Category Archives: Global Economics

Keeping America Great (Again)

flag USMy Comments: Despite what some so called “leaders” are exclaiming, America is still a great place to live, work and dream. Sure, there are some troubling issues to deal with, but tell me, was there any point in time when there was perfection. I don’t believe you can.

Personally, I’m far more interested in what is happening today and how we can best improve on an already successful model. For example, I’m having doubts about my long held belief in free trade. As I now look at it, I realize it too has been hijacked by special interests that could care less whether I’m alive or not.

More than once I’ve shared on this forum the thoughts of Scott Minerd, who is the Chairman of Investments and Global Chief Investment Officer for Guggenheim Partners. I like how he thinks and how he expresses his thoughts. I also recognize that you don’t achieve a title like his without knowing what the hell is going on.

The following paragraphs come from Guggenheims Fixed-Income Outlook | First Quarter 2016. There’s always jargon when the subject is economics, but some is necessary. Here you have to understand the distinction between macro economics and micro economics. An analogy you might appreciate is understanding and appreciating the quality of the American beef industry and understanding and appreciating the quality of the steak you are buying from Publix. From a macro perspective, Is the industry healthy and functioning well and from a micro perspective, is the steak you buy going to be tender and tasty?

Here is Scott Minerds Macroeconimic Outlook.

Fears of a 2016 U.S. recession are overblown. A rebalancing oil market should calm markets in the second half of the year.

A sharp selloff in global equities and continued volatility in credit markets have rattled investors, but we do not believe the factors roiling the markets will derail the ongoing U.S. expansion. A stronger dollar has weighed on the U.S. economy, but consumer spending, which accounts for 70 percent of the U.S. economy, has been resilient. Aided by the windfall of lower energy prices, final domestic demand contributed 2.5 percentage points to real GDP growth in 2015 (see chart, top right).

The labor market is now operating near full employment with the unemployment rate at 4.9 percent, and tight labor market conditions are beginning to spur faster wage growth. Based on our analysis of these and other factors, we believe the U.S. economy is fundamentally sound, and find little evidence to support the conclusion that the economy will fall into a recession in 2016. Our base case is that the next recession will arrive in 2018 or later.

The decline in oil prices may be helping consumers, but as our sector managers relate throughout this report, it has taken a toll on corporate credit. Our research team’s oil model indicates that oil prices will rise toward $40 per barrel in 2016, however, as global supply and demand rebalance (see chart, bottom right).

Despite the relative health of the U.S. economy, markets are questioning the Fed’s resolve to increase rates. Giving rise to this view are concerns that sluggish global growth will hold back the U.S. expansion, that inflation will remain below the Fed’s target for longer, and that tighter conditions in credit markets have raised recession risks. Our view is that the Fed remains focused on fulfilling its dual mandate objectives of maximum employment and price stability, and thus is biased toward normalizing policy. We expect further declines in the unemployment rate as job gains outstrip growth in the labor force. Meanwhile, core and headline inflation should move closer to the Fed’s target by year end, reflecting our forecasts for a tighter labor market and a modest rise in oil prices. This should keep a couple of Fed rate hikes on the table in 2016, which we would interpret as a sign that the
expansion remains intact. A solid macroeconomic backdrop and a rebalancing oil market should support an improving credit picture in the second half of 2016.
16-03-18 $40 barrel oil

Britain Is Sleepwalking Into A New Recession

My Comments: Never mind for the moment whether Britain decides to leave the European Union or not. They are now a key player in the world economy and a critical player in the world’s efforts to push back against terrorism.

Removing themselves from the EU “…because we had it better before…” is similar to the old king standing on the beach telling the tide to recede. There’s a parallel in this country by folks wanting to ‘take back America”. Not going to happen, if for no other reason than they cannot answer the simple question “from whom”.

There’s more to this article that I’ve put here in this post so if you are still interested, go to the link at the end and see the rest of the reasons behind this argument.

Jim Edwards Mar. 12, 2016

There are two types of people in Britain right now. People who are asleep, and people who are awake.

The sleepers think that the economy has never been better. Jobs are up. Unemployment is down. Things are good. Most people, including you, are asleep.

And then there are the people who are awake. We call these people economists. They spend their time looking into the future, and mostly they see an economic slump coming. They are alarmed by it. That’s why the ECB reduced interest rates to zero last week.

