We Can Inflate Too …
Perhaps it is a coincidence that we get these news so shortly after James Bullard forwarded his ideas as to how the ECB could most effectively join the global inflatathon. In any case, ECB board member Peter Praet – hitherto regarded as a 'hawk' – let it be known that the ECB too has a 'toolkit' at its disposal that can be 'expanded' to inflate the euro area back to economic Nirvana. What a surprise!
“The European Central Bank could expand its monetary policy toolkit if needed to respond to threats to price stability, and must ensure the euro zone economy does not enter a downward spiral, ECB Executive Board member Peter Praet said on Wednesday.
"We have an objective: price stability," Praet, who is in charge of the economics portfolio on the ECB's six-member executive board, told a conference in Washington.
"If that objective is at risk, we have the possibility … to expand the range of (monetary policy) instruments if we think it's necessary for that objective," he said.”
On the Road to Ruin
Reuters has published an extremely interesting article on Shinzo Abe, the father of so-called 'Abenomics'. His economic policy is in essence little more than a warmed-up hoary inflationism, the quack cure that governments have employed throughout history in attempts to 'fix' their economies. It always 'feels good' in the beginning, as asset prices rise and numerous economic activities are set into motion that would never be considered absent the inflationary policy. What happens in the end is best summarized in the conclusion to a speech Fritz Machlup once delivered on the consumption of capital in Austria during the interwar period:
“Austria was successful in pushing through policies which are popular all over the world. Austria has most impressive records in five lines: she increased public expenditures, she increased wages, she increased social benefits, she increased bank credits, she increased consumption. After all these achievements, she was on the verge of ruin.”
The main difference is perhaps that Japan is on the verge of ruin already, at least its government is. On the other hand, Japan also still has a lot of wealth that can be consumed and destroyed by Abe's policies. The de facto insolvency of the government is not an obstacle to additional wealth destruction, quite the contrary in fact.
Japan's current economic policy also has strong mercantilist overtones, as the devaluation of the currency is held to help its export sector. That this is to the detriment of everyone else in Japanese society as a rule remains unmentioned in the press, as it remains unmentioned that the export sector can at best hope to increase its profits temporarily, namely until prices and wages in Japan have adjusted to the devaluation. On the whole, Japan will end up poorer than it was prior to devaluation – and that is without considering the growing potential for a crisis that utterly destroys its currency and makes its outstanding stock of debt worthless.
CFNAI and Rail Traffic Growth Both Decline
Even while Bloomberg reports that there is now widespread conviction (as a result of rising stock prices no doubt) that the US economy is about to achieve 'escape velocity' – whatever that is supposed to mean – economic data continue to disappoint with unwavering regularity.
One of the fund managers interviewed by Bloomberg even went as far as asserting that 'anyone who isn't long real estate is a moron' (Bloomberg's pushing of establishment approved memes couldn't possibly be more blunt than it has recently been). However, as Ramsey always points out in these pages, it is Wall Street money that is pushing house prices up – there is very little organic demand from owner users.
The ongoing series of disappointing economic data was joined yesterday by yet another decline in the Chicago Fed's National Activity Index (CFNAI), which fell from -0.23 in March to -0.53 in April. Any readings below zero indicate economic contraction. According to the Chicago Fed's web site:
The Chicago Fed National Activity Index (CFNAI) was –0.53 in April, down from –0.23 in March.”
The CFNAI is a weighted average of 85 existing monthly indicators of national economic activity. It is constructed to have an average value of zero and a standard deviation of one. Since economic activity tends toward trend growth rate over time, a positive index reading corresponds to growth above trend and a negative index reading corresponds to growth below trend.
The 85 economic indicators that are included in the CFNAI are drawn from four broad categories of data: production and income; employment, unemployment, and hours; personal consumption and housing; and sales, orders, and inventories. Each of these data series measures some aspect of overall macroeconomic activity. The derived index provides a single, summary measure of a factor common to these national economic data.”
EU Imposes Tariffs on Chinese Solar Panels
The EU has finally decided to give in to the lobbying of an industry group that wants to get government protection against the alleged 'dumping' of goods by solar panel manufacturers in China.
Apparently no-one in Brussels deigned to ask consumers, i.e., the buyers of solar panels, if they agreed with the idea (we know what their answer would be though). Solar energy has for a long time been a money loser with a net negative energy equation that could only hope to survive by means of government subsidies. Now that prices are finally declining to a level that may make solar energy worth considering, the cries of 'dumping' go up. What the term indicates is that the bureaucracy has decided that domestic producers must be protected against allegedly 'unfair competition' from foreigners who produce and sell the same goods more cheaply. In this way, a tiny group of manufacturers is assured of higher profits on the back of the great mass of consumers. Obviously this is a self-defeating strategy. It means that society at large will be worse off. But lets move on with it anyway, and damn the torpedoes.
