Self-Discipline and Understanding Market Drivers as Key to Risk Management

Here is an investment tip for those who wish to protect themselves from market volatilities [dedicated to my friends at Stock Market Pilipinas]

As I have been writing, inflationary bullmarkets tend to inflate almost every issue on the stock exchange (rotational process).

This does not apply only to stocks but also to other assets.

In the US, small caps have been beating large caps… (US Global Investors)

…while junk bonds have been thrashing investment grade bonds as US companies with junk ratings pile into the bond markets at record pace to take advantage of ultra low interest rates (Wall Street Journal)

These are evidences of yield chasing phenomenon as an offshoot to central bank policies.

Because the world has been flushed with money, this only implies of highly volatile markets which are characterized by huge swings or strong surges and equally sharp retracements.

Again inflationary markets will tend to push up almost every issue but in different degrees and at different times. This impacts the stock markets in a similar manner. Eventually we will see this happen in consumer prices.

The same phenomenon impacts the second or third tier issues in the local markets, as money spillovers into the broader market.

Second while there will always be unscrupulous people (or stock market manipulators or operators), pump and dump and short and distort are activities that are difficult to establish.

Take for example of the 6 major holding issues constituting the Holding firm index of the Philippine Stock Exchange, 4 have been drifting in near or at record levels.

DM Consunji [PSE: DMC, RED], JG Summit [PSE: JGS, black], and Aboitiz Equity Ventures [PSE: AEV, black] (I did not include Ayala Corp [PSE: AC] because AC has yet to beat, but is about to, the 2007 high)

Are the record levels of stock prices of heavy caps JGS, AEV and DMC (and partly AC) justifying their valuations? So does this make JGS, AEV and DMC a pump and dump?

Some would say no because they are heavyweights (highly liquid issues with real cash flows). But this is would be a non-sequitor or irrelevant to the issue.

The following are the income statement statistics and estimates from 4-traders.com

JGS Summit

Aboitiz Equity Ventures

DMCI

The crux of the matter is: does the earnings trend justify the current price volatility?

In my view no, earnings in the contemporary sense DO NOT justify such volatility as shown above. There seems hardly any correlation between corporate performance and stock prices

And again this brings to fore the largely mistaken orthodox belief about earnings.

Today it has hardly earnings that drive prices but high powered money from central banks. By such thesis, one would understand the nature of inflationary booms and deflationary busts (Was there any pump and dump during the bear market in 2007-2008?)

Nevertheless here are very important tips for stock market participants to keep in mind which I will convey through the wisdom of my favorite stock market savants

Warren Buffett: Risk comes from not knowing what you are doing.

Warren Buffett: The dumbest reason in the world to buy a stock is because it's going up

My comment: Both of the above quotes from Mr. Buffett are intertwined.

Apparently many participants, both neophytes and veterans, are drawn to the fervent desire to earn fast buck while at the same time disregarding the risks involved that makes them easily fall prey to market volatilities and to manipulators.

Jesse Livermore (my all time favorite): “the average man doesn't wish to be told that it is a bull or bear market. What he desires is to be told specifically which particular stock to buy or sell. He wants to get something for nothing. He does not wish to work. He doesn't even wish to have to think. It is too much bother to have to count the money that he picks up from the ground.”

My comment:

Many people don't really want to think.

Example: getting information from newspapers and extrapolating them into investment isn't thinking at all. 50k-100k people read business section of the newspapers everyday. This means by the time one reads the newspaper, others may have already read them and may have already acted on the new information provided.

Yet in reality, these newspaper based information are likely to affect markets over the short run and are splashed with logical errors and fallacies.

That’s why I call the allure of mainstream media’s information as largely toxic.

So instead of working to get ahead of the curve, one acts at the tailend. As a famous Wall Street axiom goes,

Bulls make money, bear make money but pigs get slaughtered.

The desire to improve one’s grasp of the markets requires further scrutiny and goes beyond the conventional analytical methodology.

Moreover, many want to use the stock market to talk themselves or bloat their egos.

Aside from the economic role, stock markets or financial markets have social aspects, which is evident by the bandwagon effects.

More quotes of wisdom

Jesse Livermore: 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.”

Jesse Livermore: In actual practice a man has to guard against many things, and most of all against himself—that is, against human nature.

The basic lesson from the above is that in order to protect one self, one needs to practice self-discipline which means controlling emotions or egos (Emotional Intelligence), as well as, to understand the underlying conditions of the marketplace.

As I previously noted, relying on tips and rumors can be a disastrous proposition.

Manipulators are hardly responsible for losses incurred by market participants. In reality, it is the self who is mostly culpable. Worst, it is policies of political authorities that influences people’s incentives to become short term oriented and to undertake reckless activities and makes them vulnerable to bubbles and to manipulation.

Placebo Effects of Earnings Drives Stock Prices

Here is an excerpt to my note to a special client

Corporate "Fundamentals" serve as placebo to most of the momentum chasers. People look for psychological refuge mostly on what is popular rather than what really works.

A sample of my previous argument in this link.

It is very important to understand that since half of every transactions made by everyone in the marketplace have been based on money or credit—money financed by a financial intermediary that will be paid for with future money or income of the debtor—then policies that tampers with money and interest rates (price of time) affects practically ALL economic and financial activities.

But the impact will not be the same for everyone. Inflationist policies eventually work through a spillover or a trickle down effect.

The first beneficiaries are the wards of the state, the state itself, and the industries or sectors connected to or targeted by the state.

Those affiliated to the first beneficiaries represents as the secondary layer of the inflation multiplier and so on. This is the Cantillon Effect on Money as earlier discussed here

This also extrapolates that people’s incentives, through value scales and time preferences channels, will change in response to these policies. Again the changes will differ from individual to individual.

