicated to my libertarian and Casey Phyle friends, as well as my, passive freedom loving readers…

Here the best theories are useless if not supported by public opinion. They cannot work if not accepted by a majority of the people. Whatever the system of government may be, there cannot be any question of ruling a nation lastingly on the ground of doctrines at variance with public opinion. In the end the philosophy of the majority prevails. In the long run there cannot be any such thing as an unpopular system of government. The difference between democracy and despotism does not affect the final outcome. It refers only to the method by which the adjustment of the system of government to the ideology held by public opinion is brought about. Unpopular autocrats can only be dethroned by revolutionary upheavals, while unpopular democratic rulers are peacefully ousted in the next election.

The supremacy of public opinion determines not only the singular role that economics occupies in the complex of thought and knowledge. It determines the whole process of human history.

The customary discussions concerning the role the individual plays in history miss the point. Everything that is thought, done and accomplished is a performance of individuals. New ideas and innovations are always an achievement of uncommon men. But these great men cannot succeed in adjusting social conditions to their plans if they do not convince public opinion.

The flowering of human society depends on two factors: the intellectual power of outstanding men to conceive sound social and economic theories, and the ability of these or other men to make these ideologies palatable to the majority.

That’s an excerpt from the magnum opus of the great Professor Ludwig von Mises.

The bottom line is that the battle for freedom fundamentally hinges on the arena of education, where ideas of liberty must be made “palatable to the majority”.

In short, communicate to educate. And we can speak or write or do both. Aside from traditional mediums, the internet has facilitated horizontal flow of communications through blogs (such as this), podcasts, social media, youtube, or etc…, which essentially bypasses the top-down flow communication monopolized and controlled by statists and their cronies. Debates can be held on neutral grounds which runs to our favor.

Remember the more the sources of ideas of freedom, the greater the chances that these may become public talking points.

Localizing freedom or merging freedom with domestic applications should increase the topical relevance that should connect with the local audience and thus attract wider participants.

In other words, communicate freedom under the framework of your specialty.

Consequently, a widening reach to the public implies higher chances for social acceptability or a change in public opinion. It’s no easy task as Professor von Mises and our free market champions have shown.

But the deepening of the information age and the law of depreciating returns for vertical organizations has been and will continue to provide us with useful examples of why individual liberty is the only option to the economically unsustainable alternative of statism. There is no middle of the road compromise.

Freedom and the basic law economics are inherently compatible. And that's why I am optimistic that the knowledge revolution will provide the ideological justification for political reforms that should lead to social decentralization.

Bloomberg Ticker lists Greece’s Drachma

Either this signifies as the proverbial writing on the wall or part of the orchestrated propaganda campaign for Greece to exit the EU

From the RT.com

Traders around the world have been staring at their Bloomberg screens, hardly believing their eyes. The electronic information platform has been showing details for possible Greek Drachma trading.

The Bloomberg helpdesk described it as "an internal function which is set up to test."

The news comes in the wake of the heated discussions over the future of the euro zone and the membership of Greece. While many experts insist that Greece should leave the Euro and default, some suggest it should remain the union and introduce a parallel currency to the Euro to repay the country’s debt.

The Head of the European Investment Bank Werner Hoyer said on Tuesday that Greece will be able to remain a member of the union. “Greece will have the opportunity to solve the huge problems that it is facing. Continuing support from the EU will contribute to this, in case, of course, the very Greeks would want that,” Hoyer said.

And a survey at the weekend showed that Greeks prefer to stick to the Euro and not revert to the old drachma.

The Greek Drachma details have now been taken down from the Bloomberg service.

It has been impressed upon the mainstream that the solution to Greece debt problems will only be through “drachmaization” (euphemism for devaluation or inflationism).

When it comes to the prospects of outright defaults there has been a mental black hole. Outright default under the EU umbrella has hardly been discussed or ever considered an option. That’s because the mainstream fervently disdains a private sector (free market) solution. Supposedly nobody wants austerity (fiscal discipline), and alternatively everybody wants free lunch (spending other people's money).

