Wednesday, November 26, 2008

Can the US Do An IMF On Itself?

In previous years and decades whenever a third world country would get into financial difficulty it would turn to the IMF for a bailout. Because of the way the global financial system was structured in the post-Bretton Woods era (World Bank, IMF, WTO, etc.), the US was always in the forefront of such efforts. The bailout examples are numerous and well known: Latin America, Mexico, Asia, Russia. By and large the process worked pretty well, based on the premise that in an interconnected world if your neighbor's house is on fire you don't haggle about the garden hose.

Let's explore this fire simile a bit further.

Picture the US as the Global Fire Department (GFD). In the last ten years or so the GFD became extremely irresponsible. It ignored the fire safety of its own firehouse, which became choked with highly flammable material (i.e. debt and derivatives), and relaxed the rules about the health and fitness of its firemen (i.e. oversight and regulation were weakened).

Seeing this, the good citizens in the neighborhood (i.e. other western nations) also adopted the same attitude. And why not? If the fire department itself didn't care about all that dead wood and turpentine piling up in its own back yard, why should they? A whole raft of nations from the UK and Australia, to Bulgaria, Poland, Iceland and Romania bought the same highly flammable "growth" model. Borrow - spend - inflate assets - borrow.

It was only a matter of time until a fire started somewhere. Unfortunately, it started in the worst possible place: the GFD firehouse itself. Predictably, the unfit firemen could not contain it and the fire quickly spread to the rest of the town. So, who's going to put it out now and how?

The current plan is to take all that dry firewood and turpentine and stow it someplace else: to replace and guarantee private debt, plus issue additional government debt. But with the entire town now threatened by the blaze, that's just a delaying tactic. What we need is less wood and less turpentine, plus more, better and smarter firemen. And even that's not enough. The entire town should get together to fight this fire before it scorches everything in its path.

Previous IMF bailouts transferred some of the risk from, say, Mexico or Argentina to the IMF (essentially, the US) by providing fresh loans and guarantees. By current standards, the sums involved were tiny: $20-50 billion.

But the US cannot perform a similar IMF bailout on itself, as it is currently attempting to do. The United States IS the IMF. Astronomical guarantees and bad-asset purchases merely transfer and spread out the problem internally, instead of solving it. There is simply way too much debt; too much dead wood, too much turpentine and, naturally, no one else wants it in his back yard. Just think of China, Japan, the Gulf States or Russia and how much US debt they have already piled up. How much more "firehouse debt" are they willing to accept, particularly when the flames are already licking their own houses?

What we need right now is water: a.k.a. debt liquidation. And the longer we fail to recognise this simple fact, the longer we fail to provide it, the worst it's going to get later on.

Can Old Dogs Learn New Tricks?

President-elect Obama is currently hiring firemen, his economic policy team; and it doesn't look good. They are the exact same bunch that let the firehouse get full of tinder in the past, if they didn't necessarily also strike the match. I sincerely hope they can teach new tricks to old dogs - but does Larry (Summers) look trainable to you? Woof.

Final thought (and Happy Thanksgiving to all): Turkeys destined to become roasters think they live in gobble heaven, right up to the point they turn into Butterballs. We got to change the way we look at things folks, and the past isn't necessarily the best guide to the future.

Tuesday, November 25, 2008

How Many Trillions?

How many trillions does it take to save a financial system? Sounds like a bad joke involving ethnic electricians and light bulbs. In many ways, it is.

According to a Bloomberg story, the total amount pledged so far by the Fed alone is a staggering $7.4 trillion. Readers are encouraged to perform for themselves the appropriate arithmetic calculations and come up with GDP, dollars per person and other appropriate ratios for what this unfathomable number really means outside the virtual world of finance. (Actually, let me save you the trouble: it means nothing. It's just money.)