For instance, today’s negative real rates regime have been prompting many banks to call on me (weekly) to offer credit, which is evidently an offshoot to the current policies which encourages banks to profit from the yield curve through maturity transformation (loans or spread arbitrages) activities.

Those who don’t understand the nature of business cycles may be tempted to add leverage which may induce them to engage in extravagant spending.

If many respond to such policies by taking up loads of debt, then the growth in credit may become systemic in that it reaches levels that may not be adequately financed by aggregate debtor’s income, (perhaps to be pricked by higher interest rates) then the balance sheets of creditor institutions have reached bubble conditions that is bound to burst.

Yet in order to delay the day of reckoning requires sustained credit growth which will likely be facilitated through central banking policies. And this is why central banks exists--to provide backstop to the banking system and to provide finance to the state.

In effect, a financial system that thrives on bubble policies will require sustained credit injections. So many of the company’s business models may transition towards a Hyman Minsky’s Ponzi finance paradigm that only worsens or exacerbate the unsustainable bubble conditions. Remember major US investment banks vanished in 2008.

And there is the social signaling effect. Policies that promote consumption fosters the Keeping up with the Jones’ mentality that tries to lift one’s relative social standings through accumulation of positional material goods. These behavioral changes are partly conditioned, but mainly fueled by monetary policies, promotes what is known as 'consumerism'.

Thus, the subsequent effect of inflationist policies has been to reconfigure social and economic activities through people's incentives.

Consumption, savings and investment patterns, or the effective allocations of resources, has substantially been altered as compared to the non-existence of such policies. The policy induced distortion of the economic coordination process eventually leads to malinvestments and to an eventual discoordination.

Therefore sales, earnings, operating costs, investments, or leverage (gearing) or what in finance nomenclature known as ‘corporate fundamentals’ will be substantially affected, but again on varying degrees.

Of course every markets have individual characteristics too. They are shaped by idiosyncratic culture, unique legal framework, distinct political institutions, individual tax and regulatory regimes, varying depth of the market economy and many many many other variables.

This also means that the earnings principle is NOT a one-size-fits all dynamic. The earnings of the corporations in the US can’t be seen in the same lens as the from earnings of the companies listed on the Philippine Stock Exchange, where many of the latter’s companies have been shielded from competitions or are de facto political concessions. It is important to note that the business environment in the Philippines has been vastly more unfriendly and significantly less competitive than the US, principally due to politically related factors.

The bottom line is that the mainstream’s mathematical or financial construct of earnings DOES NOT accurately describe how policies shape or affect them. That said, earnings hardly will function as a reliable metric for the ascertainment of stock values.

So like the Heisenberg uncertainty principle, the entrenched orthodox belief in earnings is like trying to pin down an elusive target that never really is, or signifies as vain attempts to get hold of the Holy Grail--especially when markets have been vastly distorted or artificially boosted by rampant interventionism and inflationism. This is based more on faith or groupthink than of functionality.

Effects must not be read as the cause.

Signs of China’s Snowballing Political Crisis: Six Arrested over Coup Rumors

China’s political sphere seems to be feeling the heat from the unraveling of the Keynesian policies

From the Telegraph, (hat tip Bob Wenzel)

The arrests are a sign of the ruling communist party's (CCP) extreme nervousness in the wake of an extraordinary few weeks in which an unusually public power struggle amongst the party elite has seen the one-time politburo contender Bo Xilai deposed.

Rumours that a coup was imminent began spreading after Mr Bo was removed from his position as CCP chief of the southwestern city of Chongqing two weeks ago. Posts on microblogs claimed that armoured personnel carriers and tanks had been seen on the streets of Beijing.

China's state news agency Xinhua reported late on Friday that six people are under arrest for "fabricating or disseminating online rumours".

Sixteen websites have been closed for posting reports of "military vehicles entering Beijing and something wrong going on in Beijing". An unknown number of people were "admonished and educated" for their part in spreading the rumours, according to police in Beijing.

"The rumours have "caused a very bad effect on the public," said a spokesman for the State internet Information Office, while the websites were shut down for not acting to stop their spread. Two of China's most popular microblogging sites, weibo.com and qq.com, were also "criticised and punished accordingly" for their failure to prevent the rumours circulating said the spokesman.

As I previously wrote,

China’s copycat of western Keynesian policies have led to massive internal bubbles, blatant misreporting of issued loans and financial innovative arbitrages by the political class, particularly the local governments, whom has circumvented party regulations by setting up 6,000 finance companies to raise funds for public works.

The negative effects of such top down policies have not only bred corruption, it has sown political conflicts which run the risks of escalation and transition to violent political uprisings.

The bottom line is that China’s behind the scene political struggles have been seeping out into the public and will be manifested through price signals in the marketplace, despite repeated attempts by political authorities to expurgate such developments.

China’s Credit Default Swap reportedly rose to new four month highs.

China’s Shanghai index fell 3.69% over the week and seems on path to neutralize this year's gains. Year-to-date, and based on Friday's close, China's gains have been reduced to 2.88%.

Longer term, the Shanghai index seem as approaching a critical threshold.

The almost 5 year symmetrical triangle formation seems on path towards a culmination.

Of course, the SSEC can breakdown or have an upside breakout or extended consolidation. Interpreting the charts mainly depends on the bias of the observer.

However, given the current conditions, the balance of risks seems tilted towards the downside. And this may likely be driven by the economic developments filtering into the political sphere.

It is unclear whether China’s authorities will be able to put a rein on this, and kick the proverbial can down the road, or if political tensions will deteriorate further.

Yet despite attempts to apply strong arm tactics through censorship, price signals will be the most dependable source of information. And any attempts to manipulate the markets may have short term effects.