But weirdly, it feels like we’ve never had it so good. Here is our current situation according to a great set of charts from Barclays:

Technically, we’re at full employment. Self-employment rates are high. The current employment rate is the highest since records began in the mid 1970s.

But economists don’t care much about the present. They want to know what’s going to happen next. And what they’re seeing is scary. The economy is slowing down, and many of the key indicators are in decline.

We’re sleepwalking into the next recession.

Scroll on for a scary look at the future …

Wages are up and hours worked are down. That’s a good thing for workers. It may even be holding back growth overall — ideally, you want everyone to be as productive as possible. But the fact that workers can reduce their hours while pay stays high in a low-inflation environment means this is as sunny as it gets for workers.

Job creation in the UK is fantastic right now — the bulk of new jobs are high-skilled, the kind that carry high wages, and high productivity. There are fewer low-skilled jobs being created. But that is pretty much the end of the good news because …

CONTINUE-READING

Oil Wars; Saudi Arabia May Have Screwed The Pooch

oil productionMy Comments: If you are concerned about how fracking is an environmental threat, this might interest you. Much of our collective angst is driven by the runup to next November’s presidential election. All the while, however, there are forces at work beyond our control that will greatly influence how our lives play out over the next 20 years, much less the next four.

This article, from the New York Times, describes events in the Middle-East that impact the oil dependency of the United States, how Russia and other influential countries around the world react to each other, and, by extension, effect our economy and how we define what is in our best interest for the next generation of Americans.

By ANDREW SCOTT COOPER MARCH 12, 2016

FOR the past half-century, the world economy has been held hostage by just one country: the Kingdom of Saudi Arabia. Vast petroleum reserves and untapped production allowed the kingdom to play an outsize role as swing producer, filling or draining the global system at will.

The 1973-74 oil embargo was the first demonstration that the House of Saud was willing to weaponize the oil markets. In October 1973, a coalition of Arab states led by Saudi Arabia abruptly halted oil shipments in retaliation for America’s support of Israel during the Yom Kippur War. The price of a barrel of oil quickly quadrupled; the resulting shock to the oil-dependent economies of the West led to a sharp rise in the cost of living, mass unemployment and growing social discontent.

“If I was the president,” Secretary of State Henry Kissinger fumed to his deputy Brent Scowcroft, “I would tell the Arabs to shove their oil.” But the president, Richard M. Nixon, was in no position to dictate to the Saudis.

In the West, we have largely forgotten the lessons of 1974, partly because our economies have changed and are less vulnerable, but mainly because we are not the Saudis’ principal target. Predictions that global oil production would eventually peak, ensuring prices stayed permanently high, never materialized. Today’s oil crises are determined less by the floating price of crude than by crude regional politics. The oil wars of the 21st century are underway.

In recent years, the Saudis have made clear that they regard the oil markets as a critical front line in the Sunni Muslim-majority kingdom’s battle against its Shiite-dominated rival, Iran. Their favored tactic of “flooding,” pumping surplus crude into a soft market, is tantamount to war by economic means: the oil trade’s equivalent of dropping the bomb on a rival.

In 2006, Nawaf Obaid, a Saudi security adviser, warned that Riyadh was prepared to force prices down to “strangle” Iran’s economy. Two years later, the Saudis did just that, with the aim of hampering Tehran’s ability to support Shiite militia groups in Iraq, Lebanon and elsewhere.

Then, in 2011, Prince Turki al-Faisal, the former chief of Saudi intelligence, told NATO officials that Riyadh was prepared to flood the market to stir unrest inside Iran. Three years later, the Saudis struck again, turning on the spigot.

But this time, they overplayed their hand.

When Saudi officials made their move in the fall of 2014, taking advantage of an already glutted market, they no doubt hoped that lower prices would undercut the American shale industry, which was challenging the kingdom’s market dominance. But their main purpose was to make life difficult for Tehran: “Iran will come under unprecedented economic and financial pressure as it tries to sustain an economy already battered by international sanctions,” argued Mr. Obaid.

Oil-producing countries, especially ones like Russia, with relatively undiversified economies, base their budgets on oil prices not falling below a certain threshold. If prices plunge below that level, fiscal meltdown looms. The Saudis expected a sharp reduction in oil prices not just to hurt the American fracking industry, but also to hammer the economies of Iran and Russia. That in turn would weaken their ability to support allies and proxies, particularly in Iraq and Syria.

