The Phisix Amidst the Korean Peninsula Stand-Off

Domestic headlines continue to banner on the verbal showdown and belligerent artifice between the US and North Korea.

DPRK’s Declaration of War and War Posturing

While I think that this seems more a vaudeville than of a real threat, geopolitical brinkmanship can always deteriorate into a real thing. Inflated egos of political leaders may impulsively react on events that could push posturing into a full scale war. All that is needed is an event that may serve as the Casus Belli[1].

North Korea or Democratic People's Republic of Korea (DPRK) has already declared a “state of war”[2] with its wealthier kin, South Korea or Republic of Korea (ROK) last March 30, 2013. But through the week, all that has occurred have been the mobilization or a show of force from contending parties. 

Yesterday North Korea reported to have moved its two medium range missiles, the Musudan missiles, which has a range of 1,865 miles and has the capability to strike at South Korea, Japan and US bases in the Pacific, supposedly for a missile test[3]. 

Yet despite all the North Korean rhetoric and propaganda about launching a nuclear war with the US, her nuclear missiles hardly have the range and capability to reach the US[4].

On the other hand, the US has transferred anti-ballistic missile defence system to Guam[5] along with several B-1 ("Bone") Lancer strategic long-range bombers.

The US has also “secretly” deployed the E-6 Mercury “Doomsday plane” which has been reportedly “tasked with "providing command and control of U.S. nuclear forces should ground-based control become inoperable" and whose core functions include conveying instructions from the National Command Authority to fleet ballistic missile submarines and also to further command post capabilities and control of land-based missiles and nuclear-armed bombers”, according to the Zero Hedge[6].

In other words, should there be a full scale war, such may include the use of nuclear weapons. The outcome, hence, is likely to be devastating and cannot be compared to any previous conventional wars.

Thus any comparisons with modern wars as the 1982 Falklands War between the UK and Argentina[7], the 1991 US-Iraq Gulf War[8], the 1999 Kargil war between India and Pakistan over the Kashmir region[9], the 2003 US Invasion of Iraq[10], the Afghanistan War[11] or the 5 day South Ossetia war between Russia and Georgia[12] represents apples-to-oranges.

South Korea and the US will have to deal with North Korea’s 12-27 nuclear weapons with a TNT yield of 6-40 kilotons[13]. The atomic bombs that leveled Hiroshima “Little Boy” gravity bomb and Nagasaki “Fat Man” gravity bomb had TNT yields of 13-18 kilotons and 20-22 kilotons respectively[14].

Why is War Unlikely; North Korea’s Geopolitics of BlackMail

In 2010 I expressed doubts that a war in the Korean Peninsula will take place. I still maintain such skepticism.

Why?

North Korea is an impoverished state whose weapons are mostly dilapidated and obsolete, and whose vaunted millions of soldiers are likely to be starving, ill equipped and poorly trained[15].

And in spite of the North Korea’s vaunted war machinery, wherein much of the misallocation of the nation’s resources had been directed, the North Korean army is in a state of dilapidation and obsolescence: they seem ostensibly good for parades and for taunting, but not for real combat…

Thus, based on socio- political-economic and military calculations, the North Koreans are unlikely to pursue a path of war, because the odds are greatly against them. And their political leadership is aware of this.

And as I previously pointed out, North Korea is the embodiment of the environmental politics of known as “Earth hour”[16]. Except for the North Korea’s capital, Pyongyang, satellite photos reveal that at night, the entire country has mostly been dark or without light, which is in stark contrast to South Korea (left window).

Moreover, North Korea has recently been plagued by hyperinflation[17]. 

Since July 2010, price inflation as measured by rice prices has pole-vaulted by 5x. So we can’t discount that such war histrionics may have been meant to divert public’s attention from internal economic woes, and instead, like typical politicians North Korean leaders have used foreigners as scapegoats for policy failures.

Except for nuclear weapons, North Korea isn’t likely to win a conventional war against South Korea, even without US support.

South Korea can afford to defend herself with a modern well equipped well trained army given the wide difference of her economic growth[18], capital surpluses and wealth disparities. But the problem is that she may have substantially relied or delegated to the US much of the home or national defense duties.

Given such reality, political leaders of North Korea have long used nuclear weapons as bargaining chips to indulge on the geopolitics of blackmail. 

So unless North Korea’s Kim Jong-un has gone rogue and suicidal, the odds are that North Korea’s Kim will unlikely take on this war path. 

Besides, Kim’s wife Ri-Sol-ju has reportedly given birth to their first baby in secret[19]. A war would mean sacrificing both their political privileges and their lives. And they know this.

Yet a conventional war may perhaps open the gateway for ordinary North Koreans to make a mad dash out of their highly repressive country. 

And it isn’t also far fetch to think that a war may inspire many of North Korea’s military to immediately surrender or pledge allegiance to the South or mount a mutiny, given the horrors of the North Korean dictatorship. Just recently a North Korean official was executed by mortal shell for infringing on the rules covering the 100 day mourning period for the late King Jong il[20].

Of course such faceoff hasn’t been all about North Korea’s fault.

Aside from the sanctions imposed by the UN due to DPRK’s third missile tests, North Korean leaders may have been traumatized by recent US military air exercise involving heavy bombers[21].