“The European Commission agreed to impose punitive import duties on solar panels from China in a move to guard against what it sees as dumping of cheap goods in Europe, prompting a cautious response from Beijing which called for further dialogue.
EU commissioners backed EU Trade Chief Karel De Gucht's proposal to levy the provisional duties by June 6 and make Chinese solar exports less attractive, two officials said.
Shares in German manufacturers SolarWorld, Phoenix Solar and Centrotherm rose sharply, while China's Suntech fell heavily. The investigation into accusations of dumping is the biggest the commission has launched, but Brussels is trying to tread a careful path, knowing it needs China, the EU's second largest trading partner, to help the bloc pull out from recession.
China's ambassador to the World Trade Organisation, Yi Xiaozhun, called the decision a mistake although he declined to comment on any possible retaliation. "It will send the wrong message to the world that protectionism is coming," Yi told Reuters in Geneva on Wednesday.
China's Commerce Ministry on Thursday called for dialogue. "We don't want to see a trade war between the two sides and we hope the EU can cautiously make the ruling decision on China's solar panel products," spokesman Yao Jian told reporters.
Given that Germany and France are seeking to increase exports to China, De Gucht will try for a negotiated solution with new Chinese Commerce Minister Gao Hucheng before an EU deadline in December to cement the levies for up to five years. That could mean agreeing a minimum price at which all solar panels makers selling in Europe adhere to, diplomats said. The EU duties, which will come into effect once the commission publishes the decision in its Official Journal, will be set at an average of 47 percent, officials said.
Trade specialists from all 27 EU countries will be consulted on May 15 at a meeting in Brussels and are expected to back the decision, although their position is non-binding. The European Commission declined to comment.
Chinese solar panel production quadrupled between 2009 and 2011 to more than the entire global demand. EU producers say Chinese companies have captured more than 80 percent of the European market from almost zero a few years ago, exporting 21 billion euros ($27 billion) to the European Union in 2011. As a result, Chinese-made panels are as much as 45 percent cheaper than those made in Europe, industry executives say.”
Why Not Use the Bolivar?
Shortages in Venezuela are piling up, as a result of the Glorious Revolution's imposition of price controls. It is a lesson that governments apparently need to learn over and over again since at least the time of Roman emperor Diocletian. It is not only a lesson regarding the inevitable end result of price controls – it is also a lesson on a more profound level, namely: There are economic laws, and no government, no matter how powerful, can suspend them.
What is now apparently bringing the pot to boil over in Caracas is that the country has run out of toilet paper. The government's comments on that embarrassing situation are truly hilarious. What is less funny is that as the Caracas stock index runs from record high to record high to ever more extreme levels due to the plunging value of the Bolivar, the economy of Venezuela is on the verge of a total collapse. All the hallmarks of an inflationary crack-up boom in a command economy breathing its last are in evidence (what is booming are the prices of everything the plummeting currency can still be exchanged for).
Theory of Interest and Prices in Paper Currency Part II (Mechanics)
In Part I, we looked at the concepts of nonlinearity, dynamics, multivariate, state, and contiguity. We showed that whatever the relationship may be between prices and the money supply in irredeemable paper currency, it is not a simple matter of rising money supply à rising prices.
Here is a fitting footnote for Part I. I just bought a pair of Levis jeans at Macy’s for $45. I remember buying a pair of Levis Jeans in Macy’s in 1983 for $50. In 30 years, the price of Levis Jeans has fallen by 10%. By any conventional theory based on the money supply, the price should have risen by several hundreds of dollars.
In this part, we look at some mechanics, the understanding of which is a prerequisite to the theory of interest and prices. To truly understand anything, you have to know what happens in reality step by step. This is even more important in an abstract field like monetary science. We discuss stocks vs. flows, how prices are formed in a market, a broad concept of arbitrage, spreads, and how money comes into and goes out of existence.
Let’s drill down into a point I made in passing in Part I.
It is worth noting that money does not go out of existence when one person pays another. The recipient of money in one trade could use it to pay someone else in another. Proponents of the linear QTM would have to explain why prices would rise only if the money supply increases. This is not a trivial question. Prices rise whenever a buyer takes the offer, so no particular quantity of money is necessary for a given price (or all prices) to rise to any particular level.
It is seductive to respond by way of the common analogy of “too much money, chasing too few goods”. But, is that an accurate picture of how markets work?
Money supply is a quantity of stocks. One could theoretically add up all of the gold in human inventories, or all of the dollars in the financial system, and come up with a scalar number of ounces or dollars.
How about goods supply? This is a different meaning of the word supply. Unlike in money, the supply of goods means the flows of goods. To discuss copper or wheat, one must measure how much is mined or grown every year. This would be pounds or bushels per year.