While the Chinese yuan remains strong, any further deterioration in the political spectrum is likely to reverse the gains and may trigger hot money stampede out of China. And this may ripple through the commodity sphere and to global stock markets.

Again, China could just be the blackswan that could upend today’s central bank powered rallies.

China’s increasing censorship of social media or an attack on free speech also represents an assault to the forces of decentralization which has been operating on the internet platform. The jury is still out as to which of the two forces will eventually prevail. Over the interim expect heightened volatility on the marketplace.

Stay tuned.

Quote of the Day: Keynes the Crony

Writes Bob Wenzel,

He was 83% long going into the downturn that resulted in the 1929 crash. So how could Keynes be a great investor with such a bad performance? Because Keynes, the evil bastard, along with Bernard Baruch, talked FDR into confiscating the gold owned by all Americans. He then loaded up his portfolio with gold mining stocks and then urged FDR to prop up the price of gold.

So John Maynard Keynes practiced the interventionist theories he preached because he personally profited from them—he was a rent seeking crony after all!

Graphic: The Insanity of Patent Wars

From Bloomberg/Businessweek.com (hat tip Scott Lincicome)

Apple v. Samsung may be the most prominent, but battles over smartphone and tablet IP are raging around the globe. A glimpse of some of the key cases to go before the International Trade Commission.

Resources and efforts meant for innovation and production has now been diverted and expended towards litigation and intense political lobbying.

Earth Hour Myth: Life in Medieval Europe

For earth hour enthusiasts, take into account the lifestyles of the 14th & 15th centuries in Europe [quoted from Will Durant’s 1957 volume The Reformation by Professor Don Boudreaux]

Social and individual hygiene hardly kept pace with the advances of medicine. Personal cleanliness was not a fetish; even the King of England bathed only once a week, and sometimes skipped…. In all Europe – not always excepting the aristocracy – the same article of clothing was worn for months, or years, or generations. Many cities had a water supply, but it reached only a few homes; most families had to fetch water from the nearest fountain, well, or spring. The air of London was befouled by the odor of slaughtered cattle, till such carnage was forbidden in 1371. The smell of latrines detracted from the idyllic fantasies of rural life. London tenements had but one latrine for all occupants; many houses had none at all, and emptied their ordure into the yards or streets. Thousands of privies poured into the Thames; a city ordinance of 1357 denounced this, but the practice continued.

No electricity, no fossil fuels, no automobile (as well as no consumer gadgets iPad, mobile phones, computers etc...), no industries and basically little infrastructure and economic progress-- but looks very earth friendly, no? Or is it?

Yet is this the life that we desire?

Or is the environmental politics of earth hour all about the promotion of social control by would be tyrants and the advancement of the economic and financial interests of a few?

Use Cash for Freedom

I had a gruesome first hand experience on how governments disdains the use of cash.

Sadly this has not been an isolated experience, but a deepening troublesome political trend around the world, particularly in developed economies.

Governments would like to confiscate more of the public’s resources to finance their lavish ways. So the compulsion to transact through their institutional accomplices, the politically endowed banking system.

Through stricter unilateral regulations or immoral laws, governments through the banking system place the public’s hard earned savings under intense scrutiny, and criminalize the actions of the innocent, whom have been uninformed by the rapid pace of changes in manifold regulations covering a wide swath of social activities through the banking system.

Private transactions which does not conform with the goals and the interests of the political authorities risks confiscation. Worst is the trauma of being labeled a criminal. Increasingly desperate governments have wantonly been in violation of the property rights of their citizenry.

A vote against government is to use cash transactions, that’s because cash, according to Charles Goyette at the LewRockwell.com, represents freedom

Mr. Goyette writes, (bold emphasis mine)

Governments hate that cash gives you anonymity. And they are often very anxious to track it and to control your use of it. They often attempt to criminalize the use of cash or at least criminalize having too much of it around.

Right now, 7% of the U.S. economy is cash-based. Across the Eurozone, it's a little bit higher, 9%, but in Sweden cash transactions are falling by the wayside. You can't use cash for buses there. A growing number of businesses are going entirely cashless. In fact, only 3% of all purchases in Sweden are transacted in cash. And some people think that 3% is too much.

Now, there are things you give up when you go cashless, and privacy is only one of them. Because you also give up a piece of every transaction to the facilitating financial institution, a state-approved financial institution that is going to take a cut one way or another of every purchase that it processes. And that cut will be paid by you.

In the United States, the government has implemented increasingly punitive and burdensome measures for those who use cash. Banks, for example, are required to file reports on the use of cash in certain circumstances, including suspicious persons reports for some cash activities. In fact, if you seem to be trying to transact in cash below the reporting threshold, that alone can trigger a suspicious persons report on you. Like a lot of the states' heavy-handed measures, this was all targeted at getting those drug dealers.

As earlier pointed out, governments has used all sorts of "noble" excuses like money laundering, tax evasion, the war on drugs and etc… to justify their confiscatory actions which in reality represents no more than financial repression.

And as governments tighten the noose on the public, people will intuitively look for ingenious alternatives to outflank such oppressive policies.

In the US, the liquid detergent Tide appears to have emerged even as an alternative to cash.

Writes Professor Joseph Salerno at the Mises Institute.

As has been widely reported recently, an unlikely crime wave has rapidly spread throughout the United States and has taken local law-enforcement officials by surprise. The theft of Tide liquid laundry detergent is pandemic throughout cities in the United States. One individual alone stole $25,000 worth of Tide detergent during a 15-month crime spree, and large retailers are taking special security measures to protect their inventories of Tide. For example, CVS is locking down Tide alongside commonly stolen items like flu medications. Liquid Tide retails for $10–$20 per bottle and sells on the black market for $5–$10. Individual bottles of Tide bear no serial numbers, making them impossible to track. So some enterprising thieves operate as arbitrageurs buying at the black-market price and reselling to the stores, presumably at the wholesale price. Even more puzzling is the fact that no other brand of detergent has been targeted.