Notes the historian Eric Margolis[22],

During the 1950-53 Korean War, US B-29 heavy bombers literally flattened North Korea. That’s why North Korea reacted so furiously when US B-52 heavy bombers and B-2 Stealth bombers skirted its borders late last month, triggering off this latest crisis. The B-2 can deliver the fearsome ‘MOAB’ 30,000 lb bomb called "the Mother of All Bombs" designed to destroy deep underground command HQ’s (read Kim Jong-un’s bunker) and underground nuclear facilities.

The real threat from a realization of a full scale war really hasn’t really been just about North Korea’s nuclear missiles but about the possible involvement of other nations as China, whom has long been North Korea’s key ally, and of Russia whom has had on and off relationship with the DPRK[23]. Although recently China’s leaders have expressed concern over the bellicose rhetoric of North Korea’s leaders[24], events may turn out differently once the shooting war begins. 

Remember the Casus Belli of World War I had been the assassination of Archduke Franz Ferdinand of Austria[25], which invoked the assembly of opposing alliances that lead to the outbreak of war[26]. The opposing alliances then consisted of the Allies (based on the Triple Entente of the United Kingdom, France and Russia) on one side. And the Central Powers (originally the Triple Alliance of Germany, Austria-Hungary and Italy; but, as Austria–Hungary had taken the offensive against the agreement, Italy did not enter into the war), on the other side.

The US Military Industrial Complex and Stock Market Scenarios

Lastly the US seems to have been itching for a war either with Iran or with North Korea. Yet North Korea has long served as a useful public bogeyman which benefited of the US military industrial complex and the neoconservative politicians who support them.

The existence of a “bellicose” and “provocateur” DPRK has justified US military power build up in Asia. Jack A. Smith writing at Anti-War.com[27] 

Washington wants to get rid of the communist regime before allowing peace to prevail on the peninsula. No “one state, two systems” for Uncle Sam, by jingo! He wants one state that pledges allegiance to — guess who? In the interim, the existence of a “bellicose” North Korea justifies Washington’s surrounding the north with a veritable ring of firepower. A “dangerous” DPRK is also useful in keeping Tokyo well within the U.S. orbit and in providing another excuse for once-pacifist Japan to boost its already formidable arsenal.

Not only “war is the health of the state”[28], war signifies as good business for the politically anointed since defense industry benefits from subsidies or wealth transfer from taxpayers to politicians and military industrial complex.

So how the Korean Peninsula standoffs affect the domestic and the regional stock markets?

I see four potential scenarios with different outcomes. 1. No war. 2. Limited conventional war. 3. Limited war but with use of nuclear weapons. 4. World War III.

The stock markets will hardly be affected given the first two situations: no war or a limited conventional war. I lean towards the first scenario.

Nonetheless if the second condition occur, central banks are likely to inflate more. US monetary base surged during World War II, and also climbed during the Vietnam War.

If nuclear weapons will be used, the stock markets may be affected. But this will largely depend on the location and the extent of the damages.

Remember if DPRK’s Kim will go berserk and become suicidal then he may wish for retribution or make a statement against the West. Thus we should not dismiss the possibility that the DPRK may target nations with the least anti-ballistic defence or nations who are most vulnerable to their missiles. This puts Southeast Asia on such a list.

In this nuclear age, World War III means that we can kiss the stock markets goodbye and pray that we survive the nuclear holocaust.

Ignoring all these would signify as “denigration of history” or the false assumption that one is immune from misfortunes or disasters.

---

[1] Wikipedia.org Casus belli

[2] Bloomberg.com Mongolia Seeks to Play Peacemaker as North Korea Declares ‘War’ March 30, 2013

[3] Guardian.co.uk North Korea readies missile launch as fears of a covert cyberwar grow April 6, 2013

[4] Foreign Policy Blog Battle of the maps: North Korea's actual missile capability vs. North Korea's threatened missile capability March 29, 2013

[5] Reuters.com Extra line of defense – graphic of the day April 4, 2013

[6] Zero Hedge US Secretly Deploys B-1 Strategic Bombers, E-6 "Doomsday" Planes Near North Korea April 5, 2013

[7] Wikipedia.org Falklands War

[8] Wikipedia.org Gulf War

[9] Wikipedia.org Kargil War

[10] Wikipedia.org 2003 Invasion of Iraq

[11] Wikipedia.org Afghanistan War

[12] Wikipedia.org Russia-Georgia War

[13] Wikipedia.org North Korea and weapons of mass destruction

[14] Wikipedia.org Nuclear Weapon Yield

[15] See Will A War Break Out In The Korean Peninsula? November 28, 2010

[16] See Earth Hour: North Korean Version March 31, 2010

[17] Steve H. Hanke, North Korea’s Hyperinflation Legacy, Part II Cato.org December 7, 2012

[18] Washington Post Kim Jong Il’s economic legacy, in one chart December 19, 2011

[19] CSMonitor Did Kim Jong-un and his wife have a baby? March 5, 2013

[20] Daily Mail North Korean official is executed by MORTAR SHELL for drinking during 100-day mourning period for late 'Dear Leader' Kim Jong-il October 24, 2012

[21] Bloomberg North Korea Vows Military Action Against More U.S. B-52 Flights March 20, 2013

[22] Eric Margolis War in Korea April 6, 2013

[23] Wikipedia.org North Korea–Russia relations

[24] Washington Post China expresses concern over North Korea’s rhetoric April 7, 2013

[25] Wikipedia.org Assassination of Archduke Franz Ferdinand of Austria

[26] Wikipedia.org World War I

[27] Jack A. Smith, Behind the US-North Korean Bluster Anti-war.com April 4, 2013

[28] Randolph Bourne War is the Health of the State Bureau of Public Secrets

Bank of England: Rising Equity Markets Don’t Reflect the Underlying Economic Situation

The Bank of England (BoE) says what I have been saying all along: markets have functioned in departure from reality or what I call as "parallel universe".