But how about some alternative uses for this capital. What would $7.4 trillion buy?
  • Fully pay for 2,000,0000 wind turbines (3 MW each). Better yet..
  • Provide a 40% subsidy for 5,000,000 wind turbine. Even better...
  • Provide government loan guarantees for an almost unlimited number of wind turbines.
I'm focusing on wind turbines because they provide the closest cost/benefit to conventional power generated by coal-fired generating stations. And that's before any environmental benefits are taken into account.

Feel free to substitute your favorite program for taking our economy into the 21st century. I believe it's high time to leave behind 19th century technologies and their attendant socio-economic models - don't you?

So how many trillions does it take to save our current system? None. Think about it..

Friday, November 21, 2008

Tactical Radar Readings

Some readers have been kind enough to point out that in my older posts, going as far back as two years now, I accurately predicted the current mess. A few more have asked for a list of "Best of..." posts but I must respectfully decline for a simple reason: there's no accounting for individual tastes. What strikes me as particularly brilliant (insert very loud scoff) may seem as utter nonsense to someone else.

So, if you feel so inclined, please scroll back to the past and pick and choose as you see fit. There are lots of self-explanatory charts, so the slogging won't be as tough as it may seem at first.

[Insert: OK... if I could choose just one post as "particularly brilliant" (scoffs and guffows definitely encouraged) it would be this one The Greenback: Toward A New Monetary Policy.]

On to the future, then.

My first boss, a bear of a man called Stan, used to say: "I know about yesterday. What are you doing for me today?" He was a right old bastard, but I must grudgingly admit that he got results.

So, in no particular order, what's on my radar screen today?
  • The market "chatterboxes" are now at fully anguished scream mode. The "financial and economic crisis" is topic number one at the evening news, radio, newspaper headlines, websites, blogs - everywhere. It has definitely permeated to the daily conciousness of the legendary "average person".
  • My physical therapist called me on the phone three times this week (my daily sessions having ended a couple of months ago), to ask for advice on his holdings. He was very troubled - almost panicked. I gave him the same anodyne I always give non-pros - and silently thanked him for the contrarian signals he is providing.
  • Everywhere you turn you hear "This is the worst crisis since the Great Depression". In other words, markets are already pretty much discounting a future very similar to it. Not quite there yet, but relatively close if we judge by a single - but extremely important - indicator: oil prices have collapsed by an eye-popping $100 per barrel. Dry cargo charter rates are down by an even more astonishing 95%. And everything has happened with unprecedented speed: just 3-4 months. Hmmm...
  • Finance is essentially finished as a business model for the foreseeable future because deleveraging will go on for years. Investors should look elsewhere for returns; my choice is renewable energy and sustainable resource utilization, particularly proven technologies such as wind, organic farming and the peripheral opportunities arising from them. Sorry, no stock tips from me - you must do your own research. And be prepared for the long haul, because there won't be any instant gratification out there. Another intriguing area is genetic/molecular medicine, but I am woefully ignorant on the subject. Biology was my worst subject in school.
  • Right now - and only for the short-term (i.e. up to 6 mos.) - I'm focusing on tactical moves and not on grand strategy. Market psychology being as horrible as it is, and negativity having permeated the very lowest reaches of the popular consciousness, I am looking for a relief rally (always the contrarian, I am). Perhaps such a rally will be caused by Mr. Obama's conservative, market-pleasing choices for Treasury and State secretaries (probably Summers and Clinton respectively). Still, if there are no real, hard decisions on dealing with our global economic problems I will view such a rally as an oportunity to sell instead of buying.
And, as always, a warning: Caveat emptor/venditor. Tactical radars, analyst crystal balls, gypsy Tarot cards and such mumbo-jumbo are ALWAYS subject to interference and interpretation.

Have a nice weekend everyone.

Update: Looks like Clinton at State, Geithner (NY Fed) at Treasury and Summers at "senior" White House post, slated to succeed Bernanke at The Fed in 2010. Hey!! The Gang's all here.. and markets cheered - predictably. What are they gonna do with Bill, I wonder?