What gives here? This is just another confirmation of Menger's insight that the market responds to the absence of sound money by monetizing highly salable commodities. It is clear that Tide has emerged as a subsidiary local currency for black-market, especially drug, transactions — but for legal transactions in low-income areas as well. Indeed police report that Tide is being exchanged for heroin and methamphetamine and that drug dealers possess inventories of the commodity that they are also willing to sell.

As governments stifle people’s social and commercial activities through tyrannical laws, expect the use of more cash, local currencies or commodities (such as Tide) as alternative medium of exchanges, as the informal or shadow economies grow.

Most importantly, real assets will become more valuable and may become an integral part of money, as sustained policies of inflationism, as Voltaire once said, will bring fiat money back to its intrinsic value—zero.

Money which emerges from the markets will be emblematic of freedom.

Quote of the Day: Terrorism Cannot Take Away Our Freedoms

The goal of terrorism is not to crash planes, or even to kill people; the goal of terrorism is to cause terror. Liquid bombs, PETN, planes as missiles: these are all tactics designed to cause terror by killing innocents. But terrorists can only do so much. They cannot take away our freedoms. They cannot reduce our liberties. They cannot, by themselves, cause that much terror. It's our reaction to terrorism that determines whether or not their actions are ultimately successful. That we allow governments to do these things to us—to effectively do the terrorists' job for them—is the greatest harm of all.

That's from Mr. Bruce Schneier, a security expert, in a debate on Airport Security at the Economist (hat tip Cato's Julian Sanchez)

Argentina’s Road to Serfdom: Book Import Bans

From Cato’s Juan Carlos Hidalgo,

The Argentine government has severely restricted the importation of books due to “human health concerns” [in Spanish]. That’s right. According to the government, it can be dangerous to “page through” a book that has high lead quantities in its ink. “If you put you finger in your mouth after paging through a book, that can be dangerous,” said Juan Carlos Sacco, the vice-president of an industrialist organization that supports the measure.

The government claims that this is not a ban. However, since each buyer has to demonstrate at the airport’s customs office that the ink in the purchased book has lead quantities no higher than 0.006% in its chemical composition, the result is that all book imports into the country are stalled.

The measure has a lot to do with the increasing efforts of the Argentine government to stop the flight of dollars out of the country. Capital flight in 2011 reached $21.5 billion, and it accelerated after the reelection of Cristina Fernandez de Kirchner in October. Facing increasing fiscal pressures, and after seizing private pension funds and raiding the Central Bank’s reserves, many people expect the government to go after their bank savings.

The government has reacted with increasingly ridiculous measures. Sniffing dogs are being deployed at airports and border check points to detect the ink used to print U.S. bills, so Argentines cannot take out of the country more than $10,000 without declaring it to the government. The Fernandez administration is also requiring major importers such as automakers to match the price of their imports with that of goods they must now export. As a result, Porsche is exporting Malbec wine and Mitsubishi is now selling peanuts.

Desperate governments will resort to any measures to advance their interests. And to stem capital flight from the private sector in reaction to their spendthrift ways, the Kirchner government now attempts to curtail freedom of speech through policies that promotes ignorance and illiteracy. Talk about ‘noble intentions’.

And of course, part of these mind control measures, imposed through propaganda and censorship, has been for the President of Argentina’s central bank to declare that printing money does not lead to inflation, as well as, to ban the private sector from making public estimates of statistical inflation which went against the government’s data.

As Benjamin Franklin once said,

A nation of well-informed men who have been taught to know and prize the rights which God has given them cannot be enslaved. It is in the religion of ignorance that tyranny begins.

Any government cannot simply wish away the laws of scarcity, which in fullness of time will be vented over the marketplace and eventually would incite a tempestuous political response.

Argentinians have yet to slough off their tolerance for despots which has brought about a cycle of political and economic crisis since the 20th century (as previously discussed here)

Quote of the Day: Politics as National Sport

Politics is not cooperative like the market; it is exploitative. The system is set up to threaten the identity and choices of others. Everyone must fight to survive and conquer. They must kill their opponents or be killed. So coalitions form, and constantly shifting alliances take shape. This is the world that the state -- through its election machinery -- throws us all into. It is our national sport. We cheer our guy and hope for the political death of the other guy

That’s from Jeffery Tucker at the Laissez Faire Books.

This so applies to the current deliberation of the impeachment case in the Philippines which is seen as a ‘national sport’- "we cheer our guy and hope for the political death of the other guy" as the much touted solution to "corruption" which is, of course, a politically concocted fantasy.

Little has there been the realization that this political circus serves no more than a distraction to the real purpose of the expansion of the regime’s political power.

The Illusions of Technocracy

Professors Daron Acemoglu and Simon Johnson writes,

In 1979 Paul A. Volcker became chairman of the Fed and tamed inflation by raising interest rates and inducing a sharp recession. The more general lesson was simple: Move monetary policy further from the hands of politicians by delegating it to credible technocrats.

I hope the world operates in such simplicity. We just hire the right persons of virtue and intellect and our problems would vanish.

But that’s not the world we live in.

First of all, too much credit has been given to the actions of ex-US Federal Reserve chief Paul Volcker, who may just be at the right place at the right time.

Here is Dr. Marc Faber on Paul Volcker, (bold emphasis mine)

In the 1970s, the rate of inflation accelerated, partly because of easy monetary policies, which led to negative real interest rates, partly because of genuine shortages in a number of commodity markets, and partly because OPEC successfully managed to squeeze up oil prices. But by the late 1970s, the rise in commodity prices led to additional supplies and several commodities began to decline in price even before the then Fed chairman Paul Volcker tightened monetary conditions.