The tactic had been brutally effective in the past. This was the grim scenario that confronted the shah in 1977 when the Saudis flooded the oil market to rein in Iran’s influence. The 1977 flood was not the sole cause of the Iranian revolution, but it certainly was a factor: The shah’s rule was destabilized just as Ayatollah Ruhollah Khomeini mounted his offensive to replace a pro-Western monarchy with a theocratic state. In that sense, the oil markets fueled the rise of political Islam.
The price of oil also helped end the Cold War. Then, like Russia today, the Communist superpower was a global energy producer heavily reliant on revenues from oil and gas. In 1985-86, the Saudis’ decision to flood the market — which some believe was encouraged by the Reagan administration — led to a collapse in prices that sent the Soviet economy into a tailspin.

“The timeline of the collapse of the Soviet Union can be traced to Sept. 13, 1985,” wrote the Russian economist Yegor Gaidar. “On this date Sheikh Ahmed Zaki Yamani, the minister of oil of Saudi Arabia, declared that the monarchy had decided to alter its oil policy radically.”

Today, in Russia, fully half of government revenue comes from oil and gas. Even if oil returns to $40 a barrel — it twice fell below $30 earlier this year — that depressed price still creates “a dangerous scenario,” according to Mikhail Dmitriev, a former Russian deputy economic minister. Inflation in Russia hit double digits last year; its sovereign wealth fund, which bails out struggling Russian companies, is depleted; and factory closings are fueling labor unrest.

Unhappily for President Vladimir V. Putin, Russia’s fiscal crisis has coincided with his military interventions in eastern Ukraine and Syria. If Russia’s economy worsens and Mr. Putin feels cornered, he may look for ways to distract the Russian people with more rally-round-the-flag provocations, as well as induce panic in the oil markets about supplies and gin prices back up.

Future shock has already arrived for oil producers like Venezuela, whose economy has been gutted by lost revenues from oil, which makes up 95 percent of its export earnings. With inflation predicted by the International Monetary Fund to reach 720 percent this year, Venezuela has become a financial zombie state — a harsh reminder of what can happen to countries that rely so heavily on a single unstable commodity price. President Nicolás Maduro is at the mercy of the markets that, every day, nudge his tottering regime nearer the abyss.

Another oil producer, Nigeria, is running out of money, hobbling President Muhammadu Buhari’s campaign against the Islamist Boko Haram insurgents in the northeast. The plunge in oil prices has also shaken Central Asia, where Azerbaijan and Kazakhstan have expressed interest in emergency bailouts from the I.M.F. and other lenders.

In the Middle East, reduced oil revenues have restricted Iraq’s ability to wage war against the Islamic State. Persian Gulf oil producers like Qatar and the United Arab Emirates estimate collective losses of $360 billion in export earnings in the past year. Such a big budgetary hole poses problems with maintaining order at home while fighting wars in Syria and Yemen, and propping up cash-strapped allies like Egypt.

And then there is Saudi Arabia itself.

All the evidence suggests that Saudi officials never expected oil prices to fall below $60 a barrel. But then they never expected to lose their sway as the swing producer within the Organization of the Petroleum Exporting Countries, or OPEC. Despite wishful statements from Saudi ministers, the kingdom’s efforts last month to make a deal with Russia, Venezuela and Qatar to restrict supply and push up prices collapsed.

The I.M.F. has warned that if government spending is not reined in, the Saudis will be bankrupt by 2020. Suddenly, the world’s reserve bank of black gold is looking to borrow billions of dollars from foreign lenders. King Salman’s response has been to promise austerity, higher taxes and subsidy cuts to a people who have grown used to state largess and handouts. That raises questions about the kingdom’s internal cohesion — even as the king decided to shoulder the burden of regional security in the Middle East, fighting wars on two fronts. Has there ever been an oil state as overleveraged at home and overextended abroad?

Meanwhile, by concluding the historic nuclear agreement, Iran is getting out from under the burden of economic sanctions. It will not be lost on Riyadh that this adds another oil producer to the world market that it can no longer control.

The instability and economic misery for smaller oil-producing states like Nigeria and Azerbaijan look set to continue. But that’s collateral damage. The real story is how the Saudis have been hurt by their own weapon.

Andrew Scott Cooper is the author of “The Oil Kings: How the United States, Iran and Saudi Arabia Changed the Balance of Power in the Middle East” and the forthcoming “The Fall of Heaven: The Pahlavis and the Final Days of Imperial Iran.”

Obama’s Implicit Foreign Policy

flag USMy Comments: As an immigrant and naturalized US citizen, and having lived in foreign countries during my lifetime, I’m endlessly interested is world affairs.