Thursday, November 20, 2008

Come Play With Me

With interest rates being slashed by central banks all over the world readers may be interested in trying their hand at MoPoS, or the Monetary Policy Simulation available at Swiss National Bank's site. Yes, you too can be Ben (or Jean-Claude, Jean-Pierre, Mervyn, or whomever catches your gaming fancy).

For your further (pictorial) inducement to attempt wonkish policy behavior in the privacy of your own parlour, here is a chart of the effective Fed Funds rate (0.38% yesterday). Sad to say it is very near the dreaded liquidity trap condition that spells "GAME OUT" in MoPoS, as it also does in real life. Just ask the Japs.

Effective Fed Funds

Have fun!

Monday, November 17, 2008

The Green Revolution Is A Class Struggle

The idea for this post came to me as I was reading Tom Friedman's important new book Hot, Flat and Crowded in which he advocates a green economy as a way out of the current financial, environmental and geopolitical crisis. He envisions a wholesale transformation of the current Dirty Fuels System into a new Green socio-economic paradigm. Let's call this The Green Revolution - a rapid and radical process of change towards an alternative system. So far, so good and I strongly agree with him.

However, he believes that technology - as yet unspecified and undiscovered - will be the sole key in accomplishing this shift by providing cheap, clean and plentiful electrical energy to sustain our current growth model. In other words, technology will find a solution so that we can keep Permagrowing. Like every other economic analyst lacking a solid grounding in science and engineering, he confuses the massive application of cheap (fossil) energy in the last century with fundamental scientific advancement. He is blindsided in believing that what we did with cars and computers we can do with energy. Sadly, he is completely wrong.

I won't go into a great explanation of why, because this blog is geared towards those with a solid understanding of the physical world. Suffice it to say that Permagrowth requires huge amounts of concentrated energy sources to produce useful work (it is work that matters, not energy) and that diffuse solar, wind and geothermal simply cannot substitute for oil, gas and coal. Please look up the Second Law of Thermodynamics if you need more background. In the words of Sir Arthur S. Eddington : " .. if your theory is found to be against the second law of thermodynamics I can give you no hope; there is nothing for it but to collapse in deepest humiliation." Technology can't "save us" because science itself simply can't (technology being the application of science).

So, I am afraid that Mr. Friedman, though well intentioned, is making a parallel mistake to Mr. Greenspan's who, having witnessed what the computer revolution did for information systems, believed that financial engineering could similarly revolutionize finance (e.g. CDS). An extremely costly mistake, to say the least.

In plain words, Green Permagrowth is simply not possible. Instead, we should aim for and work towards Green Sustainability.

OK, let's move to the more contentious "class struggle" part of the title, one that I am sure instantly evokes anti-Marxist howls of protest. After all, the term was essentially monopolized by erstwhile communists. (There are a few readers who even call me a commie. Ha! I am about as bolshie as Warren Buffett is poor). Instead, I use the term "class struggle" in the spirit of the American and French revolutions, the Civil War , or the racial and feminist movements . All were based on class struggles revolving around the evolution of a "middle" class.

Which brings me to this point: the current Sudden Debt/Permagrowth/Dirty Fuel System produces an unprecedented concentration of wealth into the hands of a tiny minority of society. In the US, a miniscule one percent of the population now owns 40% of ALL wealth, including bank deposits. The so-called "middle class" has been eviscerated, indebted and increasingly stuck in a low-pay job environment. In effect, there is no middle class: there is a 5% sliver composed of the ultra, super and comfortably rich and then there is everyone else.

So, how are we to embark on a Green Revolution, which will by necessity require the creation of a more evenly distributed energy system (remember the Second Law), if society is not similarly and more equably composed? Will the rich elite, created and concentrated by the outgoing Permagrowth system voluntarily promote this necessary transformation, or will it do so only after a "class struggle"? I don't really know, but I must observe that history points us to the latter conclusion. After all, the Industrial Revolution followed the French/American Revolutions...

To close on a musical note: from Handel's opera Rinaldo the incredibly beautiful aria Lascia ch'io pianga, performed by Sarah Brightman. The lyrics are quite apropos...