Not Even Germany Can Pull It Up – Sixth Negative Quarter in a Row
The economic news from Europe aren't getting any better, in spite of the abatement of crisis conditions in the financial markets. Once again the news were 'worse then expected', which has become standard operating procedure.
“Falling output across the bloc, from France to Finland, meant the 17-nation economy shrunk 0.2 percent in the January to March period, the EU's statistics office Eurostat said.
That was slightly worse than the 0.1 percent contraction forecast by economists polled by Reuters and highlighted the devastating impact of the euro zone's debt and banking crisis that has driven unemployment to a record 19 million people.
While Germany managed to grow 0.1 percent in the first quarter, the bloc's recession is now longer than the five quarters of contraction that followed the global financial crisis in 2008/2009 and dampens optimism of a quick recovery.
The European Central Bank's promise to buy the bonds of struggling governments has removed the threat of a euro zone break-up, but the crisis that began in Greece in 2009 has seeped across the bloc to suck in the wealthy nations such as France.”
Everything's Fine on the Other Island …
We have heard it many times before: 'Ireland is not Greece' finance minister Noonan once declaimed. He even wanted to have t-shirts printed saying 'Ireland is not Greece'. Someone put together a list of similar quotes uttered by various European luminaries that was published in the Daily Capitalist a while back:
“Spain is not Greece” – Elena Salgado, Spanish Finance minister, February 2010.
“Portugal is not Greece” – The Economist, April 2010.
“Greece is not Ireland” – George Papaconstantinou, Greek Finance minister, November 2010.
“Spain is neither Ireland nor Portugal” – Elena Salgado, Spanish Finance minister, November 2010.
“Ireland is not in ‘Greek Territory’” – Irish Finance Minister Brian Lenihan. November 2010.
“Neither Spain nor Portugal is Ireland” – Angel Gurria, Secretary-general OECD, November 2010.
“Italy is not Spain” – Ed Parker, Fitch MD, June 12, 2012
“Spain is not Uganda” – Spanish PM Mariano Rajoy, June 2012
“Uganda does not want to be Spain” – Ugandan foreign minister, June 13, 2012
Ahead of the G-7 meeting on Friday and Saturday, a Reuters article informed us that the US has issued a 'warning' to Japan not to deliberately devalue its currency. Evidently this 'warning' was meant for domestic consumption, very likely it was aimed at unions and automakers, both of which have continually complained about Japan's currency since the 1970s. Their complaints tend to become more vociferous whenever the yen is in a short term downtrend, but the reality is of course that the yen has been going up against the US dollar with nary a significant interruption since about 1950. In that sense it is quite humorous when the US warns Japan not to devalue the yen. Of course yen debasement is now the official Japanese policy – and in reality there are no differences of opinion on it so far. After all, nearly everyone is now taking part in the race to debase. Since virtually all governments continue to be mercantilistic in their outlook in spite of giving lip service to the advantages of free trade, spats about exchange rates will always be with us.
Caracas Stock Index Rises 14,263 Points in a Single Day …
The Venezuelan Bolivar has been subject to massive inflation in the 'socialist paradise' of Venezuela for many years. We reported on the most recent massive official devaluation not too long ago in a post entitled 'Boli-Splat'. At the time the 'dear leader' Hugo Chavez still clung to life in a hospital in Cuba and with a wave of his hand decided to devalue the Bolivar by 40% in one stroke.
Still, even knowing that that the country has been subject to extreme monetary and 'price' inflation for many years, we were astonished when a friend pointed out to us that the Caracas stock index had risen by 14,263 points on Friday alone. Incidentally, that was an increase of 'only' 2.08%. The index rose to a new all time high of 698,861 points.
The Bolivar's official exchange rate doesn't truly reflect the currency's massive decline. Black market rates are essentially in a different universe. Still, even the official rate illustrates a pretty stunning collapse:
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Kuroda Gets What he Wanted – Good and Hard
On Thursday afternoon, following a well-bid treasury bond auction, the Japanese yen suddenly cratered. The move continued in Asian trading overnight, and caused a number of interrelated markets to make big moves as well. Below are the yen's short term (June futures contract) and daily charts illustrating the situation. Note that the charts are in the inverse type of notation that shows how many US cents are required to buy 100 yen – usually dollar/yen is shown the other way around. We prefer this notation because 'down' means 'the yen is weakening' on this chart. This is just to avoid confusion, as in the usual notation, the yen went 'above 100', while it went 'below 100' when looked at in the manner depicted below.
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Delayed Information Leak
A few weeks ago, we published a post entitled 'Nether-Crumble', which discussed the growing economic problems faced by the Netherlands – a member of the euro area's 'core', which is widely perceived as stodgy and financially solid. Nothing could be further from the truth though, as the country is home to one of the largest household debtbergs and real estate bubbles in the world.