But illusions melt when confronted with reality.

The clangor from repeated media blasts from these omniscient experts, who mostly hail from outside these crisis affected nations, has only been heightening the risks of such scenario and prompting for unintended consequences.

The local citizenry from these nations have been incited to withdraw money from their banking system, consequently send these elsewhere in the region or abroad for safekeeping from the risks of devaluations. The massive bank runs, thus, shows how ridiculous and out of touch with reality these proposals are.

Yet the addiction to inflationism has just so entrenched. Whether this clamor for the devaluation elixir will become a self-fulfilling prediction or not, remains to be seen.

Nevertheless inflation is a policy that WILL NOT and CANNOT last.

Phisix: Last Week’s Big Surge Wiped Out in a Single Day!

Last night I questioned the premises of a sustained divergence or potential decoupling by the Philippine Phisix, as propounded by some stock market Pollyannas.

I guess the proverbial ink has barely dried but the answer had already been provided.

As of this writing the bloodbath has practically engulfed the region as ALL benchmarks have been in the red. Table above from Bloomberg.

I would especially note of the clobbering of China’s stock markets which represents a very negative sign.

Chart from technistock.com

And in sharp contrast to last Thursday, the Philippine Phisix closed at the weakest point of the trading session down by a horrific 3.4%

I was expecting the systematic aggressive buyers of Thursday, whom I suspect as non-market participants, to bid up the market anew. But it appears that either they were absent or that the selloff was simply too strong to contain. The Philippine equity market just kept collapsing from the opening bell until the end of the session.

And if these price insensitive buyers had been absent, it must be that they have exhausted their resources or that they have come to realize of the futility of trying to prop up markets, perhaps for political goals.

Nevertheless, the today’s market actions suggests of marked losses suffered by those parties attempting to embellish the Phisix.

Today’s action was lopsidedly in favor of the bears as market breadth and sectoral performances hemorrhaged profusely.

I don’t have access yet to the quotation page so my comments will limited to this.

Nevertheless, I previously warned.

Today’s big surge could be tomorrow’s slump. There has been NO clarity yet on geopolitics (China, EU or the US) and of policy directions mostly by central bankers. This is a period characterized by high uncertainty.

Be very careful out there.

For the Phisix, the gains of the last TWO weeks had shockingly been wiped out in a SINGLE day! Today had been a wretched sight not only for the Phisix but for the rest of Asia.

There will likely be more bad days ahead where we should expect, as I have been saying, “more period of intense volatility on both directions but with a downside bias”

Again, be very careful out there.

Quote of the Day: Rational Ignorance

[P]oliticians trying to select policies that will attract voters know that the voters will put much less energy into trying to make a correct choice than they would when purchasing an automobile or some other item whose shortcomings and advantages will accrue to them alone. The voters, therefore, are likely to be badly informed and may favor a politician or policies that are directly contrary to their interest. From the standpoint of the individual candidate, what is important is what the people want given their perception of the value of their vote on the outcome and the cost of becoming informed, not what they would want if they were better informed.…

But when I vote I am aware that my vote will have almost no effect on the kind of policies I shall get. The result occurs because the policies and politicians chosen will be determined to a much greater extent by the votes of other people. Politicians once again know this, and hence attempt to design policies which shall attract ill-informed voters.

That’s from Gordon Tullock’s 2005 collection, The Economics of Politics, which is Vol. 4 of The Selected Works of Gordon Tullock page 36 as quoted by Professor Don Boudreaux at the Café Hayek.

This is so very much relevant or applicable to Philippine politics.

Controversial issues brought to the table by the incumbent administration have essentially pandered to public’s perceived sense of value namely “anti-corruption” or “nationalism”.

Little has there been the realization that these actions have not only been designed for the coming 2013 elections, but most importantly, meant to subtly annex or to expand political power, by means of appealing to the popular sentiment or values of the "ill informed" voters, for personal goals.

It is as simple as saying that if there has been any one trait this administration has been adept at, it has been in the dexterous handling of voter's rational ignorance to their advantage.

Will the Phisix Divergence Last?