Similarly, soaring energy prices in the late 1970s led to an investment boom in the oil- and gas-producing industry, which increased oil production while at the same time the world learned how to use energy more efficiently. As a result, oil shortages gave way to an oil glut, which sent oil prices tumbling after 1985.

At the same time, the US consumption boom that had been engineered by Ronald Reagan in the early 1980s (driven by exploding budget deficits) began to attract a growing volume of cheap Asian imports, first from Japan, Taiwan, and South Korea, and then, in the late 1980s, also from China.

I would therefore argue that even if Paul Volcker hadn't pursued an active monetary policy that was designed to curb inflation by pushing up interest rates dramatically in 1980/81, the rate of inflation around the world would have slowed down very considerably in the course of the 1980s, as commodity markets became glutted and highly competitive imports from Asia and Mexico began to put pressure on consumer product prices in the USA.

Then, markets had already been signaling the unsustainability of Fed induced inflation which had been underpinned by real market events as oversupply and globalization. Thus, Paul Volcker’s actions may have just reinforced an ongoing development.

In short, lady luck may have played a big role in Mr. Volcker’s alleged feat.

Next, looking at the world in a static frame misleads.

Conditions today are vastly dissimilar from the conditions then, as I recently wrote,

Circumstances during Mr. Volker’s time have immensely been different than today. There has been a vast deepening of financialization of the US economy where the share of US Financial industry to the GDP has soared. In short, the financial industry is more economically (thus politically) important today than in the Volcker days. Seen in a different prism, the central bank-banking cartel during the Volcker era has not been as embedded as today.

Yet how did this came about?

According to Federal Reserve of Dallas Harvey Rosenblum

Banks have grown larger in recent years because of artificial advantages, particularly the widespread belief that government will rescue the creditors of the biggest financial institutions. Human weakness will cause occasional market disruptions. Big banks backed by government turn these manageable episodes into catastrophes

Put differently, public policies or regulations spawn a feedback mechanism between regulators and the regulated through human interactions.

Laws and regulations don’t just alter the incentives of the market participants, they foster changes in the relationship between political authorities and the regulated industry.

More laws tend to increase or deepen the personal connections and communications between authorities and the regulated. This magnifies opportunities to leverage personal relationships where market participants seek concessions or compromises from their regulatory overseers, which leads to political favors, corruption, influence in shaping policies and the ‘captured’ regulators. And such relationships bring about the insider-outsider politics as evidenced by revolving door syndrome.

As human beings we live in a social world. The idea where “virtue” and knowledge are enough to shield political authorities from the influences of the regulated and or the political masters of public officials and or from personal ties, represents a world of ivory towers, and simply is fiction.

The true reason behind the illusions of technocracy as stated by Murray N. Rothbard, (bold emphasis added)

There are two essential roles for these assorted and proliferating technocrats and intellectuals: to weave apologies for the statist regime, and to help staff the interventionist bureaucracy and to plan the system.

The keys to any social or political movement are money, numbers, and ideas. The opinion-moulding classes, the technocrats and intellectuals supply the ideas, the propaganda, and the personnel to staff the new statist dispensation. The critical funding is supplied by figures in the power elite: various members of the wealthy or big business (usually corporate) classes. The very name "Rockefeller Republican" reflects this basic reality.

While big-business leaders and firms can be highly productive servants of consumers in a free-market economy, they are also, all too often, seekers after subsidies, contracts, privileges, or cartels furnished by big government. Often, too, business lobbyists and leaders are the sparkplugs for the statist, interventionist system.

What big businessmen get out of this unholy coalition on behalf of the super-state are subsidies and privileges from big government. What do intellectuals and opinion-moulders get out of it? An increasing number of cushy jobs in the bureaucracy, or in the government-subsidized sector, staffing the welfare-regulatory state, and apologizing for its policies, as well as propagandizing for them among the public. To put it bluntly, intellectuals, theorists, pundits, media elites, etc. get to live a life which they could not attain on the free market, but which they can gain at taxpayer expense--along with the social prestige that goes with the munificent grants and salaries.

This is not to deny that the intellectuals, therapists, media folk, et al., may be "sincere" ideologues and believers in the glorious coming age of egalitarian collectivism. Many of them are driven by the ancient Christian heresy, updated to secularist and New Age versions, of themselves as a cadre of Saints imposing upon the country and the world a communistic Kingdom of God on Earth.

Bottom line: Technocrats are no different than everyone else. They are human beings. They may have specialized knowledge covering certain areas of life, but they don’t have general expertise over the complex world of interacting human beings and of nature.

Technocrats have not been bestowed with omniscience enough to know and dictate on how we should live our lives. Instead, technocrats use their special ‘knowledge’ to advance their personal interests, by short circuiting market forces through politics, and who become tools for politicians or vested interest groups.

And that's why they are technocrats, they are afraid to put their knowledge to real tests by taking risks at the marketplace and rather hide behind the skirt of politics.

Thus, the idea of political efficacies from the philosopher king paradigm through modern day technocratic governance is a myth.

US Treasury to Debase Coins

So policies of inflationism will not be restricted to the US Federal Reserve. The US Treasury as producer and minter of coins, proposes to join the FED by resorting to an age old trick of clipping or shaving the contents of the coin—or debasement—in the pretext of budgetary savings.

Here is the Wall Street Journal Blog (bold emphasis mine)

Geithner, in written testimony prepared for the House Committee on Appropriations, said a good portion of next year’s savings at Treasury will come from changing the composition of U.S. coins to more cost-effective materials.

“Currently, the costs of making the penny and the nickel are more than twice the face value of each of those coins,” Geithner said in his remarks.