Many of the so called ‘political elites’ these days seem to be unaware that the world today is quite different from what it was as little as 25 years ago. I, for one, would hope they start talking about the reality of the future instead of worrying about the past.

This imaginary speech by Obama reflects, in my opinion, how the global landscape has changed and how we as a people should evaluate ourselves and our elected leaders. We do it with ourselves to remain relevant with our changing environment; why not apply some of those same ideas and steps when selecting our next set of leaders.

Roger Cohen FEB. 25, 2016 http://www.nytimes.com

WASHINGTON — This is the speech President Obama did not make on his foreign policy (with thanks to Stephen Heintz, a shrewd observer of America’s role in the world):

My fellow Americans:

I have based my foreign policy on some tough realities that are hard to talk about because no American likes to hear about the limits of our power. But those limits have grown. American power in the 21st century cannot be what it was in 1945 — or even in 1990.

To say this is to be accused of defeatism, of managing American decline and of giving up on American exceptionalism. That is why I have pursued an implicit foreign policy rather than an explicit one. That is why I waited so long to give this speech on my doctrine of restraint. No president wants to make a speech called “The Consequences of the End of the American Century.” It’s political suicide.

Implicit has meant letting actions speak. Some say I have failed to understand the theater of American leadership. I’ll leave the strutting on the world stage to others.

Our world is more interdependent than ever. China, India and other nations have grown rapidly, ending an era of Western domination. The Chinese economy has quintupled in size since 1990. The wars in Afghanistan and Iraq consumed trillions of dollars but did not bring victory. The enemies we face, often groups of violent extremists, cannot be vanquished through conventional warfare.

The consequence is that American power still counts but no longer clinches the deal. Multilateral solutions to international problems must be pursued. The Iran nuclear agreement — reached with help from Russia, China, Britain, France and Germany — is one example. Another is the Paris Climate Agreement. Military power can only be used as a last resort, for clear and achievable political ends, and when there is a workable plan for post-military development. That was not the case in Iraq. Look at the price.

I know that many people think my policies have failed in the Middle East, particularly in Syria, and that President Putin has filled the vacuum. My priority was to avoid overreach in the use of American power, adjust our ambitions to the realities of the world and devote resources to neglected domestic priorities including infrastructure, inequality and health care.

In 2016, we have no business building other nations. It is for them to decide their fates. As a result, I have asked a lot of questions, so many that I hear that Bob Blackwill, a senior fellow at the Council on Foreign Relations, calls me “the king of the slippery-slope school of foreign policy.”

I’ll take that moniker, if the alternative is to embrace feel-good posturing and drift into another intractable war in which young Americans die for murky causes in the indifferent sands of the Middle East.

Should I have backed the pro-democracy uprising of young Iranians in 2009 against the regime, and might American support have tipped the balance? Should I have done more to ensure the fragile Egyptian experiment in democracy did not fail by pressing former President Mohamed Morsi to restrain his divisive Muslim Brotherhood agenda? Should I have called the coup that ousted him a “coup”?

Should I have armed the rebels in Syria, or established a no-fly zone once President Bashar al-Assad began murdering his citizens en masse, or set up a safe area to protect desperate refugees as a gage of our determination? Should I have upheld through one-off punitive military strikes against Assad the “red line” I set against the use of chemical weapons and so demonstrated to the Saudis and other Sunni gulf states that I was not, as they believe, in the pocket of the Shia world? In short, should I have kept my word and taken more risks to save Syria, oust Assad and stop Putin dictating the outcome?

Perhaps. I know members of my foreign policy team have agonized over Syria and its quarter-million dead. One or two may have been close to resigning. The refugee flow into Europe destabilizes allies. But I do not lose sleep. This job is about tough choices. Restraint was the wiser option for a chastened America unready to pass the mantle but condemned now to share it.

I have built new bridges — to Iran, to Cuba. We are working with China to advance Afghan-Pakistani dialogue and bring peace in Afghanistan. Tough love for Israel, more conditional friendships with Saudi Arabia and other Arab autocracies and a gradual reduction in the isolation of Iran are, in my view, the only path over time to a new, stable order in a Middle East where our strategic priorities have changed with energy independence.

That’s about it. You see now why I chose the implicit approach. I hope you will understand the wisdom of my restraint. Perhaps you will even become nostalgic for it. The pendulum swings — and American adventurism may well make a comeback with my successor.