My source of livelihood has almost entirely been from the local stock market, particularly investing, as I am hardly or rarely a short term trader.

Thus, objective and thorough investigations, assessments and analysis have been IMPERATIVE on me. And as part of my investing philosophy, I try to avoid getting married to a position, in as much as assuming the HIGH RISK role of becoming a stock market CHEERLEADER.

Losing money means my family will starve and this is why I cannot afford to lose money. Therefore such punctilious efforts, on my part, to deal with risks represent what have been known as stakeholder’s problem—where my incentives to attain relevant knowledge are prompted by the degree of my stakes in the financial marketplace. Since I depend on the markets thus I have to know the possible risks attendant to my positions.

And this outlook which I share with you, has not only been based on my battle hardened experience, but also from my candid evaluations of the conditions of the risk environment.

I am not here for an egotistical trip as many have been wont to.

Separating Signals from Noise

I have long been an adherent to the wisdom of the legendary trader Jesse Livermore. I have repeatedly been posting one of my favorite Mr. Livemore’s aphorisms here (bold emphasis mine)

I began to realize that the big money must necessarily be in the big swing. Whatever might seem to give a big swing its initial impulse, the fact is that its continuance is not the result of manipulation by pools or artifice by financiers, but depends on underlying conditions. And no matter who opposes it, the swing must inevitably run as far and as fast and as long as the impelling forces determine.

Simply said, profits are to be made based on underlying conditions which drives the general trend, and importantly, serves as the critical source of big swings.

And this is why I give heavy emphasis at the unfolding events based on the big picture. Unlike most practitioners, I am hardly swayed by vacillations from ticker tape activities.

Yet, ticker tape activities and the big picture frequently represent the noise and signal problem

Nassim Nicolas Taleb in his forthcoming book wonderfully explains the psychological impact from noise and signal[1]

we are not made to understand the point, so we overreact emotionally to noise. The best solution is to only look at very large changes in data or conditions, never small ones.

Just as we are not likely to mistake a bear for a stone (but likely to mistake a stone for a bear), it is almost impossible for someone rational with a clear, uninfected mind, one who is not drowning in data, to mistake a vital signal, one that matters for his survival, for noise. Significant signals have a way to reach you. In the tonsillectomies, the best filter would have been to only consider the children who are very ill, those with periodically recurring throat inflammation.

There was even more noise coming from the media and its glorification of the anecdote. Thanks to it, we are living more and more in virtual reality, separated from the real world, a little bit more every day, while realizing it less and less. Consider that every day, 6,200 persons die in the United States, many of preventable causes. But the media only reports the most anecdotal and sensational cases (hurricanes, freak incidents, small plane crashes) giving us a more and more distorted map of real risks. In an ancestral environment, the anecdote, the “interesting” is information; no longer today. Likewise, by presenting us with explanations and theories the media induces an illusion of understanding the world.

And the understanding of events (and risks) on the part of members of the press is so retrospective that they would put the security checks after the plane ride, or what the ancients call post bellum auxilium, send troops after the battle. Owing to domain dependence, we forget the need to check our map of the world against reality. So we are living in a more and more fragile world, while thinking it is more and more understandable.

The bottom line is that many people get confused when working to separate the proverbial wheat from the chaff or when filtering signal from noise. People with lesser stakeholdings are likely to emphasize on the noise which usually signify as “an illusion of understanding the world” and or embrace steeply biased (but unworkable and highly flawed) theories.

The Dopamine Fetish

I would also add that part of the psychological-neuroscience aspect in dealing with markets has been about dopamine neurons.

People’s dopamine neurons, or brain chemicals, gets fired up when rewards attained are GREATER than expected. In contrast, REGRETS are symptoms of depressed dopamine neurons. Thus short term thinking and short term trading have MOSTLY been about the fetish for dopamine trips.

A study on neuroscience suggests that dopamine flows are pervasive during early stages of a ballooning bubble, reflecting desire for profit. However as the bubble peaks, dopamine flows tend to culminate in a cessation just before the market burst[2]

Monetary policies by central banks also whet or induce dopamine powered speculative behaviors[3].

