Category Archives: Global Economics

A Century of Defense Spending In The United States

USA EconomyMy Comments:  With deal with Iran now in play, the focus is increasingly on the choice between war and peace. We either come to terms with some kind of negotiated settlement, or we accept the idea of sending young men and women off to die once again.

I read recently that of the 239 years since 1776, the US has been involved in an armed conflict during 222 of those years. Yes, some of those have been to protect our friends, but too many happened with no direct physical threat to the homeland. So with all the money spend on defense, are we actually safer for it?

The chance that Iran, in and of itself, can mount an attack on the territorial integrity of the US is very remote. Israel is another question, but they have atomic weapons of their own and there are those in charge who are prepared to use them. In my judgement, that alone greatly diminishes any threat from Iran. But it does explain to some extent why Iran would like to have their own weapons.

by Genevieve LeFranc,  July 22, 2015

 

“Of all the enemies to public liberty war is, perhaps, the most to be dreaded because it comprises and develops the germ of every other. War is the parent of armies; from these proceed debts and taxes… known instruments for bringing the many under the domination of the few… No nation could preserve its freedom in the midst of continual warfare.”
—James Madison, Political Observations, 1795

The U.S. military accounts for a staggering 40% of global military spending, but this isn’t anything new, folks. The United States has been experiencing a century of extreme defense spending, and if we don’t slow down soon, this military spending could prove to be our country’s downfall.

The World Bank defines military expenditure as:

…All current and capital expenditures on the armed forces, including peacekeeping forces; defense ministries and other government agencies engaged in defense projects; paramilitary forces, if these are judged to be trained and equipped for military operations; and military space activities.

Such expenditures include military and civil personnel, including retirement pensions of military personnel and social services for personnel; operation and maintenance; procurement; military research and development; and military aid.

So it’s pretty clear military expenses cover quite a wide range of stuff. But just how much has our country spent on defense over the last 100 years?

Before WWII, and in times of peace, the U.S. government really didn’t spend that much on defense — only about 1% of GDP.

After the war, America found itself smack-dab in the middle of a global fight against Communism, and defense spending was more than 41% of GDP.

Since then, defense spending has never returned to anything less than 3.6% of GDP.

There have been four major spikes in U.S. defense spending since the 1970s. USgovernmentspending.com reports:

It spiked at nearly 12 percent of GDP in the Civil War of the 1860s (not including spending by the rebels). It spiked at 22 percent in World War I. It spiked at 41 percent in World War II, and again at nearly 15 percent of GDP during the Korean War.

Defense spending exceeded 10 percent of GDP for one year in the 19th century and 19 years in the 20th century. The last year in which defense spending hit 10 percent of GDP was 1968 at the height of the Vietnam War.

The peak of defense spending during the Iraq conflict was 5.66 percent GDP in 2010.

CONTINUE-READING

US-Iran Treaty Can Send Oil to $40

oil productionMy Comments: I’ve already said that I much prefer a negotiated deal between adversaries than continued threats to bomb the crap out of them. In todays economic and political environment, that option poses too many risks that I’m unprepared to accept.

Here’s some economic thoughts about what might happen, now the deal is in place. Yes, Congress has 90 days to approve, and no, the oil industry will be unhappy, but it’s time to think what is best for ALL OF US, and not just the few.

by Barry Ritholtz – July 14th, 2015

While the world is distracted by the unending Greek saga (will it or won’t it leave the euro?) and the epic Chinese stock-market meltdown (and manipulation), something really important is going on. Three words sum it up: Iran and oil.

Negotiators have reached a deal with Iran to constrain its nuclear arms program. Despite the pessimism and outright fear-mongering, an agreement has been reached.

Don’t let China’s stock market and Greece’s debt melodrama distract you from paying attention to this issue — now that this deal is all but consummated, the repercussions are potentially enormous.

The agreement to end 13 years of sanctions against Iran over its nuclear aspirations is likely to be the defining foreign policy achievement of the Obama administration. Iran had opportunistically pursued its nuclear ambitions after 9/11, accelerating the program once its biggest regional enemy, Saddam Hussein, was removed by the U.S. military invasion.

Normalizing relations between one of the largest military powers in the Middle East and the major nations of the West is a huge, game-changing event. Iran’s ruling party wants access to global markets, technology and capital; Iranian youth would like access to Western consumer goods, culture and most of all, the Internet. How much any of these become part of the end result of a deal has yet to be determined.
What is perhaps most fascinating about this deal is the role and ambitions of China and Russia.