The cost of making pennies and nickels are about twice the face value of the coins–2.4 cents for a penny and 11.2 cents for a nickel, the Treasury Department said earlier this month. Rising commodity prices have driven higher production costs. The Mint said it used 16,365 tons of copper, 2,311 tons of nickel and 11,844 tons of zinc to produce all coins in fiscal year 2011.

Changing the makeup of coins and improving the efficiency of currency production will save more than $75 million in the next fiscal year. In addition, the suspension of presidential dollar coin production, announced in December, will save another $50 million.

In reality, debasement is currency devaluation or inflationism, albeit in an archaic sense.

The great Professor Ludwig von Mises wrote (highlights mine)

Mintage has long been a prerogative of the rulers of the country. However, this government activity had originally no objective other than the stamping and certifying of weights and measures. The authority's stamp placed upon a piece of metal was supposed to certify its weight and fineness. When later princes resorted to substituting baser and cheaper metals for a part of the precious metals while retaining the customary face and name of the coins, they did it furtively and in full awareness of the fact that they were engaged in a fraudulent attempt to cheat the public. As soon as people found out these artifices, the debased coins were dealt with at a discount as against the old better ones. The governments reacted by resorting to compulsion and coercion. They made it illegal to discriminate in trade and in the settlement of deferred payments between "good" money and "bad" money and decreed maximum prices in terms of "bad" money. However, the result obtained was not that which the governments aimed at. Their decrees failed to stop the process which adjusted commodity prices (in terms of the debased currency) to the actual state of the money relation. Moreover, the effects appeared which Gresham's law describes.

Here is a visual of coins and currency in circulation in the US…

you can see the original graphics here, although the chart has been based on 2009 data.

My further comments:

Compared to the past where debasement of coins had been conducted surreptitiously by kings, the US Treasury like the Federal Reserve, has been, and will be doing this unreservedly.

As one would observe, whether the US Federal Reserve or the US Treasury, inflationism has been inherent to the actions of political agents

The public will hoard current coins which will spontaneously vanish from circulation as new debased coins will circulate. This is the Gresham’s Law at work.

As testament, hedge fund manager Kyle Bass has reportedly accumulated $1 million dollars worth of 20 million (5 cent coins) nickels.

More people will be looking for old coins as alternative path to preserve wealth. This comes amidst political actions to redistribute wealth for the benefit of politicians and at the expense of the public via rampant inflationism.

Japan’s Inflationism Begins to Backfire

Changes to people’s behavior in response to devaluation policies adapted by the Bank of Japan (BOJ) have begun to manifest in the asset ownership mix by Japanese households.

Here is what I earlier pointed out,

The foremost reason why many Japanese may invest in the Philippines under the cover of “the least problematic” technically represents euphemism for capital fleeing Japan because of devaluation policies—capital flight!

As the great Ludwig von Mises wrote,

The holders of ready cash try as far as possible to avoid the dangers of devaluation which today threaten in every country. They keep large bank balances in those countries in which there is the least probability of devaluation in the immediate future. If conditions change and they fear for these funds, they transfer such balances to other countries which for the moment seem to offer greater security. These balances which are always ready to flee-so-called “hot money”—have fundamentally influenced the data and the workings of the international money market. They present a serious problem in the operation of the modern banking system.

The incipient developing signs of capital flight as noted by Zero Hedge (bold emphasis mine)

Bloomberg reports that "Finance Minister Jun Azumi’s efforts to get Japan’s households to increase investment in the nation’s debt are failing as holdings of government bonds fall to a seven-year low." Combing through the Japanese quarterly flow of funds report shows something very disturbing - the last bastion of JGB ownership, Japan's households, have started to shift out of bonds, which are now yielding 0.27% for the retail 5 Year bond, and about 1.00% for the 10 year, and are now putting their money straight into mattresses. "Japanese households owned 3.09 percent of domestic bonds in the final quarter of 2011, a decrease from 3.2 percent in the third quarter and the lowest since 2005, Bank of Japan data released March 23 show." And the worst news for any domestically funded ponzi regime: "Mrs. Watanabe” as many are housewives, have instead increased foreign-currency deposits and cash, according to the BOJ data. "It’s a case of retail JGBs not having enough yield,” said Naomi Fink, head of Japan strategy at Jefferies Japan Ltd."Households are accumulating cash and using financial investments to diversify into higher yields and JGBs don’t really provide this." ..."Individual investors are holding cash rather than bonds and other financial assets because they are wary of making risky investments, said Hiroaki Muto, a senior economist at Sumitomo Mitsui Asset Management Co. in Tokyo." Needless to say, when even Japanese households have given up, it's game over... for bubbles in both bonds and in "conventional wisdom."

As the average Japanese flee domestic bonds and the yen, interest rates would significantly rise that would rock the proverbial boat of the balance sheets of their banking and financial system, whom accounts for as the largest financiers of the Japanese government through the JGB (Distribution of JGB owners as of 2009 shown in the below graph from Japan Bankers Association).

This would compel the BoJ to inflate even more in a futile attempt to suppress interest rates. The result would be a feedback loop—rising interest rates would be met with more inflationism which would fuel further rise in interest rates. Also Japanese authorities may resort to other means of financial repression, such as currency controls, mandates to own more bonds, and etc...

Thus, we can expect that the average Japanese to seek refuge either through precious metals or through foreign currency or both.

These are emergent signs of the unintended consequences of BoJ’s reckless policies that will lead to the self implosion of the yen, if, in the condition, that such inflationist policies should would be sternly pursued with. This would also presage the worsening of Japan's economic conditions.

Central bankers, mostly of developed economies, seem to think that they can wish away the law of scarcity through the printing (or should I say the digital) press.

Obviously reality has been catching up with them, as warned by Professor von Mises.

As a universal rule, inflation is a policy that cannot last.