From the Bloomberg

The Bank of England said rising equity markets don’t reflect the underlying economic situation and warned that investors may be underestimating risks in the financial system.

Gains by equities since mid-2012 “in part reflected exceptionally accommodative monetary policies by many central banks,” the BOE’s Financial Policy Committee said today in London in the minutes of its March 19 meeting. “It was also consistent with a perception among some contacts that the most significant downside risks had attenuated. But market sentiment may be taking too rosy a view of the underlying stresses.”

UK’s highly fragile banking system has been amplified by current yield chasing parallel universe. More from the same article:

At the meeting, the FPC recommended that U.K. lenders raise 25 billion pounds ($38 billion) of additional capital to cover bigger potential losses, possible fines for mis-selling and stricter risk models. While banks have strengthened their resilience in recent years, the FPC said today that not all of them may be able to withstand unexpected shocks and maintain lending to companies and households.

The FPC discussed potential threats from the crisis in Cyprus, which agreed on an international bailout last month. While at the time of the March 19 meeting there were “minimal signs” of spillovers to other financial systems, there was “a risk that this situation could change,” the committee said….

In their discussion, the FPC members noted the potential threats to the financial system from increased risk appetite among investors.

“This was evident in the re-emergence of some elements of behavior in financial markets not seen since before the financial crisis, including a relaxation in some U.S. credit markets of non-price terms and increased issuance of synthetic products,” the committee said. “At this stage, they did not appear indicative of widespread exuberance in markets. But developments would need to be monitored closely.”

The FPC also said that banks’ leverage ratios, a measure of their debt to equity level, would remain “very high” even after the new recommendations were met. It said there would be “little margin for error against a backdrop of low growth in the advanced economies.”

As noted in the above, central bank authorities either fail to comprehend on the distortive consequences of their inflationist policies or that they are in deep denial.

Because money is never neutral, central bank’s monetary expansion means “money from thin air” flows into the financial and economic system asymmetrically.

Such polices trigger what is called as the “business cycle”.

As the great dean of Austrian economics explained

The fundamental insight of the "Austrian," or Misesian, theory of the business cycle is that monetary inflation via loans to business causes over-investment in capital goods, especially in such areas as construction, long-term investments, machine tools, and industrial commodities. On the other hand, there is a relative underinvestment in consumer goods industries. And since stock prices and real-estate prices are titles to capital goods, there tends as well to be an excessive boom in the stock and real-estate markets.

(bold mine) 

So England’s property bubble and elevated equity prices signify as a classic example of the business cycle in motion.

And given the increasingly hostile environment where productive (commercial) activities are being punished via higher taxes, financial repression and by increased regulations and mandates, such string of political actions compounds on the skewing of people’s incentives towards yield chasing activities.

Add to this the distorting effects of inflationism on economic calculation, again professor Rothbard: (bold mine)

By creating illusory profits and distorting economic calculation, inflation will suspend the free market's penalizing of inefficient, and rewarding of efficient, firms. Almost all firms will seemingly prosper. The general atmosphere of a "sellers' market" will lead to a decline in the quality of goods and of service to consumers, since consumers often resist price increases less when they occur in the form of downgrading of quality. The quality of work will decline in an inflation for a more subtle reason: people become enamored of "get-rich-quick" schemes, seemingly within their grasp in an era of ever-rising prices, and often scorn sober effort. Inflation also penalizes thrift and encourages debt, for any sum of money loaned will be repaid in dollars of lower purchasing power than when originally received. The incentive, then, is to borrow and repay later rather than save and lend. Inflation, therefore, lowers the general standard of living in the very course of creating a tinsel atmosphere of "prosperity."

Besides, like Spain, central banks have supported asset markets in order to finance unwieldy government spending or their highly tenuous welfare state via Ponzi financing.

In short, lofty equity prices are symptoms of monetary disorder. Another reality is that such policies have been designed to preserve on the unsustainable incumbent political economic cartel of the debt and inflation based crony banking-welfare/warfare state-central banking system through asset bubbles.

Yet if central banks desist from pursuing further monetary expansion that blows today's asset bubbles, the system falls asunder. 

Eventually when a critical state have been reached from these cumulative unsustainable political actions, markets will also unravel.

Central bankers, in essence, have been caught between the proverbial devil and the deep blue sea.

The above also shows why conventional treatment of financial markets will be highly sensitive to significant analytical errors and losses. As hedge fund manager Kyle Bass recently noted, today's markets are largely Potemkin Villages.