Let me weep
over my cruel fate
and sigh for freedom.

May my grief
mercifully break
those chains of anguish.

Sarah Brightman sings Lascia ch'io pianga
The Internationale it is most definitely NOT, signore Greenie! ;)

Wednesday, November 12, 2008

Facts and Figures, Whys and Means

Fact 1: There is too much debt in the economy to be properly serviced by the earned income generated. Total debt has doubled as a percentage of disposable income in the past 25 years.

Figure 1

Why did it happen? Because wages and salaries (i.e. earned income) were kept artificially low in the name of "competitiveness", while consumption was boosted through ever increasing debt.

What does it mean? Assuming even more debt and/or replacing private debt with public, as is currently happening, cannot resolve this fundamental problem. Instead, debt must be liquidated.

Fact 2: Saving has disappeared in the US. Every penny earned is consumed.

Figure 2

Why did it happen? The stagnation of real wages and salaries meant that less income could be saved and had to be consumed to maintain the American Lifestyle. In addition, way too much social emphasis was placed on consuming vs. producing.

What does it mean? The US economy cannot finance itself internally and has to rely on foreign investors and lenders. Unless reversed, this trend spells big trouble geopolitically.

Fact 3: There was wholesale removal of manufacturing from the economic base after 2000 (aka China's "miracle"). Millions of well paid jobs were replaced by service sector jobs, many in the very low-pay area of leisure and hospitality (waiters, chambermaids, etc.).

Figures 3 and 3a

Why did it happen? Because neo-liberal and neo-con policy makers made a conscious decision to replace manufacturing with its pesky labor unions and associated politically troublesome middle class, with an indentured social class of dependent service workers. All in the name of "free" markets, of course.

What does it mean? The imminent end of the US as a superpower. Supercomputers and fuel cells are not developed by a java-and-jelly donut economy. Globalization means that education, knowledge and technology are, in fact, fungible and transferable. In the absence of a local base of utilization high value-added jobs are free to go where they please.

a) Debt must be liquidated and earned income increased.
b) Saving must be increased by reducing consumption in order to fund investment (preferably in energy infrastructure) and to reverse the loss of geopolitical importance.
c) Manufacturing must be emphasized in order to regain technological leadership.

Tuesday, November 11, 2008

Yes, It's All About CDS

In an extensive article about the failure of Merrill Lynch (How the Thundering Herd Faltered and Fell), NY Times' insightful Gretchen Morgenson clearly lays the blame where this blog has, repeatedly, for two years: credit default swaps (CDS). In particular, she points out the toxicity of synthetic CDOs, bonds that were created by selling CDSs on mortgage pools and/or indexes.

Here is what I said back on March 22, 2007 (The Thirty Trillion Dollar Question):

"Do Credit Default Swaps and CDOs increase or decrease stability and systemic credit market risks?
I will state my conclusion right away:

Today's market arrangement intensifies existing trends. It pushes credit spreads lower than usual on the virtuous side of the credit cycle and will likely boost them higher when the trend turns vicious."

And how about yesterday's decision by our "trailers" to raise AIG's bailout to an astonishing $150 billion? Yes, that's all about CDSs, too. AIG was one of the world's largest underwiters of credit insurance, particularly against mortgage default risk, and the bailout is designed to prevent the CDS market from getting completely unstuck.

Now, let's ponder this: why not let the CDS market get unstuck? Why not tell all market participants that taxpayer money will not be forthcoming and that they should resolve their problems on their own? It could actually work out very well - very little "retail" money is involved in this market and in the absence of public largesse the 10-20 big players would be forced to sit down and work things out between them. Yes, there would be large losses, or actually as things stand right now, there will be reversals of very large mark-to-market gains for CDS owners. And is that a bad thing? Why should the federal government in effect guarantee the gains of speculators with scarce taxpayer money?