Sustained Inflationism will End of the US Dollar Standard

The Economic Collapse Blog enumerates 10 reasons why they think the reign of the US Dollar is coming to an end.

The following are 10 reasons why the reign of the dollar as the world reserve currency is about to come to an end....

#1 China And Japan Are Dumping the U.S. Dollar In Bilateral Trade

A few months ago, the second largest economy on earth (China) and the third largest economy on earth (Japan) struck a deal which will promote the use of their own currencies (rather than the U.S. dollar) when trading with each other. This was an incredibly important agreement that was virtually totally ignored by the U.S. media. The following is from a BBC report about that agreement....

China and Japan have unveiled plans to promote direct exchange of their currencies in a bid to cut costs for companies and boost bilateral trade.

The deal will allow firms to convert the Chinese and Japanese currencies directly into each other.

Currently businesses in both countries need to buy US dollars before converting them into the desired currency, adding extra costs.

#2 The BRICS (Brazil, Russia, India, China, South Africa) Plan To Start Using Their Own Currencies When Trading With Each Other

The BRICS continue to flex their muscles. A new agreement will promote the use of their own national currencies when trading with each other rather than the U.S. dollar. The following is from a news source in India....

The five major emerging economies of BRICS -- Brazil, Russia, India, China and South Africa -- are set to inject greater economic momentum into their grouping by signing two pacts for promoting intra-BRICS trade at the fourth summit of their leaders here Thursday.

The two agreements that will enable credit facility in local currency for businesses of BRICS countries will be signed in the presence of the leaders of the five countries, Sudhir Vyas, secretary (economic relations) in the external affairs ministry, told reporters here.

The pacts are expected to scale up intra-BRICS trade which has been growing at the rate of 28 percent over the last few years, but at $230 billion, remains much below the potential of the five economic powerhouses.

#3 The Russia/China Currency Agreement

Russia and China have been using their own national currencies when trading with each other for more than a year now. Leaders from both Russia and China have been strongly advocating for a new global reserve currency for several years, and both nations seem determined to break the power that the U.S. dollar has over international trade.

#4 The Growing Use Of Chinese Currency In Africa

Who do you think is Africa's biggest trading partner?

It isn't the United States.

In 2009, China became Africa's biggest trading partner, and China is now aggressively seeking to expand the use of Chinese currency on that continent.

A report from Africa’s largest bank, Standard Bank, recently stated the following....

“We expect at least $100 billion (about R768 billion) in Sino-African trade – more than the total bilateral trade between China and Africa in 2010 – to be settled in the renminbi by 2015.”

China seems absolutely determined to change the way that international trade is done. At this point, approximately 70,000 Chinese companies are using Chinese currency in cross-border transactions.

#5 The China/United Arab Emirates Deal

China and the United Arab Emirates have agreed to ditch the U.S. dollar and use their own currencies in oil transactions with each other.

The UAE is a fairly small player, but this is definitely a threat to the petrodollar system. What will happen to the petrodollar if other oil producing countries in the Middle East follow suit?

#6 Iran

Iran has been one of the most aggressive nations when it comes to moving away from the U.S. dollar in international trade. For example, it has been reported that India will begin to use gold to buy oil from Iran.

Tensions between the U.S. and Iran are not likely to go away any time soon, and Iran is likely to continue to do what it can to inflict pain on the United States in the financial world.

#7 The China/Saudi Arabia Relationship

Who imports the most oil from Saudi Arabia?

It is not the United States.

Rather, it is China.

As I wrote about the other day, China imported 1.39 million barrels of oil per day from Saudi Arabia in February, which was a 39 percent increase from one year earlier.

Saudi Arabia and China have teamed up to construct a massive new oil refinery in Saudi Arabia, and leaders from both nations have been working to aggressively expand trade between the two nations.

So how long is Saudi Arabia going to stick with the petrodollar if China is their most important customer?

That is a very important question.

#8 The United Nations Has Been Pushing For A New World Reserve Currency

The United Nations has been issuing reports that openly call for an alternative to the U.S. dollar as the reserve currency of the world.

In particular, one UN report envisions "a new global reserve system" in which the U.S. no longer has dominance....

"A new global reserve system could be created, one that no longer relies on the United States dollar as the single major reserve currency."

#9 The IMF Has Been Pushing For A New World Reserve Currency

The International Monetary Fund has also published a series of reports calling for the U.S. dollar to be replaced as the reserve currency of the world.

In particular, one IMF paper entitled "Reserve Accumulation and International Monetary Stability" that was published a while back actually proposed that a future global currency be named the "Bancor" and that a future global central bank could be put in charge of issuing it....

"A global currency, bancor, issued by a global central bank (see Supplement 1, section V) would be designed as a stable store of value that is not tied exclusively to the conditions of any particular economy. As trade and finance continue to grow rapidly and global integration increases, the importance of this broader perspective is expected to continue growing."

#10 Most Of The Rest Of The World Hates The United States

Global sentiment toward the United States has dramatically shifted, and this should not be underestimated.

All the above signifies as secondary causes to what truly will end the US dollar standard: Sustained Inflationism.

We must remember, inflationism is a policy that cannot last and would be put to an end by its adverse ramifications: massive disruptions in the marketplace (possibly hyperinflation) and or rapid deterioration in the political environment. Since inflationism distorts price signals, it affects economic calculation of entrepreneurs and of the average citizenry.

The result would translate to a decline society’s division of labor that negatively affects productivity. This in turn sows social conflicts.

I would add that for #10, this has been the combined result of foreign imperial policies and of inflationism. Wars have essentially been funded by inflationism.

As Professor Ludwig von Mises warned in Defense, Controls, and Inflation (p.109)

We have not to choose between financing the increased government expenditure by collecting taxes and borrowing from the public, on the one hand, and financing it by inflation, on the other hand. Inflation can never be an instrument of a fiscal policy continued over a long period of time. Continued inflation inevitably leads to catastrophe.