China’s motives are more obvious: It would like to blunt the projection of U.S. military power around the world, disengagement of the U.S. from Middle East politics and — most of all — a reduction of geopolitical tensions that tend to raise oil prices.
Russia’s interests are more complex, since it benefits from higher oil prices. Putting Iran’s huge oil production back on the market could exacerbate today’s global crude glut. Speculation that this will happen has already helped push down the price of oil, which has fallen by about a third in the past 12 months. Further signs of a Chinese economic slowdown also are weighing on crude prices.

Given the current situation, including sanctions against Russia for its role in destabilizing eastern Ukraine, one has to wonder what advantage there is for Vladimir Putin & Co. if Iranian oil begins to flow freely to the global market.

The Houston Chronicle quoted Neil Atkinson, an oil analyst at Lloyd’s List Intelligence in London, who observed, “It’s finally dawning on the market that the overwhelming weight of supply growth isn’t just going away… Iran is a huge factor. I can see $50 in sight for West Texas Intermediate [when a deal is reached].” Iran has 40 million barrels of crude stored on at least 23 ships that could be released into the market relatively quickly, the Chronicle added.

So what’s driving the Russians to be so cooperative? Perhaps the lessons of the 1980s are still fresh in Putin’s mind. What brought down the Soviet Union wasn’t the result of military failures or armed conflicts through surrogates. Rather, it was the economic might of the U.S. Supporting a huge military requires a large, efficient and productive economy and the Soviets simply couldn’t compete with the U.S. As much as former U.S. President Ronald Reagan is praised for the collapse of the USSR, Adam Smith deserves more credit.

The Russians may have figured out that fighting the American economy has been a losing game for them.

A peaceful, non-nuclear Iran might help to limit the U.S. presence in the Middle East, according to Gary Samore of Harvard’s Belfer Center. “The Russians don’t like to see the U.S. going around the world, bombing countries,” he noted.

Given the painful sanctions on Russia — and the related precarious economic state it is in because of much-reduced oil prices — greater cooperation between Russia and the U.S. could be mutually beneficial. Both want to see a defeat of the Islamic State. So does Iran. All benefit from a more stable Middle East, albeit for very different reasons.

Putin is smartly playing a long game. Lower oil prices will be painful in the short run for Russia. But an aggressive U.S., with an expansionist military around the world may be even worse. Hence, the surprising willingness of Russia to sign on to an agreement to lift sanctions against Iran.

The key takeaways of the deal with Iran is that it has the potential to lower energy prices, reduce tensions in an area fraught with conflict and create an opening for Russia to find a way to end the sanctions now hobbling its economy. A Russian economy that is better integrated into the world economy will have far better growth prospects.

It will be interesting to watch the contortions and hysterics among members of Congress opposed to the Iran deal. But as of now the critics of the accord lack a veto-proof majority. However much they might complain, it is likely to just be political noise.

Watch the price of oil. Consider what increases in supply and reduction of Middle East tensions do to its price. Then imagine what that could mean for the global economic recovery.

Wrong On Iran

My Comments: I’m unsure about the title of this article; is the author talking to us, to the Israelis or both. Personally, I’m all for the deal that was signed on Monday. I’m persuaded the choices are either an agreement based on mutual distrust, made by skilled negotiators, or war. And I’m sick and tired of us playing that game. Since 1945, we’ve only won once, and that was against the mighty nation of Grenada.

For the GOP, it’s the same mantra since 2008; if Obama is for it, we’re going to do whatever we can to oppose it and stymie his efforts, never mind what’s in the country’s best interest. If we spend another few trillion dollars and get thousands killed and maimed, so what. We enjoy making money.

Nothing of significance can be reduced to simple black and white terms, even though the media would have you believe it is. This article talks about subleties, background and motives of those involved. If we can be friends with Japan and Germany after what happened in the 1940’s, there’s no reason we can’t develop a foundation with Iran.

by David Swanson on July 14, 2015

For the United States to sit and talk and come to an agreement with a nation it has been antagonizing and demonizing since the dictator it installed in 1953 was overthrown in 1979 is historic and, I hope, precedent setting. Let’s seal this deal!
Four months ago the Washington Post published an op-ed headlined ‘War With Iran Is Probably Our Best Option.’ It wasn’t. Defenders of war present war as a last resort, but when other options are tried the result is never war. We should carry this lesson over to several other parts of the world.

The time has come to remove the “missile defense” weaponry from Europe that was put there under the false pretense of protecting Europe from Iran. With that justification gone, U.S. aggression toward Russia will become damagingly apparent if this step is not taken. And the time has come for the nations that actually have nuclear weapons to join and/or comply with the nonproliferation treaty, which Iran was never actually in violation of.