The lesson here is that we should manage our dopamine flows rather than allowing dopamine neurons to dominate the risk-reward tradeoffs that confront our investing decisions. This is basically about Emotional Intelligence (EI)

Let me further add that the technical construct of the Philippine Stock Exchange has been skewed to inculcate upon the public of the upside bias for issues listed on the markets, as well as, the component index.

The rational for this seems to be part of the political designs to exhibit economic booms.

Take shorting. While shorting has been legalized, rigorous procedural and regulatory compliance requirements have made shorting impractical. So we have a facility that has hardly been used.

And since market participants only earn from an UPSIDE price move, thus logically, the dominant entrenched PSYCHOLOGICAL bias would be for the public to yearn for the stock market to go only in one direction—UP.

Next, complimenting the psychological and physiological aspect, monetary policies have also been rewarding speculative activities at the expense of savings and production.

So intensifying speculative activities extrapolates to the herd effect in motion.

Where the basic function of the stock market has been about the cost of buying future income stream relative to insecurities (risk and uncertainty), such functionality has been negated or substituted by rationalizations for price chasing momentum.

Writes Kevin Dowd, Martin Hutchinson, and Gordon Kerr at Cato Forum for monetary policies[4],

Low interest rate policies not only set off a malinvestment cycle but also generate destabilizing asset price bubbles, a key feature of which is the way the policy rewards the bulls in the market (those who gamble on the boom continuing) at the expense of the sober minded bears who keep focused on the fundamentals, instead of allowing the market to reward the latter for their prudence and punish the former for their recklessness. Such intervention destabilizes markets by encouraging herd behavior and discouraging the contrarianism on which market stability ultimately depends. A case in point is the Fed’s low interest rate policy in the late 1990s: this not only stoked the tech boom but was maintained for so long that it wiped out most of the bears, who were proven right but (thanks to the Fed) too late, and whose continued activities would have softened the subsequent crash. The same is happening now but in many more markets (financials, general stocks, Treasuries, junk bonds, and commodities) and on a much grander scale. Such intervention embodies an arbitrariness that is wrong in principle and injects a huge amount of unnecessary uncertainty into the market.

In essence, the inflationary boom psychology has been distorting economic reasoning.

Add to this the leash effects of bailout policies.

The bottom line is that inflation fueled bull markets have become a religion to many.

And advises to undertake prudent positions—based on appraising the risk environment that may adversely affect one’s portfolio—has been seen as sacrilege.

Short Selling Not Recommendable; Contagion Risks

I also do NOT recommend shorting in the Philippines for the following reasons

-the cost to undertake shorts positions have been enormous relative to prospective gains (if a short position is required the best is to do it from overseas)

-a full blown BEAR market for the Philippines has NOT been yet established, although the RISKS from such scenario seem to be STRENGHTENING.

-global regulators have periodically been intervening. The degree of intervention mostly through bailout policies comes with such INTENSITY such that these can TORCH shorts on short notice. A good example has been Europe’s LTRO which singed Euro shorts at the start of the year[5]

-global regulators have innate biases against short sellers. They have done so lately through direct market interventions, such as drastic imposition of shorting bans which forces short covering to investors at a loss. A great example has been the shorting bans on Europe stock markets in mid-2011[6] in the political belief that speculations, and NOT insolvency, have been the fundamental problem that besets the Eurozone. Yet in spite of the bans, European stock markets continue to bleed PROFUSELY. This represents a vivid example of the “illusion of understanding the world” by political agents who always try to shift what has truly been their mistake to the markets.

Lastly I do NOT wish or DESIRE for a bear market.

Because of the limitations to take on hedge positions, bear markets or even phases of consolidation with a downside bias or volatility translates to income drought for me or most market participants (see the structural bull market bias above)

While I am an optimist who believes that the Phisix will reach 10,000 sometime in the future, I am also a REALIST who understands that external forces have a HUGE influence to actions of the local stock markets and that NO trend goes in a straight line.