Quote of the Day: Credit Allocation Determined by World’s Bank Regulators

The financial crisis served to differentiate two types of investments–the ones that get bailed out and the ones that don’t. Investors naturally have a preference for the former. That means big banks can get cheap credit. And what does Basel tell them they can do with their cheap credit? Buy government bonds.

So what we have had over the past ten years is a massive exercise in credit allocation by the world’s bank regulators. They offer explicit and implicit guarantees to banks that invest in assets officially designated as low risk, and now they are shocked, shocked to find capital pouring into exactly those assets.

This is from economist, author and professor Arnold Kling on his blog.

Video: Some People's Amazing Feat

A short video on incredible acts that some people can do. (hat tip AEI's Mark Perry)

Video: Kyle Bass on Kuroda’s Doubling of Monetary Base; Japan’s Debt Trap

Fund manager Kyle Bass of Hayman Capital interviewed at the CNBC thinks that Japan has reached a critical zone and points to several important factors from the recent BoJ decision. (hat tip zero hedge)

He notes that “Increasing the monetary base by roughly 143 trillion yen is essentially doubling monetary base” which he shares with another expert that represents a “giant experiment” where “doubling monetary base is extremely experimental”

With Japan’s debt accounting for more than 20x tax revenue Japan is already "insolvent". Thus, policymakers have been prompted to “to do something big” 

He also adds that Japan is about to “implode under the weight of their debt”. And that BoJ’s recent aggressive stance also included the abandonment of the banknote rule*

*the Bank Note Rule was a self-imposed rule on the Bank of Japan upon its creation to make sure that the BoJ's balance sheet did not become over-leveraged. Effectively, the rule limits the amount of bonds the BoJ can hold to the amount of currency in circulation. However, by abolishing the rule, the BoJ can effectively lever itself up and buy more bonds. (Nasdaq)

Mr. Bass suggests that the bond markets will now play a crucial role in monitoring Japan’s transition: “what is important is to follow the bond market’s reaction”

He thinks that “central bankers live in a nirvana”, and that eventually “they will lose control of rates”

He advises resident Japanese to “spend all the yen you have, you need to go take it out of your country” to save their savings or their purchasing power. And for foreigners to do the yen carry trade by borrowing yen to buy productive assets in other countries

Investors “should not be long yen or not be long Japanese assets” even if equities have responded in Pavlovian fashion to BoJ’s policies.

Mr. Bass also notes that Japan has generally lost trade competitiveness, mostly to South Korea and that her industries been “hollowed out”. Add such predicament to the decline in population and debt rate cross out birth rate and of the coming tax increases. 

The forthcoming living tax increase "will pull forward some consumption so nominal gdp move slightly higher" but will be a drag over the long term.

He says that the popular focus on us dollar yen is a myopic view of trade competitiveness. And that mainstream’s expectation of BoJ policies “is not the pancea that everyone hopes that it will be”

Final point he says investing in a world of central banking inflationism has been difficult: “central bankers around the world are creating Potemkin villages, they are very difficult to invest around”

Below is another video inspired from Kyle Bass explaining Japan’s debt trap from Addogram;

Spanish Government’s Ponzi Financing Scheme

More signs why the European debt crisis is far from being over.

Spain’s pension fund has been loaded with debt from the Spanish government

From Bloomberg: (bold mine)

Spain’s pension reserve-fund ramped up its holdings of domestic debt last year, profiting from a rally across southern Europe and making it easier for Prime Minister Mariano Rajoy to raid the fund to finance his budget.

The so-called Fondo de Reserva de la Seguridad Social in 2012 increased its domestic sovereign debt holdings to 97 percent of its assets from 90 percent at the end of 2011, according to its annual report due to be presented to lawmakers today at 12:30 p.m. in Madrid and obtained by Bloomberg News.

The fund purchased about 20 billion euros ($26 billion) of Spanish debt last year, while it sold 4.6 billion euros of French, Dutch and German bonds. More than 70 percent of the purchases took place in the second half of the year, after European Central Bank President Mario Draghi pledged to do “whatever it takes” to defend the euro, boosting Spanish bonds.

Two insights from the above.

One, pension funds are subject to government’s predation, thus can’t be relied on.

Two, if the Spanish government defaults on their debt, pension fund beneficiaries will get cleaned out.

Yet more signs of increasing vulnerability of Spain’s welfare state. More from the same article: (bold mine)

Spain’s state-run social security system, also in charge of unemployment benefits, stopped registering surpluses in 2011. Its deficit was 1 percent of GDP last year, contributing to the nation’s total budget gap of 10.2 percent of GDP.

A recession is crimping contributions paid by workers and their employers. At the same time spending has increased due to a record jobless rate of 26 percent and a pensions’ bill, which has risen to 9 billion euros a month from 8 billion euros in 2004.

While the fund stopped receiving government contributions in 2010, its managers changed rules on July 17 to profit from returns from Spanish securities, according to the document.

The maximum amount that can be invested in a given security was increased to 35 percent of the total portfolio from 16 percent. At the same time, the fund raised to 12 percent from 11 percent its maximum share in the Treasury’s total outstanding debt. The Treasury’s debt stock was 634 billion euros in February, according to data on its website.

See why governments have used central bank inflationism to boost asset prices? Gains from asset arbitrages have been used to cover funding shortfalls!