Follow The New York Times Opinion section on Facebook and Twitter, and sign up for the Opinion Today newsletter.

Cameron’s Cunning Plan for Bombing ISIS in Syria

My Thoughts: Now that Thanksgiving Day has passed, and Black Friday is upon us, it’s time to come back to earth. BTW, I hope you had a great Thanksgiving with family and friends; let’s do it again next year.

The subtitle of this article, which comes from The Financial Times, reads as follows: The questions over extending air raids answered in 43 key points. I’ve added a couple of edits since most of them apply to the US as well as Great Britain.

November 26, 2015 by Robert Shrimsley

David Cameron has announced his intention to seek parliamentary approval for Britain to join the international forces bombing Isis strongholds in Syria. Assuming the prime minister wins that vote, raids will start in the next few weeks.

He has wanted to do this for some time and feels the Paris attacks have turned public opinion and parliamentary arithmetic in his favour.
Here, then, are the key things you need to know about UK intervention in Syria.

1. British contributions to the air campaign against the Islamist militants will make absolutely no difference at all.
2. No, really, none.
3. You know all those bombs already being dropped on Isis? Well, now there will be a few more.
4. But not that many more.
5. And many of those that will be dropped on Isis in Syria would have been dropped on Isis in Iraq instead.
6. What do you think we are — made of bombs?
7. But even though it will make no difference, we are going to do this anyway because Britain ( also the US ) is not a country that stands on the sidelines.
8. It is important to stress that, before the decision to bomb Syria, there was absolutely no plan on how to defeat Isis.
9. And there still isn’t.
10. But something must be done.
11. And this is that something.
12. These people are really evil.
13. I mean super-evil. Horrible.
14. So we are all going to feel a lot better about ourselves because now we are going to be in there socking it to them as well.
15. I cannot say this will beat them but I can say it will degrade them, which sounds like something.
16. We are doing this to make Britain ( also the US ) safer from the threat of Isis.
17. Even though we cannot offer a single reason whatsoever to believe it will achieve that goal.
18. Some will say that Britain ( also the US ) may make itself more of a target for Isis terror attacks.
19. But we are a target already so whatever is going to happen was going to happen anyway and doesn’t it feel better to know we’ve landed a few punches in advance?
20. We do realize that air strikes alone cannot defeat Isis.
21. But that’s all we’ve got at the moment.

France has been courting US and Russian support for a war on Isis in the wake of the Paris terror attacks. But while Russia and Turkey, a Nato member, claim to be fighting the same foe, they themselves saw armed combat this week when Turkey shot down a Russian jet on its border with Syria. Mark Vandevelde asks Gideon Rachman and Geoff Dyer whether world powers are capable of making common cause against Isis.

22. We know that these attacks have to be part of a clear and coherent strategy for isolating and defeating Isis. But we do not have the luxury of waiting for one to emerge.
23. So any ideas on a postcard please.
24. Our military strategists make clear that there can be no ultimate victory over those foul butchers in Isis without “boots on the ground”.
25. But none of those boots are going to be ours.
26. We think that stuff is best left to the military forces in Iraq and Syria that have been doing such a bang-up job fighting Isis up till now.
27. We do recognize that ultimately only a negotiated political settlement can create the conditions in which Isis can be permanently defeated.
28. That’s why we are negotiating with other countries to try to work out what that settlement should be.
29. We’re not quite there yet.
30. In the meantime, bombs away.
31. We are absolutely clear that the long-term political settlement for Syria does not include Bashar al-Assad.
32. Which is a bit of a pity because Russia and Iran are clear that it does.
33. Syria’s future must lie with the moderate anti-Assad opposition.
34. The ones that Russia has been bombing.
35. We are doing this because Britain ( also the US ) is not a country that stands on the sidelines in the face of evil.
36. We step up to the plate and play our part.
37. Like we did in Libya.
38. Which worked out well.
39. We recognize that there are people in this country with doubts about the wisdom of this action.
40. But, since those doubts are going to be articulated by Labour’s Jeremy Corbyn, ( Bernie Sanders? ) we are not too worried about that.
41. We further recognize that stepping up bombing raids could increase the number of refugees fleeing Syria.
42. But they’re not coming here.
43. Because this regional problem requires a regional solution.

Very Strong Jobs Numbers Underpinned By Wages

Bruegel-village-sceneMy Comments: Politicians of all stripes consider employment numbers relevant, and well they should. Right now we have the lowest unemployment numbers in this country that we’ve seen for a long time. And it’s all because of that idiot in the White House.