In suggesting of the countercyclical trend amidst a secular trend I wrote in March[7],

I am not certain whether we will see a repeat of the discontinuities similar to the 1986-1997 bull market cycle or will suffer more than the past cycle before reaching my goal or if the Phisix will proceed to double. What needs to be monitored are drivers of the current trends and the whereabouts of the present boom cycle based on internal and external dynamics.

In short, the PHISIX, despite the secular trend, is VULNERABLE to a CONTAGION risk.

Could this week’s Phisix Divergence Represent an Anomaly?

The local benchmarket, the Phisix, majestically bucked the global stock market carnage last week.

As one would note, the Phisix has not only outperformed the region, the local benchmark basically defied gravity.

China and Malaysia joined the Phisix, as outliers, with hefty gains amidst a sea of red.

Yet such divergences have given the dopamine to Pollyanna trippers the ammunition to declare “bottom” for the market.

I have yet to be convinced.

The gist of the weekly gains or 52% of the Phisix came from Thursday’s activities.

Ironically, the sizable gains occurred in the backdrop of staggering US and global markets.

Media and experts has alluded to reports of sturdy domestic economic growth[8], the hints of a possible upgrade[9] by US rating agency Moody’s on the credit standing of the Philippines and the closure of milestone impeachment trial[10] with a conviction of the accused which favors the administration as reasons for this.

I beg to differ.

I raised this concern on this last Thursday[11]. The Phisix went down to as low as 67 points at the early session, dragged by the selloffs in the US and Europe. But suddenly, aggressive and systematic buying of heavyweights (blue chips) throughout the day pushed the Phisix to close at almost at the peak (76.81) at 73 points. The pendulum swing from loss to gain represented an astounding 2.8%!!!

Buyers seem to have, ironically, been resolutely aggressive to push up prices in an environment of MOSTLY falling stock market prices globally, perhaps in the assumption that local stocks will soon experience a strong surge.

Or is it?

The weekly performance of the heavy cap issues reveals that gains of the Phisix were mostly seen through Ayala Corp (AC), JG Summit (JGS), Banco De Oro (BDO), Metrobank (MBT), SM Investments (SM), International Container (ICT), PLDT (TEL) and Bank of the Philippine Islands (BPI).

The logical part for any buyers under such scenario would be to make use of the dour sentiment to take advantage of price declines to bargain hunt. Yet these have not been the case.

Let me lay out my suspicions.

I do not think that these has been due to general market sentiment, although pushing up the PHISIX index succeeded to give a boost to the general market sentiment.

Thursday closed with a mixed showing between advancers and decliners with the latter having a slight edge. On a weekly basis advancers took a slight lead over decliners showing modest improvement in the market breadth or sentiment.

Second my naughty thoughts suggests that Thursday actions was likely executed to create an impression of economic ‘confidence’. I am not so sure why though. Perhaps to squelch demand for signing waivers for top officials.

Buyers suddenly became price insensitive. The likelihood is that non-market entities may have been responsible for aggressively pushing up Big Caps. I would suspect that these may have been government institutions such as the SSS, GSIS or others.

While it is true that Thursday a net foreign buying, the bulk of these buying can be traced to cross trades at DM Consunji.

Besides, net foreign buying data may not reveal of the real extent of activities that took place. Foreign buying can represent overseas based subsidiaries or branches of locally owned corporate vehicles or tycoons, as well as, foreign based politically allied corporations.

Of course I may be wrong and that there may have been special factors driving up the Phisix.

But if my suspicions are valid then such interventions are likely to produce short term effects.

As example the Bank of Japan’s (BoJ) $13.3 billion[12] interventions DID bring down the Yen for about a month. However the Yen has been regaining lost grounds since. This effectively has neutered tax payer financed interventions. In short $13.3 billion down the drain.

Another question that begs to be asked is WHY the PHSIX alone?

While Malaysia did post hefty weekly gains next to the Phisix, the Malaysia’s benchmark (FBMKLCI:IND, green) has almost missed out the recent bull market. On the other hand, Thailand (SET:IND, orange) and Indonesia (JCI:IND, red) which shared or alternated the lead with the Phisix, since last year, has wilted significantly.