In addition to the prevention of a massive bombing campaign in Syria that was prevented in 2013, a major recent success in war-lie-preparedness is the holding off, thus far, of a U.S. war on Iran — about which we’ve been told lies for decades now. The longer this debate goes on, the more it should become clear that there is no urgent emergency that might help justify mass killing. But the longer it goes on, the more some people may accept the idea that whether or not to gratuitously bomb a foreign nation is a perfectly legitimate policy question.

And the argument may also advance in the direction of favoring war for another reason: both sides of the debate promote most of the war lies. Yes, some peace groups are talking perfect sense on this issue as on most, but the debate between Democratic and Republican party loyalists and those in power is as follows. One side argues, quite illegally and barbarically, that because Iran is trying to build a nuclear weapon, Iran should be bombed. The other side argues, counterproductively if in a seemingly civilized manner, that because Iran is trying to build a nuclear weapon, a diplomatic agreement should be reached to put a stop to it. The trouble with both arguments is that they reinforce the false idea that Iran is trying to build a nuclear weapon. As Gareth Porter makes clear in his book Manufactured Crisis, there is no evidence for that.

Both arguments also reinforce the idea that there is something about Iranians that makes them unqualified to have the sort of weapon that it’s alright to voluntarily spread to other nations. Of course, I don’t actually think it’s alright for anyone to have nuclear weapons or nuclear energy, but my point is the bias implicit in these arguments. It feeds the idea that Iranians are not civilized enough to speak with, even as one-half of the debate pushes for just that: speaking with the Iranians.

On the plus side, much of the push for a war on Iran was devoted for years to demonizing Iran’s president until Iran, for its own reasons, elected a different president, which threw a real monkey wrench into the gears of that old standby. Perhaps nations will learn the lesson that changing rulers can help fend off an attack as well as building weapons can. Also on the plus side, the ludicrous idea that Iran is a threat to the United States is very similar to the idea that Iraq was such a threat in 2002-2003. But on the negative side, memory of the Iraq war lies is already fading. Keeping past war lies well-remembered can be our best protection against new wars. Also on the negative side, even if people oppose a war on Iran, several billionaire funders of election campaigns favor one.

Will Congressman Robert Hurt who claims to represent me, and who got Syria right in 2013, commit to taking no funding from those warmongers? Here’s what Hurt had to say on Tuesday:

“The Threat of a Nuclear Iran Persists
“Dear Friend,

“The long-running nuclear negotiations with Iran and the United States, China, France, Germany, Russia, and the United Kingdom finally reached a head early this morning. Even with the deal reached, I am skeptical that Iran will keep their word, act in good faith, and abide by the terms of the deal.”

The deal is an INSPECTION arrangement, not based in any way on anybody trusting anyone.

“I remain committed to the goal of eliminating Iran’s nuclear capabilities because the prospect of Iran attaining the ability to produce a nuclear weapon is a grave threat to the world, and it is a very real possibility that this deal may only fuel Iran’s ability to expand its nuclear ambitions and facilitate its efforts to spread terror in the Middle East.”

What nuclear ambitions? What terror? This from a Congressman who voted for pulling out U.S. forces on June 17th but has taken no further action and has funded the U.S. operation that is currently killing people in the Middle East?

“Iranian leaders clearly remain focused on expanding their nuclear capabilities. They only want to do the bare minimum necessary to lift damaging international economic sanctions that have crippled their economy.”

What mindreading feat is this based on? Where’s evidence? Haven’t we learned to demand it yet?

“Iran is the world’s largest state sponsor of terror.” Not according to any world source, but rather the U.S. government which defines terrorism to suit its ends. The world disagrees.

“The regime makes no secret of its longstanding commitment to see the demise of the United States and Israel, our greatest ally in the Middle East.”

Then why don’t you point to a single scrap of evidence?

“On Saturday, Ayatollah Ali Khamenei spoke about the need to continue to fight against the “arrogant” U.S. regardless of the outcome of these talks. Allowing Iran to achieve the nuclear capabilities it seeks would pose an existential threat to Israel and the world.”

There’s nothing there about the demise of the United States or Israel or the slightest evidence of Iran pursuing or threatening to use any weapon. Expecting people to believe otherwise seems a bit — if you’ll excuse me — arrogant.

“Given Iran’s nuclear ambitions and history, I remain unconvinced that Iran will act in good faith and adhere to any of the terms of a deal. Iran has been unwilling to make necessary compromises to meaningfully limit their nuclear program, and there is little reason to believe this will change. Reaching a deal just for the sake of doing so is not worth putting the safety and security of our allies and our country at risk; no deal is better than a dangerous deal.”