Because, if you haven't figured it out yet, this is exactly what is going on. The "saving the global financial system" pablum fed to the public through the media is just that: mush.

Monday, November 10, 2008

Right Here, Right Now (Mon. AM Update)

The chief of General Motors described bankruptcy as having "unimaginable consequences", asking instead that the government give it $50 billion for a bailout. The trough is not only depening, it is widening as well.

Well... why not let the company go into Chapter 11 reorganization - that's what bankruptcy usually means for corporations - and get rid of a large portion of its debt obligations? What's so terrible about it? The law is quite adequate in protecting the business as an ongoing concern, including provisions for employees and suppliers. So why not?

Yes, yes, I know... the horrible green monster of deflation. When one of the largest corporations in the world wipes out its debt in one stroke, it makes the picture pretty darn clear for everyone to see. And that's still unthinkable in the Bernankean/Pelosian "inside-the-box" universe. The "trailers" are still stuck in Luddite mode, unwilling to accept that what we need is debt liquidation and not debt preservation.

What about this alternative, instead: let GM go bust, then provide it with government loan guarantees to turn itself into the largest manufacturer of alternative energy automobiles and - why not - even wind turbines and associated machinery. Think of it as a major step in the war mobilization of industry - a war declared against environmental destruction, resource depletion and geopolitical dependency. It would also be a loud message that the United States will no longer fight Resource Wars, like the ones going on in Iraq and Afghanistan. (Note: I urge everyone to read the book by the same title by Michael Klare. It is a must in understanding what's going on in the world.)

It would also be a signal that the Age of Permagrowth is over and that the United States is now claiming the lead position in the Sustainable Era. We can do it right now, or we can wait and become followers. This is the inflection point ladies and gentlemen: Right Here, Right Now.

Monday Morning Update:

Researching wind energy companies, I came upon several news stories about the current credit crisis creating delays in financing wind farm projects. This may be understandable in the short term, but downright criminal in the medium to long term. Here is a great opportunity for those 3/4 of a trillion dollars to do some REAL good, i.e. provide loan guarantees for such proven technology projects.

Instead, our "trailers" are today rushing to provide ADDITIONAL bailout money to AIG. Hello?? Are any grey cells still functioning in there??

Thursday, November 6, 2008

The Past As Future

From our crystal ball dept. (always cloudy conditions there):

Before this so-called "crisis" is over dividend yields on the S&P 500 will be significantly higher than AAA/Treasury long bond yields. As in 2-3x higher...

Look at the historical chart below. And ponder what this (cloudy) prediction means for stockmarkets.

Enough said...

Wednesday, November 5, 2008

The Best Of America

The election of Mr. Obama as President exemplifies the best that is America: the ability to look forward and shape our future unfettered by the chains of the past.

So let's apply the same principle to formulate and put in motion:
  • A renewable energy policy that breaks our dependency on petro-dictatorships, saves the planet's environment and creates millions of highly skilled jobs.
  • A new social contract that brings the middle class to the forefront.
  • A new economic model that stresses sustainability, saving and production.
  • A foreign policy that makes us once again the beacon of hope.
Congratulations Mr. Obama. Our hopes, aspirations and dreams are with you today.

Go for it.

Tuesday, November 4, 2008

About Endorsements

In the interest of impartiality, this blog does NOT officially endorse anyone for President. Therefore, we do not support plumbers' helpers.

Don't Vote For Me

Monday, November 3, 2008

Busted In Vegas

Perhaps nothing better exemplifies the rise and fall of the virtual economy in the US like Las Vegas. The poster child for the service economy, it combines almost every sector of so-called "growth": recreation, hospitality, real estate, finance, marketing.

The party is now clearly over. After years of continuous expansion in gaming revenue and convention activity, this year is shaping up as a outright bust for America's desert kingdom.


To provide an idea of the amounts involved, gaming revenue in 2007 came to $10.9 billion and the economic impact of conventions to $8.5 billion. There were 39.2 million visitors staying a total of 44 million nights at an average room rate of $132/night.