The Myth of the Middle Income Trap

The Economist writes,

The forces of economic convergence are powerful, but not all powerful. Poor countries tend to grow faster than rich ones, largely because imitation is easier than invention. But that does not mean that every poor country of five decades ago has caught up, as today’s chart shows. It plots each country’s income per person (adjusted for purchasing power) relative to that of America, both in 1960 and in 2008. The chart appeared in the World Bank's recent China 2030 report. If every country had caught up, they would all be found in the top row. In fact, most countries that were middle income in 1960 remained so in 2008 (see the middle cell of the chart). Only 13 countries escaped this middle-income trap, becoming high-income economies in 2008 (top-middle). One of these success stories, it should not be forgotten, was Greece.

This is an example of how macro statistics can be used to mislead people. Countries essentially don’t fall into “traps”, it is the individual who make or unmake their respective wealth.

What truly restrains people from advancing is when productive resources are diverted into non-productive use. That’s basic, and is a matter of the law of opportunity costs or the law of scarcity.

And what induces non-productive use of resources are insatiable government spending, the welfare state, bloated bureaucracy and trade restrictions, anti-competition laws, bubble policies (or policies which induces consumption), inflationism (QEs) and all sorts of market distorting interventionism. Yes, all of them are interconnected.

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

Each authoritarian interference with business diverts production, of course, from the lines it would take if it were only directed by the demand of the consumers as manifested on the market. The characteristic mark of restrictive interference with production is that the diversion of production is not merely an unavoidable and unintentional secondary effect, but precisely what the authority wants to bring about. Like any other act of intervention, such restrictive measures affect consumption also. But this again, in the case of the restrictive measures we are dealing with in this chapter, is not the primary end the authority aims at. The government wants to interfere with production. The fact that its measure influences the ways of consumption also is, from its point of view, either altogether contrary to its intentions or at least an unwelcome consequence with which it puts up because it is unavoidable and is considered as a minor evil when compared with the consequences of nonintervention.

Restriction of production means that the government either forbids or makes more difficult or more expensive the production, transportation, or distribution of definite articles, or the application of definite modes of production, transportation, or distribution. The authority thus eliminates some of the means available for the satisfaction of human wants. The effect of its interference is that people are prevented from using their knowledge and abilities, their labor and their material means of production in the way in which they would earn the highest returns and satisfy their needs as much as possible. Such interference makes people poorer and less satisfied.

In short, the more intervention, the lesser the capital accumulation or reduced economic growth. When politicians become greedy enough to divert much wealth into policy driven consumption activities then productivity diminishes. And that's where the so-called statistical 'trap' comes in.

Bottomline: the so-called Middle income trap represents a macroeconomic hooey.

UK’s Government Discourages Charity

We are often told that the private sector is instinctively greedy, and thus requires intervention to spread ‘charity’ and ‘compassion’.

Well, in the UK, acts of private sector charity or philanthropy will be penalized.

From Wall Street Journal Wealth Blog,

The U.K.’s new budget has ignited all manner of class warfare. Retirees say it’s a gift to the rich at the expense of the poor. The wealthy say it’s another attack on success and job creators.

But one piece has gone largely unnoticed: the limit on philanthropic giving. The measure would cap the tax relief for wealthy givers at 25% of their annual income, or £50,000, whichever is higher. It takes effect next year.

It’s similar to the Obama proposal, which would limit charitable deductions for high earners to 28% for couples with incomes of $250,000 or more or individuals with income of $200,000. The White House says limiting itemized deductions would shrink the deficit by $584 billion over 10 years.

The U.K. expects its measure (along with caps on business deductions) to result in $490 million in saved revenue.

“Giving shouldn’t mean you pay no tax,” according to the U.K. Treasury.

Yet charities say the plan would put a chill on philanthropic giving just as the U.K. government is trying to create a new culture of giving.

The “new culture of giving” is that the government forcibly takes what you own (by taxation), which in turn discourages acts of private charity (both by administrative limits and again by taxation--what you opt to donate will be taken instead).

And as the norm, governments spend these confiscated resources charitably on their pet projects (to the benefit of cronies and or to vote rich welfare dependents or for photo Op sensational projects).

This is not really new. It has been the nature of governments to undertake lawful plunder of the resources of the citizenry when so deemed politically expedient.

As the great Frédéric Bastiat wrote in The Law published in 1850

When does plunder cease, then? When it becomes more burdensome and more dangerous than labor. It is very evident that the proper aim of law is to oppose the fatal tendency to plunder with the powerful obstacle of collective force; that all its measures should be in favor of property, and against plunder.

But the law is made, generally, by one man, or by one class of men. And as law cannot exist without the sanction and the support of a preponderant force, it must finally place this force in the hands of those who legislate.

This inevitable phenomenon, combined with the fatal tendency that, we have said, exists in the heart of man, explains the almost universal perversion of law. It is easy to conceive that, instead of being a check upon injustice, it becomes its most invincible instrument.

It is easy to conceive that, according to the power of the legislator, it destroys for its own profit, and in different degrees amongst the rest of the community, personal independence by slavery, liberty by oppression, and property by plunder.

It is in the nature of men to rise against the injustice of which they are the victims. When, therefore, plunder is organized by law, for the profit of those who perpetrate it, all the plundered classes tend, either by peaceful or revolutionary means, to enter in some way into the manufacturing of laws. These classes, according to the degree of enlightenment at which they have arrived, may propose to themselves two very different ends, when they thus attempt the attainment of their political rights; either they may wish to put an end to lawful plunder, or they may desire to take part in it.

By preventing the private sector from engaging in philanthropic activities and by coercively taking their resources by law, who’s greedy now?