Again, what ambitions? What history? Why the steady avoidance of documenting any claims? Iran is complying with restrictions not imposed on any other nation. How is that a refusal to compromise?

“If this deal is in fact a bad one, the American people have a role to play in this process. In May, the President signed into law the Iran Nuclear Agreement Review Act, which would require congressional review of any final nuclear agreement with Iran before the President can waive or suspend sanctions previously imposed by Congress. Now that an agreement has been reached, Congress has 60 days to review the agreement and pass a joint resolution to approve or disapprove of the deal. Should Congress disapprove the deal, the President would likely veto that measure, but Congress can override the veto with a two-thirds vote.”

The American people, in case you hadn’t noticed, favor the deal, including a majority of Democrats and a plurality of Republicans.

“It is my hope that Congress will carefully consider the consequences of a deal with Iran and maintain its focus on the ultimate goal of eliminating the threat of a nuclear Iran. I remain committed to working with my colleagues on both sides of the aisle to enhance the necessary sanctions against the Iranian regime. We must do everything within our power to prevent Iran from gaining nuclear capabilities.”

Is that a proposal for war?

Anyone can tell their rep and senators to support the deal here.

David Swanson is the author of War Is A Lie.

Staring Into An Abyss

deathMy Comments: Greece is the focus for many of us whose professional interest is the management of money, both for ourselves and our clients. I’ve said the crisis has the potential to be calamitous, not just for Europe, but for the rest of the world too.

Here, Scott Minerd suggests we step back a bit and stop being apocalyptic.

July 06, 2015 Commentary by Scott Minerd, Guggenheim Partners

In the wake of the results of Sunday’s Greek referendum, there fundamentally remain three possible outcomes. The first is as follows: Greece remains in the European Union (EU) and the eurozone while remaining in arrears on its payments to the IMF and defaulting or falling into arrears on its next payment to the European Central Bank, which is due on July 20, and the Troika begins to work out a restructuring of Greek debt.

The likelihood that the ECB will extend more liquidity to Greek banks seems remote under any circumstances. The ECB could call loans made under Emergency Liquidity Assistance to Greek banks or just maintain those loans. Either way the ultimate outcome will be the same – Greek banks will run out of euros sometime this week and the whole of the Greek banking system faces insolvency.

The second option is the same as the first except that Greece or the EU decide that Greece should leave the eurozone. I don’t see this as being much different than the first except that it increases questions about the long term viability of the euro. I think that question exists regardless, but it obviously raises the severity of the issue in the near term.

The third option would be like the second, but would include Greece exiting the EU. I think this is very unlikely unless Russia or China (or both) were to suddenly provide some kind of lifeline to Greece. This could be devastating to the EU and the NATO Alliance. I believe this is a low probability outcome. We will not know which path policymakers will follow until later in the week and then maybe longer. Nevertheless, markets will have to deal with the uncertainties created by the outcome of the referendum and have not fully priced for the risk of this event. If we had a “YES” vote I think equity markets would have rallied and bonds would have generally sold off. That tells me that some of this risk has been baked into prices.

A replay of last Monday is quite likely, which means a classic risk-off trade with a rally in German bunds and Treasury notes and bonds. Bonds of European periphery governments like Spain and Italy are likely to sell off again. The euro should come under pressure, while the dollar advances and global equity markets experience another sell off.

How long will this go on and how protracted will this risk-off period be? That is the real question. A number of years ago, the contagion threat posed by “Grexit” is a lot different than today. Since then, most banks outside of Greece have been purged of their Greek credit exposures, which now look immaterial relative to bank capital.

Of course, exposures are material in official institutions, but still small in absolute terms at less than 2 percent of annual European GDP. Questions still loom as to undefined derivative exposure throughout the financial system. Compared to the resources and tools available to the global central bankers (particularly the ECB) and the relative preparedness in contrast to the days when Lehman Brothers failed, I do not believe we are on the brink of a systemic collapse as we were in 2008.

But there remains at least one black swan event that deeply concerns me and should not be ignored. If other countries in Europe which have engaged in austerity should view the Greek outcome as a win, then political pressures may build and the survival of the euro, which one commentator referred to Sunday night as “hanging by a thread”, may itself be drawn into question. The warning signs of that outcome would be to see German bund prices decline in the wake of bad news. While I assess this risk as low, keeping an eye on bund prices as a barometer for survival is still important.