Yet it can be observed that ASEAN’s stock markets have been nearly been moving in nearly synchronous fashion UNTIL the peak in May of this year.

This only means that last week’s gains by the Phisix either represents an ANOMALY or that the Phisix LEADS Asia.

My bet is on the former.

The Decoupling Myth

I have been saying that current environment have been dominated by POLITICAL uncertainty which for the Philippines and ASEAN represents a CONTAGION risk.

If global markets stock markets have been pricing in a bust or the unwinding of malinvestments which is being transmitted to the global economies, then it would dangerous, if not reckless, to presume immunity or “decoupling” where trade and investment linkages of ASEAN economies have been deepening relative to the world.

ASEAN economies have largely been exposed to developments abroad through merchandise trade (exports and imports).

The Philippines merchandise trade represents over 50% of GDP, while Malaysia and Thailand are over 100%.

This means any meaningful economic slowdown in the region or in the world will negatively impact economic growth.

Add to this the potential slowdown effect on remittances and supply chain networks.

The deepening of financial globalization also means the integration of emerging Asia’s capital markets[13] with the world (left chart) and with intra-region (right pane).

In short, the false notion of DECOUPLING will likely melt in the face of a global recession or when a full blown financial crisis, if such phenomenon transpires.

Let me be clear, the conditional term is an IF, while global economies have indeed been slowing down, a global recession or worldwide contagion from euro’s financial crisis has yet to become evident in Asia.

Of course a decoupling COULD happen if there should be massive inflation or even hyperinflation from any of these major economies. However, under the current circumstances this is unlikely to happen.

This means that for those in the belief that the Philippines can decouple from the world, the following chart should be a helpful reminder…

2007-2008 signifies as the contagion based bear market.

Neither has there been an economic recession during the said period nor did earnings fall materially. But the Phisix entered a full blown BEAR Market and lost about 50% peak-to-trough as a result of an exogenously driven financial crisis in 2007-2008.

Of course 2008 is different from today. In fact, today has been worst compared to the 2008 crisis. In 2008 the crisis was limited to the banking, property and mortgage industry. Today the crisis dynamics has shifted to envelop banks AND sovereigns. Not to mention that world wide government debts have surged[14] and that US fiscal deficits have skyrocketed (at $1.327 trillion or 8.2 times larger than 2007[15]).

Yet for those who should insist on decoupling, then I wish you the best of luck.

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[1] Taleb Nassim Nicolas Noise and Signal — Nassim Taleb Farnam Street, May 29, 2012

[2] ChangingMinds.org The Neuroscience of Financial Bubbles

[3] See How US Federal Reserve Policies Stimulates the Public’s Speculative Behavior, May 8, 2012

[4] Dowd Kevin, Hutchinson Martin, and Kerr Gordon The Coming Fiat Money Cataclysm

and the Case for Gold

[5] Marketwatch.com Euro hits 3-month high on LTRO hopes, February 24, 2012

[6] Wall Street Journal, Europe Short Bans Extended, August 26, 2011

[7] See Phisix: The Journey Of A Thousand Miles Begins With A Single Step, March 12, 2012

[8] ABS-CBNnews.com.ph PH eco grows 6.4% in Q1; highest in ASEAN, May 31, 2012

[9] Businessmirror.com.ph Moody’s raises PHL to ‘positive’ May 29, 2012

[10] See The Lessons and Validity of Public Choice Theory Applied to the Chief Justice’s Corona Impeachment, May 29, 2012

[11] See Phisix: Very Impressive Day or Month End Close for May 2012, May 31, 2012

[12] Bloomberg.com Japan Adopts Stealth Intervention As Yen Gains Threaten Exporter Earnings February 7, 2012

[13] ADB ONLINE Asia Capital Markets Monitor August 2011

[14] Zero Hedge, Presenting Dave Rosenberg's Complete Chartporn, June 1, 2012

[15] Weiss Martin Lehman-Type Megashock Looming, Money and Markets May 21, 2012