This came from a group called Bespoke Investment Group, a name I am not familiar with. Also, there are several charts that I’ve chosen not to replicate here. But if you want to see them, here’s the URL where I found this article: http://seekingalpha.com/article/3662136-very-strong-jobs-numbers-underpinned-by-wages?ifp=0

Nov. 8, 2015

Friday’s Employment Situation Report delivered an extremely strong Nonfarm Payrolls print (+271,000 vs +185,000 expected and 142,000 previous, revised down to +135,000). While that headline number is extremely strong, the “guts” of the report were even stronger. Unemployment fell to 5.0%, the U6 measure of broader unemployment came in at 9.8% versus 9.9% expected and 10.0% previous, and the labor force participation rate held steady.

But the real story, in our view, was wages, which were boosted in part by a recovery from an extremely weak reading in September. Even still, the gains were nothing short of breathtaking. Below we show MoM annualized wage changes, along with the level for each industry.

As shown, there were broad-based wage gains across the economy in October, with Construction leading the way, up 18.2% MoM annualized. Other “low pre-requisite” industries also had steady gains, with Leisure and Hospitality printing a steady +4.82% MoM annualized level. The strength wasn’t universal (notable weakness in Manufacturing, Retail Trade, and Other Services) but overall this was a solid wage print. Looking at Construction, below we show the MoM annualized Construction Production and Nonsupervisory wage series, MoM annualized. This was the second-best print for that series in over 20 years, eclipsing one of the worst prints in years last month.

To get an idea of the broader trend in average hourly earnings, we show the YoY change in AHE for the last 10 years. Total private wages are +2.48%, while production and nonsupervisory earnings are +2.22%. The former is the best print of the recovery and a notable move above the range that had prevailed since the recovery began. Production and Nonsupervisory wages are still underperforming, but the spread between the two YoY series moved from 0.32% in July to 0.26% this month, notable progress.

Brazil Heads Closer To Total Collapse

My Comments: Many are waiting for the penny to drop indicating a new global recession and collapse of the stock markets. Is this it?

Oct. 19, 2015 by Ian Bezek

Summary

  • Brazil’s economic “Superman” may have resigned Friday, according to conflicting media reports.
  • Brazilian shares and currency fell sharply after Friday’s market close.
    His departure would bring close parallels to Argentina’s collapse in 2001.
    Investors should avoid or short sell Brazil as the country comes closer to catastrophe.
  • It’s just about over for Brazil. The signs are clearly in place that the country is in the midst of a historic implosion.
  • Brazil is following almost precisely the same script that Argentina did between 1999 and 2001. The outcome there was a 75% devaluation of the Argentine currency, the total dissolution of the government, and a black hole of losses for foreign investors.

It’s almost eerie how close these two tales are playing out. Friday brought Brazil’s “The savior throws in the towel” moment as conflicting media reports suggest the nation’s respected economic minister may have resigned. Brazil’s stocks (NYSEARCA:EWZ) and currency knifed lower in Friday’s after hours session.

First, let’s remember what happened in Argentina so we can see what’s in store for Brazil.

Up until the 1990s, Argentina’s economy was a chronic basket case, wracked by constant hyperinflation and repeated total failures of the country’s currency and budget.

All this changed in 1991, when Domingo Cavallo was appointed Minister of the Economy. He immediately and boldly pegged the Argentine currency to the dollar 1 to 1, and prevented the government from floating more currency than it had dollars in reserve.

This sharp break with the past revived the economy, which took off at lightspeed, growing more than 50% over the ensuing 8 year period. Cavallo was widely credited with saving the economy. He exited the government in 1996 following political in-fighting.

All continued well for Argentina until 1998, when various emerging market crises in Brazil, Russia and Southeast Asia started to weigh heavily. Argentina remained firm with its ironclad 1:1 peg to the dollar, newly elected president Fernando de la Rúa campaigned specifically on maintaining the peg despite mounting international instability.

During this time, the Brazilian currency devalued sharply, as did other Latin American currencies and various European monies. As such, Argentina was tied to the increasingly overvalued US dollar. Argentina had increasing difficulty competing with its peers. Brazil, in particular wa, as its leading trading partner garned a huge advantage from the currency devaluation.