Regardless, the reaction of central banks will be vigilance. The trusty printing press stands ready to inflate asset prices and swell liquidity as needed. Don’t expect preemptive action. Central bankers will wait to see if and how much actual action is needed. There will be an attempt at the illusion that money printing will not be immediately undertaken to avoid the appearance of creating moral hazard. But, if anything was learned by the Lehman event, moral hazard exists and it is alive and well. Every effort will be made to stem any crisis in the wake of the Greek referendum.

For those who are ready to declare the failure of the great European experiment and view Greece as the beginning of the endgame for the euro, they might be advised to wait.

The Greek referendum will likely cause yet another round of innovation and recommitment by European policymakers to the success of a unified continent. In the days ahead, pro-growth policies will likely be expanded around the continent. For example, just last week Prime Minister Mariano Rajoy of Spain announced an acceleration of tax cuts while increasing projected economic growth to 3.3 percent for 2015, a growth rate which may end up greater than that of the United States. Expect more of these announcements in the coming days.

Countries at the core of Europe are deeply invested in the success of the eurozone. The idea that Greece may exit will be enough for policymakers to double down in the days ahead. While many see Grexit as the beginning of the end, it may end up ushering in a new beginning for Europe. Let’s face it, many believe Greece should never have been allowed entry into the eurozone in the first place. Few would make that statement for Italy, Spain, Portugal, or Ireland. Nevertheless, the eurozone is a political creature whose fate will ultimately be decided through political means. That’s why policy makers will move quickly to offer largess to shore up the currency union.

While risks loom, it would be premature to throw in the towel on Europe especially as it is beginning to turn the corner. The wild card event may be that after an initial bout of euro-skeptic turbulence, things in Europe will get better, not worse.

Sunny with a Chance of Turbulence

coins and flagMy Comments: Many of us were blindsided by the severity of the pullback that happened in 2008-09. Many of us are still trying to get back to where we were and are fearful of it happening again soon. Some on TV are pushing the idea that it’s just around the corner.

It’s not. The chance of a massive collapse like happened a few years ago is virtually non-existent, short of an asteroid falling on us somewhere. Scott Minerd has a great understanding of financial dynamics, and his comments are always worth reading.

June 25, 2015 by Scott Minerd, Chairman of Investments, Guggenheim Partners

It seems summer brings out the sunny disposition in everyone. Despite the fact that returns across U.S. investment categories are pretty dismal year to date, markets are pricing optimistically and it seems the sunshine has brought growth back to the U.S. economy. Recent data from the Bureau of Labor Statistics showed a 280,000 increase in employment in May. Additionally, building permits rose 11.8 percent in May, better than the 3.5 percent decline forecast by economists, while the pace of existing home sales hit its fastest rate since late 2009. Taking everything into account, the likelihood that the U.S. economy will suffer a recession in the next year or two would appear to be extremely remote.

Still, seemingly isolated events could yet sour the mood. Since the euro crisis erupted back in 2010, the possibility of a “Grexit” has been a recurring issue. A number of commentators have painted the possibility of a Greek exit from the euro zone as the equivalent of a Lehman Brothers-style event, a view I’m not so certain is correct. With that said, seemingly minor occurrences have in the past set the stage for larger economic events, such as the collapse of the Thai baht, a seemingly contained event that ultimately proved to be the first domino to fall in the 1997 Asian crisis. While we cannot discount the consequences that a Greek exit could potentially herald, I believe a solution to paper over this seemingly never-ending crisis is likely to calm markets in the near term.

As for developments at the Federal Reserve, while some commentators have suggested that the Fed is leaning toward December, I can see no reason why the Fed would consider delaying a rate rise beyond September. Either way, I don’t think it matters: The bottom line is that a rate hike is coming. Personally, I consider the bond market to be in fairly good shape and capable of handling the beginning of “normalization” without a rerun of the 2013 taper tantrum, but only time will tell.

Lastly, despite the generally positive environment, it disturbs me how low returns have been across almost every asset class year to date. This tells me that markets may be getting fully priced for the near term, and that investors have already placed their bets on how they see major events of the day playing out. With all the chips on the table, new market inflows are likely needed in order to push prices higher, but I don’t envision significant inflows occurring until the fourth quarter. As evidence, the S&P 500 has not had a weekly move of more than 1 percent in either direction in two months, which is the longest such streak in over two decades. During this period, breadth has broken down in a meaningful way. For now, it doesn’t appear that investors are being compensated for the risks they are taking.