This reminds me of Hyman Minsky’s Ponzi finance from his Financial Instability Hypothesis

Mr. Minsky defines Ponzi finance as (bold mine)

cash flows from operations are not sufficient to fulfill either the repayment of principle or the interest due on outstanding debts by their cash flows from operations. Such units can sell assets or borrow. Borrowing to pay interest or selling assets to pay interest (and even dividends) on common stock lowers the equity of a unit, even as it increases liabilities and the prior commitment of future incomes. A unit that Ponzi finances lowers the margin of safety that it offers the holders of its debts.

In short, Ponzi finance depends on asset values from which is used either as collateral for borrowing or for funding purposes through asset sales.

 

How Ponzi schemes implode, again from Mr Minsky

In particular, over a protracted period of good times, capitalist economies tend to move from a financial structure dominated by hedge finance units to a structure in which there is large weight to units engaged in speculative and Ponzi finance.

Furthermore, if an economy with a sizeable body of speculative financial units is in an inflationary state, and the authorities attempt to exorcise inflation by monetary constraint, then speculative units will become Ponzi units and the net worth of previously Ponzi units will quickly evaporate. Consequently, units with cash flow shortfalls will be forced to try to make position by selling out position. This is likely to lead to a collapse of asset values.

The difference here is that Mr. Minsky refers to capitalist economies or private finance units as practitioners of Ponzi financing, whereas today it has been governments that rely on Ponzi finance via asset bubbles to sustain their welfare states.

And Spain’s Ponzi finance scheme shows why debt laden governments will unlikely resort to the “exorcise inflation by monetary constraint”, since this will “lead to a collapse of asset values”, thus extrapolates to the collapse of Spain's welfare state.

At the end of the day, what is unsustainable will simply not last, like all ponzi finance schemes, they will fail.

Happiness: A Worthwhile Purpose in Life

Experts would like to make us believe that there are objective standards in attaining happiness. From such premise, they come with all sorts of math-psychology based models or methodology, e.g. Happiness economics, to ascertain happiness. They attribute happiness mostly to well-being and wealth, from which they justify institutional coercion to supposedly attain such goals.

The fact is that happiness is subjective. Happiness comes from within us, as individuals. Happiness is distinct from person to person. As a state of mind, Happiness revolves around our preferences, value scales and ideals as expressed through expectations, goals and corresponding actions.

This means that happiness have not just been about material things, or about social acceptance or social status but of having a worthwhile purpose in life.

Libertarian author Robert Ringer explains at the Early to Rise 

Happiness has been defined in myriad ways over the centuries by some of the world’s greatest thinkers.  Aristotle described happiness as a condition rather than a destination.  Ralph Waldo Emerson referred to it as a journey.

But I think Viktor Frankl got to the heart of the matter even better when he explained that if there is a reason for happiness, happiness ensues.  Happiness, said Frankl, is a side effect of having a purpose in life.

In his book Man’s Search for Meaning, Frankl explained, “What man needs is not a tensionless state, but rather the striving and struggling of some goal worthy of him.”  In other words, man’s purpose in life is not to achieve goals, but to constantly strive toward them…

Why people look for issues to represent them:

Regardless of whether protest marches have to do with world peace, eradicating poverty, or saving whales from extinction, the reality is that they do not fill the void inherent in a meaningless life.  If man were to succeed in ridding the world of all disease, poverty, pestilence, famine, and war, what then would be the purpose of his existence?

As the struggle for man’s day-to-day survival has increasingly subsided, an important question has emerged:  survival for what?  In other words, just having the means to live is not enough; a person must have something to live for…

Finding your life’s purpose:

And if there is no purpose to an individual’s life — no meaning — then there’s no reason even to get out of bed in the morning, no reason to be alive.  In the words of the great Albert Einstein, “The man who regards his life as meaningless is not merely unhappy, but hardly fit for life.”

The more I reflect on the question, and the more I draw from my own experience and the experiences of others, the more convinced I am that striving toward goals is not a means to an end; striving is an end in itself.  Those who wish their lives away in anticipation of achieving some long-awaited goal do themselves a grave disservice…

The fact is that it’s possible to achieve all your goals in life, yet miss out on life itself.  And the best insurance policy against that happening is to have a worthwhile purpose in life and live in the present.

Read the full article here

Quote of the Day: The Whole Banking Business is Corrupt

The whole banking business is corrupt from top to bottom today. Part of the problem is that banks are no longer financed by the individuals who start them, putting their personal net worth on the line. Now, they are all publicly traded entities – just like all brokerages – playing with Other People's Money. Management has no incentive to do anything but pad their wallets, so they pay themselves gigantic salaries and bonuses, and give themselves options. These people aren't shepherding their money and that of clients they know personally. They've got zero skin in the game. 

This is true all over the world, not just in the US and Europe. All these banks are going to blow up, and not just in far-off, little countries.

This quote is from investing guru and philosopher Doug Casey at his eponymous website Casey Research 

China’s Cheap Drones: A Threat to Whom?

This article is worried that China’s cheap clones may end up in the wrong hands, or could be owned and used by the adversaries of the US government.

From Technewsdaily.com

Cheap drones made in China could end up arming potential U.S. foes such as North Korea, Iran and terrorist organizations.