By early 2001, the Argentine economy was in year 3 of a bitter recession, and questions were mounting as to whether it could service its debts. Then Argentine-President de la Rúa, after watching various economic ministers resign eventually felt compelled to ask Cavallo to be his economic minister. This was a shocking move, since Cavallo had run against de la Rúa for the presidency in 1999.

But desperate times call for desperate measures, and it was widely viewed that only Cavallo, as the economy’s “savior” had the ability to convince the IMF and foreign investors that Argentine was able to make it through the crisis.

Take this article from March 2001 in Fortune:

Argentineans are probably feeling a sense of déjà vu right now after Argentine President Fernando de la Rua’s bold and possibly threatening move of appointing Domingo Cavallo as Argentina’s economy minister for the second time in a decade.

Domingo Cavallo stepped in as Argentina’s third economy minister in the last three weeks, taking over from Ricardo Lopez Murphy, who served a controversial two weeks before resigning Monday after outraged opposition to his ambitious cost-cutting plans.

Cavallo served as economy minister in 1991 and guided the economy out of a period of hyperinflation and spiraling currency devaluation, becoming a Wall Street darling in the process. Rua’s move is being viewed by most as the return of the savior of Argentina’s economy […]

The one thing that has been lacking in Rua’s administration is political credibility. Rua was hanging by the skin of his teeth, and selecting Cavallo was an act of desperation but a good move. (emphasis added) But it wouldn’t end up being enough. Cavallo, despite being the “savior” was unable to fix Argentina’s core problems. Its currency was dramatically overvalued, further budget cuts were simply shrinking the economy and thus never closing the fiscal hole, and investor sentiment soured again after a quarter-long uptick following Cavallo’s return.

Following the September 11th attacks and increasing global economic tensions, the IMF cut Argentina loose, denying further loans. Argentina devalued the Peso 75%, the government collapsed, the capital was paralyzed by riots for months, and finally a new socialist government took over and made the country an international investing pariah – where it remains stuck even today, 13 years later.

Brazil’s Similar Trajectory

Brazil, seeing neighboring Argentina’s success in the early 1990s, tried a dollar peg to revive their economy starting in 1994. However the upturn didn’t really gain traction until 2003. Luiz Inácio Lula da Silva was elected president, and despite campaigning on a leftist platform, ended up handling the economy more moderately than expected.

His market-friendly policies, among them picking a former Bankboston CEO (now part of Bank of America) to run the central bank, drew investor interest. The country was upgraded to investment grade, commodity exports boomed catching the Chinese wave perfectly. Millions of Brazilians were lifted out of poverty and the country’s investments boomed.

After working at the ECB, Levy in 2003 was appointed Treasury Secretary by President Lula. Levy, a University of Chicago trained economist, had all the fiscal hawk credentials and orthodox economic views that make foreign investors swoon.

Under Levy’s leadership, Brazil secured the all-important investment grade credit rating and ushered in Brazil’s investment boom. Levy left the government in 2010 and went into wealth management at Bradesco (NYSE:BBD).

Fast forward to 2014 and the Brazilian economy finds itself on the ropes. The government is now headed not by the charismatic Lula but his incompetent and ever more socialist successor Rousseff.

Brazil’s economy overheated around 2007 as the Chinese boom stimulated overinvestment in Brazil. The Brazilian Real rose too sharply, making the country’s goods uncompetitive, again repeating Argentina’s sad experience.

A key sign of an investing bubble was spotted, in that Brazil’s productivity rate almost didn’t move during the boom. Unemployment fell as sharply as it did simply because the economy was so inefficient that it had to hire excess workers to complete even basic tasks.

The overstimulated economy allowed Brazilian companies to take on too much debt, much of it denominated in dollars. Once the Real went from undervalued to overvalued, the uncompetitive nature of the economy was exposed and the growth miracle suddenly went into reverse. The falling commodity market has now moved the situation from dour to dire.

In Venezuela, the dung didn’t hit the fan until the enigmatic Chavez was replaced by the thoroughly ordinary and deficient Maduro. Similarly, the Brazilian economy immediately headed south once President Lula gave way to Dilma Rousseff. The economy was already in recession by the time Rousseff felt compelled to beg for Levy, the renowned free-market austerity hawk to fix the mess.

Like with Cavallo in March 2001, another unpopular president was forced to appoint an intellectual opponent viewed by markets as a “savior” to try to head off crisis.