Despite poor year-to-date performance, the majority of forecasters have yet to alter their year-end S&P 500 price targets. In fact, the dispersion around analysts’ predictions is as tight as it’s been since 2009. This tells me the market doesn’t really feel like there’s a lot of uncertainty, which is concerning, because such high levels of complacency usually foreshadow some form of financial accident. I am not talking about a financial crisis, or a recession—we certainly have no indications of either yet—but there have been a number of periods of prolonged expansion where complacency climbs high and we wound up in an extremely turbulent period. Think about 2011, when there was a severe summer pullback in U.S. equities. Similar to today, at that time investors had basically put their bets on the fact the recovery was in place, and that stocks were going higher. Those bets turned out to be correct, but only after we narrowly avoided a 20 percent pullback.

With complacency as high as it is today, I fear we could be in for meaningful turbulence this summer. For this reason I would encourage investors to consider accumulating cash reserves or Treasuries in order to insulate themselves against any potential summer squalls during the next few months.

Economic Data Releases – U.S. GDP Revised Up in Final Estimate; Consumer Spending Records Fastest Growth in Nearly Six Years
• First-quarter GDP was revised up in the final estimate, but was still negative at -0.2 percent annualized. Better consumer spending helped revise the growth number upward.
• Existing home sales beat expectations in May, rising 5.1 percent to an annualized pace of 5.35 million homes. The percentage of first-time buyers rose to 32 percent.
• New home sales increased 2.2 percent in May, up to 546,000 after a positive revision to April’s data.
• Durable goods orders, excluding transportation, met expectations in May, up 0.5 percent. Nondefense capital goods orders excluding aircraft rose 0.4 percent, missing expectations after falling in April.
• The Federal Housing Free Agency House Price Index rose 0.3 percent in April, matching the previous month’s gain
• Personal spending jumped 0.9 percent in May, a stronger showing than the 0.1 percent gain in April and ahead of market expectations of a 0.7 percent increase.
• Personal income climbed by 0.5 percent in May, matching the upwardly revised increase seen in April.
• In the 12 months through May, the personal consumption expenditures (PCE) price index rose 0.2 percent. The core PCE price index, excluding food and energy, rose 1.2 percent in the 12 months through May

Euro Zone PMI Data Releases Continue to Point toward Growth
• Euro zone consumer confidence was unchanged in the initial June survey, remaining at -5.6.
• China’s HSBC manufacturing purchasing managers index (PMI) improved in June, but remained in contraction at 49.6.
• The euro zone manufacturing PMI showed a slight acceleration in activity in June, rising to 52.5 from 52.2. The services PMI rose to 54.4, a more than three-year high.
• Germany’s manufacturing PMI was better than forecast in June, rising to 51.9 vs. expectations of 51.2. The services PMI also rebounded after declining for the past two months.
• The French manufacturing PMI returned to expansion in June at 50.5, the highest reading in 14 months. The services PMI also made a multi-year high.
• Germany’s IFO Business Climate Index fell more than forecast in June, with both the current assessment and expectations worsening.

Bond Crash Across the World As Deflation Trade Goes Horribly Wrong

Interest-rates-1790-2012My Comments: You can call me an alarmist if you like, I really don’t care. We are long overdue for a market correction, from both a stock value perspective and interest rate perspective. If you don’t believe it’s coming, I have some nice real estate just east of Daytona Beach I can sell you for peanuts.

By Ambrose Evans-Pritchard / 10 Jun 2015

The global deflation trade is unwinding with a vengeance. Yields on 10-year Bunds blew through 1pc today, spearheading a violent repricing of credit across the world.

The scale is starting to match the ‘taper tantrum’ of mid-2013 when the US Federal Reserve issued its first gentle warning that quantitative easing would not last forever, and that the long-feared inflexion point was nearing in the international monetary cycle.

Paper losses over the last three months have reached $1.2 trillion. Yields have jumped by 175 basis points in Indonesia, 160 in South Africa, 150 in Turkey, 130 in Mexico, and 80 in Australia.

The epicentre is in the eurozone as the “QE” bet goes horribly wrong. Bund yields hit 1.05pc this morning before falling back in wild trading, up 100 basis points since March. French, Italian, and Spanish yields have moved in lockstep.

A parallel drama is unfolding in America where the Pimco Total Return Fund has just revealed that it slashed its holdings of US debt to 8.5pc of total assets in May, from 23.4pc a month earlier. This sort of move in the staid fixed income markets is exceedingly rare.

The 10-year US Treasury yield – still the global benchmark price of money – has jumped 48 points to 2.47pc in eight trading sessions. “It is capitulation out there, and a lot of pain,” said Marc Ostwald from ADM.

The bond crash has been an accident waiting to happen for months. Money supply aggregates have been surging all this year in Europe and the US, setting a trap for a small army of hedge funds and ‘prop desks’ trying to squeeze a few last drops out of a spent deflation trade. “We we’re too dogmatic,” confessed one bond trader at RBS.