China already makes drones that don't quite match up to U.S. military drones, but for a fraction of the cost. The Chinese military envisions such unmanned autonomous vehicles (UAVs) scouting out battlefield targets, guiding missile and artillery strikes, and swarming potential adversaries, such as U.S. carrier battle groups…

China has built a huge military-industrial complex to support its growing drone fleet, which consisted of about 280 military drones as of mid-2011, according to a report released by the Project 2049 Institute on March 11. Chinese manufacturers supplying the military and state agencies also have begun seeking foreign buyers in a global drone market that aerospace and defense market research firm Teal Group estimates to be worth $89 billion over the next 10 years…

The idea of cheap, China-made drones may not tempt countries such as Japan, South Korea, Taiwan, Australia or NATO allies that want to buy the best U.S. or Israeli drone hardware. Instead, China is seeking buyers in the Middle East and Africa at glitzy expositions such as China’s biennial Zhuhai Air Show.

While such concern could partially be true, considering the estimated $89 billion market, my guess is that China’s cheap drones will likely threaten politically connected US drone providers/suppliers more than terrorists or US foes having access to them. 

Besides, anti-drone laser weapon system has already been developed. Foes of the governments are likely to use them than use drones.

Yet demand for commercial drones has been estimated to reach 10,000 according to the US Federal Aviation Administration (FAA). 

Many of such demand come from hobbyists.

A good example of the growing commercial use of drones has been in photography or cinematography particularly in the covering of field events. The Golf Channel used a drone to film a recently held tournament, according to the Business Insider.

The point is commercialization of drones will likely mean more price competition, more innovation, more applications and an increasing use of them by the markets. China's cheap drones may be one factor in driving the commercialization of drones.

BoJ’s Kuroda’s Opening Salvo: 7 trillion yen ($74 billion) of Bond Purchases a Month

In pursuit of Shinzo Abe’s parlous economic policies popularly known as Abenomics, Bank of Japan’s new chief, former ADB head Haruhiko Kuroda’s began his term with a baptism of fire.

From the Bloomberg;

Bank of Japan (8301) Governor Haruhiko Kuroda began his campaign to end 15 years of deflation by doubling monthly bond purchases in a bid to reach 2 percent inflation in two years.

With Kuroda presiding over his first meeting since taking the helm last month, the board today streamlined its asset purchase programs, temporarily suspended a cap on some bond holdings and dropped a limit on debt maturities. The BOJ will buy 7 trillion yen ($74 billion) of bonds a month, the central bank said in a statement.

Be careful what you wish for. 

This applies to Abenomics whose scale of purchases is just $11 billion short of the $85 billion a month equivalent by the US Federal Reserve

While Abenomics may create a short term boom, this will be equivalent to an economic Hara-Kiri in the fullness of time as Abenomics magnifies the risks of a debt, or if not a currency crisis.

The worst is that the BoJ’s inflationism amplifies the risks of war.

As I pointed out in the past this hasn’t been about the strong yen (or deflation), which Japanese officials use as smokescreen, but “about saving the banks and financial institutions who constitutes as the major financiers or creditors or owners of Japan’s Government Bonds (JGBs)”

Nonetheless the aggressive deployment of asset purchasing will bring BoJ’s balance sheet to the levels of her western counterparts.

As fund manager Axel Merk of Merk Investment warned,

BOJ governor Kuroda will unveil which tools from his toolbox he may deploy. We refer to it as monetary madness because we don’t see how this can have a good ending for Japan, the yen, or the world. Japan has a $6 trillion economy, more than 200 times that of Cyprus. Should the market express its discomfort with Japan’s policies, there will be ripple effects to global markets. For now, the most direct implication is that we are rather negative on the yen. But don’t kid yourself: there may not be a place to hide, there may not be such a thing anymore as a safe asset. We have long argued that investors may want to take a diversified approach to something as mundane as cash.

Given precarious Japan’s debt position, Mr. Kuroda’s embrace of “Abenomics” is like playing with fire...where everyone gets burned.

Bill Gross: Past Performance in the Age of the New Normal

In the age where central banks have been propping up asset prices via the “wealth effect” as a way to lubricate “aggregate demand”, generating returns from investments requires unorthodox or unconventional or methodological templates.

So says Bond guru Pimco’s Bill Gross.

From Bloomberg (bold mine)

Bill Gross, manager of the world’s largest mutual fund, said the most renowned investors from Warren Buffett to George Soros may owe their reputations to a favorable era for money management as expanding credit fueled gains in asset prices across markets.

The real test of greatness for investors is not how they navigated market cycles during that time, but whether they can adapt to historical changes occurring over half a century or longer, Gross, 68, wrote in an investment outlook published today entitled “A Man in the Mirror,” named after a song by Michael Jackson.

“All of us, even the old guys like Buffett, Soros, Fuss, yeah - me too, have cut our teeth during perhaps a most advantageous period of time, the most attractive epoch, that an investor could experience,” Gross wrote. “Perhaps it was the epoch that made the man as opposed to the man that made the epoch.”

Gross, one of the co-founders in 1971 of Newport Beach, California-based Pacific Investment Management Co., is examining his legacy as the bond shop he built over four decades is seeking to adapt to an environment that looks very different from the bull market that fueled Pimco’s growth to one of the largest money managers in the world. The prospect of elevated market volatility, an aging population and climate change could make investing far more challenging in the coming decades, Gross said.