When Ms. Rousseff, a leftist former guerrilla who has favored a strong state hand in the economy, announced last year that a free-market “Chicago boy” would run her finance team starting Jan. 1, it was widely viewed as a shotgun marriage. But with Brazil’s economy and public accounts deteriorating fast after years of heavy government spending, the president was under pressure to change course.

Mr. Levy, whose background includes stints with the International Monetary Fund, the European Central Bank and the asset-management arm of Brazilian banking giant Bradesco, was seen as a market-friendly face to reassure investors and mollify jittery credit agencies. He had political experience as well, having earned high marks as treasury secretary under former President Luiz Inácio Lula da Silva and as a budget-cutting finance secretary in Rio de Janeiro state.

News of his appointment initially boosted markets and Brazil’s currency strengthened, a phenomenon local media dubbed the “Levy effect.” One glowing profile late last year compared the new finance minister to Superman. (emphasis added)

10 months after Caballo was appointed in March 2001, Argentina totally collapsed.

10 months after Levy was appointed last winter, Levy is now on the brink of being kicked out and the Brazilian economy is facing an Argentine-like cliff. Levy was particularly brought in to save the country’s credit rating from going to junk and reassuring nervous investors.

He failed on all counts. Brazil has been cut to junk, investors are bailing, the Real just hit all-time lows, and now the only market friendly face in an otherwise corrupt anti-capitalist and wildly unpopular government is about to leave the government.

With Rousseff taking heat from her own supporters for allowing a tax-hiking budget-cutting “Chicago boy” to handle the economy, it’s unlikely the next finance minister will be nearly as investor-friendly.

Rousseff’s own approval rating is under 10%. The country’s institutions are completely discredited following massive corruption scandals. The country’s former crown jewel, Petrobras (NYSE:PBR), is rapidly heading toward bankruptcy.

It’s hard to see many outcomes here much different from Argentina in 2001. The government called in the economic “savior” or “superman” to save the day. They failed. Then the sitting government is booted from power and the currency is devalued sharply.

Needless to say, there’s no “buy-the-dip” opportunity here. Brazil’s Debt-to-GDP ratio has mushroomed to 65%, well above the threshold that often gets emerging market nations into trouble. The economic recession is deepening with GDP shrinkage accelerating.

The country, for the first time in ages can’t even manage a primary surplus (that is, your budget before interest payments). CDS spreads are exploding. The country’s exports for hard dollars, such as iron ore are collapsing in value thanks to the global slowdown.

Even if you thought the country was about to turn, its stocks aren’t cheap. This is no Greek sale. The median Brazilian stock trades at a – considering the situation – surprisingly high 14 PE ratio.

Brazil: The Investment Takeaway

For aggressive investors, Brazil is a perfect short sale, which can be played by shorting the Real, shorting individual stocks heading lower such as Petrobras or Vale (NYSE:VALE). I’m personally heavily short the country’s main ETF, EWZ.

A more sophisticated investor might try shorting Banco Santander Brasil (NYSE:BSBR) and buying the parent Santander (NYSE:SAN) since they’re both down around 40% over the past year and may diverge at some point.
For investors wanting to buy the dip in Latin America, Brazil is simply the wrong country. Better alternatives include Peru (NYSEARCA:EPU) with its 20% Debt/GDP rating and moderately growing economy. Mexico (NYSEARCA:EWW), also investment grade, is more insulated from regional troubles as its economy becomes ever-more tied to exporting goods to the US rather than South America in the post-NAFTA world.

For the closest Brazilian proxy, try Colombia (NYSEARCA:GXG) which remains the region’s fastest growing major economy. Despite being investment grade, having a market-friendly government, and continuing to grow GDP at more than 3% a year, investors have lumped Colombia into the same boat as Brazil pricing both commodity-exporting nations similarly.

Colombia does face, like Brazil, a massive slump in its exports and its currency has sharply devalued. Unlike Brazil, it remains comfortably in investment grade territory with a much more reasonable 40% Debt/GDP reading.

The economy is largely insular and never overly relied, like Brazil, on FDI to boom in the first place. And Colombia just announced a long-awaited peace deal with the FARC terrorists that (finally!) takes geopolitical risk off the country’s table.

Both Colombia and Brazil are down 47% over the past 12 months in dollar terms. The single largest position in my portfolio is long Colombia and short Brazil and I fully expect this will be my home run investment of 2016.
The possible resignation of Brazil’s economic “superman” will usher in the next chaotic break lower in Brazilian equities as the grand finale – a fiery bankruptcy/devaluation/government collapse – looms larger and larger.