Data collected by Gabriel Stein at Oxford Economics shows that ‘narrow’ M1 money in the eurozone has been growing at a rate of 16.2pc (annualized) over the last six months. You do not have to be monetarist expert to see the glaring anomaly.

Broader M3 money has been rising at an 8.4pc rate on the same measure, a pace not seen since 2008. Economic historians will one day ask how it was possible for €2 trillion of eurozone bonds – a third of the government bond market – to have been trading at negative yields in the early spring of 2015 even as the reflation hammer was already coming down with crushing force.

“It was the greater fool theory. They always thought there would be some other sucker to buy at an even higher price. Now we are returning to sanity,” said Mr Stein.

M3 growth in the US has been running at an 8pc rate this year, roughly in line with post-war averages. The growth scare earlier this year has subsided, as was to be expected from the monetary data.

(If you want to see the charts associated with this article, go HERE)

The economy has weathered the strong dollar shock and seems to have shaken off a four-month mystery malaise. It created 280,000 jobs in May. Bank of America’s GDP ‘tracker’ is running at a 2.9pc rate this quarter.

Capital Economics calculates that hourly earnings have been rising at a rate of 2.9pc over the last three months, the fastest since the six-year expansion began.

Bond vigilantes – supposed to have a sixth sense for incipient inflation, their nemesis – strangely missed this money surge on both sides of the Atlantic. Yet M1 is typically a six-month leading indicator for the economy, and M3 leads by a year or so. The monetary mechanisms may be damaged but it would be courting fate to assume that they have broken down altogether.

Jefferies is pencilling in a headline rate of 3pc by the fourth quarter as higher oil prices feed through. If they are right, we will be facing a radically different economic landscape within six months.

This has plainly been a bond market bubble, one that is unwinding with particular ferocity because new regulations have driven market-makers out of the business and caused liquidity to evaporate. Laurent Crosnier from Amundi puts it pithily: “rather than yield at no risk, bonds have been offering risk at no yield.”

Funds thought they were on to a one-way bet as the European Central Bank launched quantitative easing, buying €60bn of eurozone bonds each month at a time when fiscal retrenchment was causing fresh supply to dry up. They expected Bunds to vanish from the market altogether as Berlin increases its budget surplus to €18bn this year and retires debt.

Instead they have discovered that the reflationary lift from QE overwhelms the ‘scarcity effect’ on bonds. Contrary to mythology – and a lot of muddled statements by central bankers who ought to know better – QE does not achieve its results by driving down yields, at least not if conducted properly and if assets are purchased from outside the banking system. It works through money creation. This in turn lifts yields.

The ECB’s Mario Draghi has achieved his objective. He has (for now) defeated deflation in Europe. After six years of fiscal overkill, monetary contraction, and an economic depression, the region is coming back to life.

How this now unfolds for the world as a whole depends on the pace of tightening by the Fed. Futures contracts are still not pricing in a full rate rise in September. They are strangely disregarding the message from the Fed’s own voting committee – the so-called ‘dots’ – that further rises will follow relatively soon and hard.

The Fed is implicitly forecasting rates of 1.875pc by the end of next year. Markets are betting on 1.25pc, brazenly defying the rate-setters in a strange game of chicken.

The International Monetary Fund warned in April that this mispricing is dangerous, fearing a “cascade of disruptive adjustments” once the Fed actually pulls the trigger.

Nobody knows what will happen when the spigot of cheap dollar liquidity is actually turned off. Dollar debts outside US jurisdiction have ballooned from $2 trillion to $9 trillion in fifteen years, leaving the world more dollarised and more vulnerable to Fed action than at any time since the fixed exchange system of the Gold Standard.

Total debt has risen by 30 percentage points to a record 275pc of GDP in the developed world since the Lehman crisis, and by 35 points to a record 180pc in emerging markets.

The pathologies of “secular stagnation” are still with us. China is still flooding the world with excess manufacturing capacity. The global savings rate is still at an all-time high of 26pc of GDP, implying more of the same savings glut and the same debilitating lack of demand that lies behind the Long Slump.

As Stephen King from HSBC wrote in a poignant report – “The World Economy’s Titanic Problem”- we have used up almost all our fiscal and monetary ammunition, and may face the next global economic downturn with no lifeboats whenever it comes.

The US is perhaps strong enough to withstand the rigours of monetary tightening. It is less clear whether others are so resilient. The risk is that rising borrowing costs in the US will set off a worldwide margin call on dollar debtors – or a “super taper tantrum” as the IMF calls it – that short-circuits the fragile global recovery and ultimately ricochets back into the US itself. In the end it could tip us all back into deflation.