Bottom line: Past performance does not guarantee future outcomes.

Relying on historical data or statistics will unlikely be of a big help in the era founded on the deepening frictions from market distorting central banking inflationism and politicization of the financial markets via financial repression relative to changes in demographics, globalization and the information age.

To quote from the investing sage of Omaha (now crony) Warren Buffett,

If past history was all there was to a game, the richest people will be librarians.

Air India’s Failure: Epitome of Bureaucratic Enterprises

Massive infusion of taxpayer money has failed to revive the viability of government owned airline carrier, Air India

From a Bloomberg report,

Indian taxpayers gave Air India Ltd. $1.7 billion as bailout funds in the past four years. The airline now says it lacks cash to purchase spare parts.

That’s grounded 16 aircraft for the nation’s oldest carrier. Without the funds, the airline is also unable to refurbish some of the idled planes before returning to lessors.

“Some are just empty shells standing,” Air India Chairman Rohit Nandan said about the grounded aircraft. “We are in the process of returning some leased planes.”

The grounded planes add to the struggles of the former monopoly carrier saddled with about $8 billion of debt and six straight years of losses. Air India has also lost market share as discount carriers that started flights less than a decade ago lure passengers with the latest fleet and cut-rate fares.

Inability to fully utilize the fleet means Air India, the nation’s largest by number of aircraft, will operate fewer local flights than smaller rivals. The flag carrier won approval to operate 1,788 departures a week in the six months through September compared with IndiGo’s 2,821 and SpiceJet Ltd.’s (SJET) 2,467, according to the Ministry of Civil Aviation.

“It’s a criminal waste of public money,” said Harsh Vardhan, chairman of Starair Consulting, a New Delhi-based company that advises airlines. “With all this funds pumped in, what’s stopping Air India from spending on aircraft? They have to deploy fleet, expand network, increase frequency and go for market share.”

Since the Indian government liberalized the airline industry via the repeal of the Air Corporation Act of 1953 in 1994, privately owned firms dominated the market share. Air India’s share, from a monopoly, had been reduced to an estimated 18% of the domestic market.

The merger between Air India and Indian airlines, hobbled by labor unions, have reportedly been a factor in Air India’s continued losses.

Another important variable has been high prices of jet fuel which emanates from high taxes, around 32% of aviation fuel comes from a combination of sales tax, excise tax and freight related costs, as well as, from the inefficiencies of state owned oil marketing companies. High fuel prices has made domestic airlines less competitive relative to international counterparts. As of 2011, 5 of the top 6 major airlines were in the red.

Air India’s case is a classic example of the difference between bureaucratic firms and private companies which boils down to economic calculation.

As the great Ludwig von Mises explained:

A bureau is not a profit-seeking enterprise; it cannot make use of any economic calculation; it has to solve problems which are unknown to business management. It is out of the question to improve its management by reshaping it according to the pattern of private business. It is a mistake to judge the efficiency of a government department by comparing it with the working of an enterprise subject to the interplay of market factors…

Like any kind of engineering, management engineering too is conditioned by the availability of a method of calculation. Such a method exists in profit-seeking business. Here the profit-and-loss statement is supreme. The problem of bureaucratic management is precisely the absence of such a method of calculation.

In short, political enterprises are operated mainly from political goals, whereas the free market runs under the discipline of profit and losses. 

One should also make a distinction between private companies operating under the influences of politics or rent seeking “crony” firms.

Belgravia: London’s Ghost Village?

Central bank inflationism has only been fueling excessive speculation on global property markets. And the emergence of ghost communities, which are symptoms of bubbles, may not confined to China.

Belgravia, known as one of the wealthiest districts in the world, located at central London in the City of Westminster and the Royal Borough of Kensington and Chelsea, seem to be transforming into a ghost community largely due to foreign buyers.

From CNBC:

An odd thing was happening, or rather not happening, as dusk fell the other day across Belgravia, home to some of the world's most valuable real estate: almost no one seemed to be coming home. Perhaps half the windows were dark.

It seems that practically the only people who can afford to live there don't actually want to. Last year, the real estate firm Savills found that at least 37 percent of people buying property in the most expensive neighborhoods of central London did not intend them to be primary residences.

"Belgravia is becoming a village with fewer and fewer people in it," said Alistair Boscawen, a local real estate agent. He works in "the nuts area" of London, as he put it, "where the house prices are bonkers" — anywhere from $7.5 million to $75 million, he said.

The buyers, increasingly, are superwealthy foreigners from places like Russia, Kazakhstan, Southeast Asia and India. For them, London is just a stop in a peripatetic international existence that might also include New York, Moscow and Monaco.

Bank of England’s QE

Rampant property speculation has partly been abetted by the weakening of the British pound relative to emerging markets currencies, largely brought about by the balance sheet expansion by the Bank of England.

Except for India’s rupee, China’s yuan, the Philippine peso, and Russia’s ruble have mostly firmed against the British pound since 2008.

Yet prospects of a “triple dip” recession have only spurred political pressure on the Bank of England to pursue more quantitative easing which may add more fuel to more speculative frenzies.