The fiscal discipline of its government to date is entirely meaningless in this context, as it will likely be swept away by the bursting bubble. Already a great many mortgage holders are 'underwater', as the fall in home prices has brought the value of their homes below the size of their outstanding mortgage debt. Consequently, the Dutch banking system is now an accident waiting to happen – or rather, an accident that is already happening, albeit seemingly in slow motion.
Now the mainstream press has begun to take notice as well. The Financial Times reported on the Netherlands on May 7 as follows:
“Rising personal debt and high unemployment could mean the Netherlands becomes the next casualty of the eurozone crisis, according to Premier Asset Management’s Jake Robbins.
The manager of the £9.4m Premier Global Alpha Growth fund said positive sentiment from European economists and politicians risked overlooking increasingly negative data emanating from countries such as the Netherlands and France.
Mr Robbins said: “Increasingly in the past few months we’ve seen this ‘leap of faith’ that the liquidity supplied by central banks is improving the environment. But if you look at countries like the Netherlands, economic data is deteriorating further. “Most worryingly the Netherlands reminds me of the US in 2006-07 with the amount of debt secured against property when prices are falling.”
The Netherlands is currently mired in the second of two recessions it has experienced in the past four years and its unemployment rate jumped from 7.7 per cent in February to 8.1 per cent in March, the biggest monthly increase since the turn of the century.
Earlier this year the Dutch government was forced to pump €3.7bn (£3.1bn) into the country’s fourth-largest lender, SNS Reaal, after the bank sustained heavy losses from property assets. The country’s coalition government is also trying to force through stringent austerity measures to cut public spending.
In spite of this the Dutch stockmarket, the AEX index, has risen 4.7 per cent in six months. The Eurostoxx 50 index gained 7 per cent in that period.
“It is very difficult to understand why even the head of the European Central Bank [Mario Draghi] is being so positive when there is no data to support it – there is just hope, and that is not a great investment tool,” Mr Robbins said.”
Land of Pyramids Going Downhill
We held that Mubarak surely deserved his fate, but it was always a big question what would come after him. When last we wrote about Egypt, we remarked that it had gone from 'spring to winter in one go'. The new head of government is only loosely differentiated from the old one, and the entire apparatus of repression has simply been assimilated on an 'as is' basis.
It turns out that the country is in the meantime suffering from a vast increase in internal instability, as vigilantes and criminals battle it out. Guns have become big business, while the formal economy is spiraling down the drain ever faster.
A symptom of the malaise is the performance of the country's currency, the pound, which has crashed this year as foreign exchange reserves have dwindled by 60%.
Looking for Dollars
Argentina famously employs 'dollar-sniffing' dogs at its borders to keep its citizens from getting their savings out of the hands of the domestic kleptocracy to a safe haven. After years of soaring inflation, the black market rate of the peso has fallen to about half the official rate. As a result, rumors of an imminent devaluation are growing more pronounced of late.
In a new gambit to get hold of more foreign exchange, Argentina's government is offering people who bring undeclared dollars home an amnesty. This is almost like saying: 'please bring the stuff back for us to steal'. It probably won't work.
Deficit Spending Is Not So Bad After All
Carmen Reinhart and Kenneth Rogoff are apparently eager to repair their dented reputation with the economic mainstream. After having to endure and fend off an attack of Keynesian deficit spenders (see e.g. Henry Blodget crowing about how allegedly the 'economic argument is now over' and 'Krugman has won'), the pair is now trying to get back into the good graces of the ever ubiquitous supporters of statism by noting that there are many ways to skin the cat. The cat to be skinned, in case you were wondering, is you dear reader - this is to say, all of us.
In an editorial in the FT entitled “Austerity is not the only answer to a debt problem” (aha!), they inform us:
“To be clear, no one should be arguing to stabilise debt, much less bring it down, until growth is more solidly entrenched – if there remains a choice, that is. Faced with, at best, haphazard access to international capital markets and high borrowing costs, periphery countries in Europe face more limited alternatives.
Nevertheless, given current debt levels, enhanced stimulus should only be taken selectively and with due caution. A higher borrowing trajectory is warranted, given weak demand and low interest rates, where governments can identify high-return infrastructure projects. Borrowing to finance productive infrastructure raises long-run potential growth, ultimately pulling debt ratios lower. We have argued this consistently since the outset of the crisis.
Ultra-Keynesians would go further and abandon any pretence of concern about longer-term debt reduction. This position has been in the rhetorical ascendancy in recent months, with new signs of weaker growth. It throws caution to the wind on debt and, to quote Star Trek, pushes governments to “go where no man has gone before”. The basic rationale is that low interest rates make borrowing a free lunch.
Unfortunately, ultra-Keynesians are too dismissive of the risk of a rise in real interest rates. No one fully understands why rates have fallen so far so fast, and therefore no one can be sure for how long their current low level will be sustained.”