“We at the Fed take the potential international implications of our policies seriously,” said Bill Dudley, head of the New York Fed. Yet in the same speech to a Bloomberg forum six weeks ago he also let slip that interest rates should naturally be 3.5pc once inflation returns to 2pc, a thought worth pondering.

Furthermore, he hinted that Fed may opt for the fast tightening cycle of the mid-1990s, an episode that caught markets badly off guard and led to the East Asia crisis and Russia’s default.

The bond reductions this week are an early warning that it will not be easy to wean the world off six years of zero rates across the G10, and off dollar largesse on a scale never seen before. Central banks have no safe margin for error.

US Should Not Negotiate Free Trade Behind Closed Doors

global tradeMy Comments: Recently I was reminded that I appear to have strong opinions. This is usually accompanied by a rolling of the eyes, and to which I now hang my head, but without shame. On this topic, I’ve not had an opinion worth talking about until now. I hate it when people bitch and moan but can’t be bothered to offer an alternative which might be an improvement. (See GOP arguments against the Affordable Care Act)

Since I don’t have a visceral dislike of Barack Obama and voted for him twice, I’m inclined to give him the benefit of the doubt when he talks about the need for and benefits of the Trans Pacific Parnership or TPP. If he says it will be good for the US, I’m inclined to believe him.

But I’m also not inclined to ignore the push being made by the likes of Robert Reich, of Elizabeth Warren and Bernie Sanders. I think of them as credible advocates for what is in our best interests going forward.

We do need trade deals to keep the US current with what is happening globally in the 21st century. And we need to make sure that they are focused first on what is best for you and I as citizens America and not just what is best for corporate America. Since the Supreme Court has declared that corporations are people, then it seems reasonable that we not be discriminated against just because our pockets are not as deep.

The TPP needs a new start with full transparency since, in my opinion, the idea is valid and NOT a total waste of time.

Mark Wu / May 26, 2015 / The Financial Times

Many Americans who think free trade can be good for them nevertheless doubt whether the same can be said for the international trade agreements that are actually being written, often in conditions of secrecy.

The Trans-Pacific Partnership, an agreement that the US is negotiating with 11 Pacific Rim countries, is a case in point. Beyond the few paragraphs on the White House website, most Americans have little idea what it contains. Even members of Congress have to go to a secure room in the basement to read the latest negotiating text.

The White House argues that a period of secrecy is necessary, to afford negotiators flexibility to cut deals. Once we have an agreement, officials say, there will be plenty of time for the public to debate its merits — and Congress can reject it. Yet sceptics are not convinced; last week Democratic lawmakers tried to prevent the Senate from so much as discussing a law that would give President Barack Obama broad authority to negotiate a deal.

It does not help that some Americans have greater insight into what is happening than others. The US trade representative consults with about 700 people while negotiations are in progress; most are from the private sector. This advisory system fuels fears that trade deals benefit corporate interests at the expense of ordinary Americans.

As a former trade negotiator, I know that so-called trade promotion authority and some degree of secrecy is vital for getting a deal done. But the current level of secrecy may be going too far. Instead of dismissing critics as misguided, the White House should strike a better balance between retaining flexibility for negotiators and keeping the public informed during the process.

Here are three proposals — developed with my colleague John Stubbs, a former senior adviser to the USTR — that would help restore this balance.

First, the administration should provide better accounts of US negotiating objectives. The EU does this already, publishing a two-page summary of its aims for each chapter of a trade deal, and sometimes releases its own negotiation proposals. By contrast, the USTR publishes only a terse paragraph for each chapter. It should be more forthcoming.

Second, the government should release information about proposals under consideration, provided our negotiating counterparts agree. It should solicit public comments on contentious proposals (there is no need to say which government put forward which proposal). This provides a mechanism to seek input from the broader public, rather than just select advisory group officials.

Finally, government reports of the economic benefits and losses associated with trade deals depend heavily on economic models. While the final reports of government economists are made public, the data and assumptions underlying these models often are not. Why not make that information available as well? Outside experts can re-run the model to show how the economic effects change under different conditions.

None of these proposals would hamper the ability of trade negotiators to do their jobs. Yet all three can help erase worries that the government is hiding something, and restore trust that deals are being negotiated in the broader public interest.

Outdated trade rules need to be revised. But America’s process for formulating trade policy is outdated, too. Citizens should be able to make informed decisions over whether a deal allows Americans to share broadly in the gains from trade. Supporters of trade deals need to realise that they too need to support greater transparency, if they are to rebuild a broader coalition in favour of trade.