Of course aside from sheer speculation, political money (e.g. slush funds) looking for overseas shelter could also play part in exacerbating speculative activities.

Ghost communities can be seen also in the US.

From the same CNBC article:

London is not the only city where the world's richest people leave their expensive properties vacant while they stay in their expensive properties someplace else; the same is true in parts of Manhattan. But the difference is that so many of them here are foreign, and that they look to be buying up entire neighborhoods.

"Many areas of central London have become prohibitively expensive for local residents," a recent report by the Smith Institute, a research group in London, said recently.

Worst, central bank fueled property bubbles incite social divisions or political chasms between haves and the have-nots epitomized by the politically correct terminology called “inequality”.

Again all these are symptoms of the global pandemic of bubbles.

Quote of the Day: “Crazy” Anarcho-Capitalism

The lesson: "Crazy" is relative to expectations.  A thousand years ago, everyone was used to despotism.   No one expected a defeated incumbent to voluntarily hand over power.  As a result, refusing to hand over power didn't seem crazy.  Since it didn't seem crazy, incumbents who refused to hand over power after losing an election probably would have managed to retain power.  In modern Sweden, in contrast, everyone is used to democracy.  Everyone expects a defeated incumbent to voluntarily hand over power.  Refusing to hand over power seems crazy.  As a result, refusing to hand over power would end not democracy, but the incumbent's career.

Why bring this up?  Because like the democrat of a thousand years ago, I advocate a radical political change: anarcho-capitalism.  After we've privatized everything else, I think we should privatize the police and courts, and abolish the government...

Since we've never had anarcho-capitalism, this peaceful equilibrium sounds like wishful thinking.  But it's no more wishful thinking than stable democracy.  Both systems sound crazy when first proposed.  Neither can be stable as long as people expect them to be unstable.  But both can be stable once people expect them to be stable.

You could object: The expectations necessary to sustain anarcho-capitalism are highly unlikely to ever arrive.  But the same was true for democracy a thousand years ago.  Yet somehow, expectations radically changed and stable democracy arrived.  How did expectations change so dramatically?  It's complicated.  But can expectations change dramatically?  Absolutely.

This is from author and professor Bryan Caplan at the Library of Economics and Liberty blog (Econolog)

More Signs of Asia’s Credit Bubble: Soaring Wages

I have pointed out that Thailand’s minimum wages surprisingly polevaulted by 89% in 2012. This led me to discover a massive build up in systemic debt, particularly weighted on the short term which makes the Thai’s economy highly sensitive or vulnerable to a spike in interest rates. 

Well soaring wages have not been limited to Thailand but a symptom evident throughout Asia.

From the Bloomberg,

Average pay in Asia almost doubled between 2000 and 2011, compared with a 5 percent increase in developed countries and about 23 percent worldwide, according to the International Labour Organization in Geneva. The gain was led by China, where average remuneration more than tripled during the period. Southeast Asia is catching up, with new minimum pay levels in at least five nations eroding companies’ ability to make cheap toys, clothes and furniture.

“Producers are no longer able to absorb rising wage costs and ultimately will have to jack up prices for consumers in the West,” said Frederic Neumann, co-head of Asian economics research at HSBC Holdings Plc in Hong Kong and a former consultant on Asian economics and politics to the World Bank. “It’s the manufacturing hub of the world, and if prices rise here, then inevitably the global price level will have to rise as well.”

The threat of inflation prompted Pacific Investment Management Co., which runs the world’s biggest bond fund, to plan Asia’s first fund to protect against it. The investment will aim to return at least 2 percentage points more than the average consumer-price gains in Singapore and Hong Kong, Michael Thompson, head of Pimco’s wealth-management group for the region excluding Japan, said in a March 7 interview in Singapore.

Unfortunately this comes amidst falling labor productivity and deteriorating balance of payments.

More on Southeast Asia’s wage gains.

In Jakarta, the capital of Indonesia and home to 10 million people, Governor Joko Widodo last year approved a 44 percent increase in minimum pay for workers, to 2.2 million rupiah ($226) a month. The national government is considering extending the plan across the country, which has the world’s fourth-largest population, after China, India and the U.S.

Thailand raised its national daily minimum wage to 300 baht ($10) in January. Malaysia introduced a base salary last year, benefitting about 3.2 million workers before elections that must be held within three months. A similar tactic helped Taiwanese President Ma Ying-jeou, who won a second term in 2012 after increasing the lower limit on earnings by 5 percent.

Credit booms, which will be compounded by public works or government spending, will mean competition for scarce resources. Such dynamic will be expressed through higher costs of factors of production or input prices for industries experiencing such boom.

As I previously wrote,

we should expect that pressures to build on either relative input prices (wages, rents, and producers prices), particularly on resources used by capital intensive industries experiencing a boom, and or, but not necessarily price inflation.

Such dynamics would exert an upside pressure on interest rates that would eventually put marginal projects, including margin debts on financial assets operating on leverage, on financial strains which lay seeds to the upcoming bust.

The bottom line is that unless Asia’s central banks desist from her current engagement in accommodative policies, which signifies an attempt to align with policies of developed economies (yes central banks collaborate with each other), malinvestments will eventually unravel in the fullness of time. 

Yes, Asia’ bubble cycle is in progress.